The average accounting return (AAR) is a financial metric that measures the average profitability of an investment over a specific period of time. It is calculated by dividing the average annual accounting profit by the initial investment.
The formula for AAR is:
AAR = Average Annual Accounting Profit / Initial Investment
The average annual accounting profit is calculated by adding up the accounting profits earned each year over the investment period and dividing by the number of years.
The AAR is typically expressed as a percentage, and can be used to evaluate the profitability of different investment opportunities or to compare the performance of investments over time.
One of the limitations of AAR is that it does not take into account the time value of money, or the fact that money invested today is worth more than money invested in the future due to inflation and the potential for earning interest or other returns. Additionally, AAR relies on accounting profits, which can be affected by accounting methods and assumptions, and may not accurately reflect the true economic profitability of an investment.