ABSTRACT
The accounting rate of return (ARR) is not only a central feature of any basic text on financial statement analysis but also figures commonly in the evaluation by investment analysts of the financial performance of firms. Not withstanding the prominence given to this financial ratio, many writers have warned that the ARR lacks economic significance and can be a very misleading measure of profitability. The focus is on valuation, not profitability, and a general accounting-based discounted cash flows (DCF) formula that assumes only that accounting policies are based on the comprehensive income concept is derived. The extant accounting system is taken as given and the main concern is on how to value a project over a limited time slice using accounting data. Without loss of generality, the model is simplified by replacing the variable, single-period ARRs with a constant. Then a constant-growth assumption is made and several other special cases are also discussed.
