A Note On An Approximation to the Post Tax Rate of Return
A Note On An Approximation to the Post Tax Rate of Return
Myles M Dryden
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Jutila, "A Note on the Evaluation of the Marginal Efficisncy of Capital" » EccnoiBetrica, Vol. 30, No. 2 ( April, 1962), pp. 332-335, 5 Relationships connecting the payback period and the rate-of- return have been developed by Myron J. Gordon, See his "The Payoff Period and the Rate of Profit", Joumaljof Business, October 1955, His approach, however, rests on the assumption of n being large, "nie approach here is to consider m as sinaJJL, 5 - "ihe correspcnding expression for k is : (5) k n^(l-...T+ pTn' ) Hsnce the ratio of the pre- and post -tax rates- of -ret urn is: ^'^ ii = (l-T)Cl - T(l -pn"^) { Clearly the approximation given by equation (1) viiU hold if the second term in the square brackets is close to zero, that isj if either j, or both 3 of the factors T and (l-pn~"") are close to zero. Tr. Us the lower the tax-PcEte the better is the approximaticsi. But even if the tax-rate is large the approximation will be good if the pre-tax payback period (p) is equal to the life of the asset (n), An important point concerning the use of the approxirration k = (l-T)r in the circuiastancss described above is that it is a biased approximation, Frcsn aconcmic considerations investment projects v?hich are interesting must have p^ n.
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