Spacemonitor plc is considering investing in a machine costing €2 million for its new factory. One million euros per year of the factory’s after-tax incremental cash flow would be attributable to the capacity provided by this one machine in each of the five years of operation. The accountants will depreciate the machine at 10% per year straight line, and the expected residual value of the machine at the end of Year 5 is €1 million.

(a) What is the ARR on the investment in the machine?

(b) What is the value of its IRR?

(c) Explain the difference between these two calculated rates of return.