Engineering Economics

Question 1

engineering economics

Answer 1

• a study of the desirability of making an investment
• a way of choosing among a number of proposed courses of action
  Differences between alternatives are described in terms of monetary value over a period of time (effective period)
  Any monetary unit (dollars, yen, euros) and any effective period (month, year, decade) may be used

Question 2

year-end convention

Answer 2

• the assumption that all receipts and disbursements take place at the end of the year (or other effective period) in which they occur
• greatly simplifies calculations
• doesn’t greatly reduce precision (typically, other simplifying assumptions and estimates have already been made)
• exceptions are cash flows associated with t=0 such as
• -> initial project cost
• -> trade-in allowance

Question 3

cash flow

Answer 3

the sums of money recorded as receipts or disbursements in a project’s financial records

Question 4

cash flow diagram

Answer 4

• graphical representation of cash flow

- can be drawn to help visualize and simplify problems

Question 5

conventions of cash flow diagrams

Answer 5

• horizontal axis is time, vertical axis is monetary value
• receipts are indicated by up arrows, expenses by down arrows
• arrows for same effective period are placed end to end, may be combined
• sunk costs (expenses incurred before t=0) are disregarded

Question 6

compounding period

Answer 6

either the number of periods during the life of the asset or the number of periods per calendar year

Question 7

payment period

Answer 7

use the year-end convention

Question 8

interest rate

Answer 8

• per year, i

- effective, ie (when compounded more than annually)

Question 9

present worth

Answer 9

dollar value of the asset at t=0

Question 10

future value

Answer 10

dollar value of the asset at t=n

Question 11

annuity

Answer 11

periodic payments that occur at end of each period

Question 12

present worth, P

Answer 12

present amount at t=0

Question 13

future worth, F

Answer 13

future amount at t=n that is equivalent to a present amount at t=0

Question 14

annual amount, A

Answer 14

uniform amount that repeats at the end of each year for n years

Question 15

uniform gradient amount, G

Answer 15

amount that increases by G each year, starting at the end of the second year and stopping at the end of the year, n

Question 16

time value of money

Answer 16

Funds placed in secure investment will increase with time

The amount of increase depends on the time elapsed and the interest rate that can be obtained

Question 17

discount factor

Answer 17

Formulas for converting one kind of cash flow to another are shown at right
To save time, tables of conversion factors, called discount factors, are given in the NCEES Handbook for many values of i and n

Question 18

multiplying discount factors

Answer 18

The fractional notation for discount factors allows them to be interpreted algebraically as though they were fractions of variables.

Question 19

equivalent uniform annual cost (EUAC)

Answer 19

• the annual amount of equivalent to sum of all cash flows in alternative being considered
• differs in sign from other cash flows:
• -> costs are positive
• -> receipts are negative

Question 20

capitalized cost

Answer 20

• the present worth of a project with an infinite life
• the amount of money at t=0 needed to support the project perpetually on earned interest only
• like EUAC, differs in sing from other cash flows
• -> costs are positive
• -> receipts are negative

Question 21

choosing the best proposal

Answer 21

• develop ideas and strategies for improving company’s position
• from these ideas and strategies, develop realistic, cost-effective proposals
• gather relevant information and data on proposals
• evaluate the proposals
• get approval from all concerned parties
• implement the project

Question 22

present worth analysis

Answer 22

used when alternatives

• accomplish the same things (do the same job)
• have the same lifespan

Question 23

annual cost analysis

Answer 23

• used when alternatives
• -> accomplish the same things (do the same job)
• -> have different lifespans
• also called annual return method or capital recovery method
• calculated cost is called equivalent uniform annual cost (EUAC) or equivalent annual cost (EAC)

Each alternative is assumed to be repeatedly renewed up to the duration of the longest-lived alternative
The best alternative economically is the one with the greatest annual wort h

Question 24

rate of return analysis

Answer 24

used when it is not clear what effective interest rate, i to use in economic analysis

Question 25

rate of return (ROR)

Answer 25

• effective annual rate at which investment accrues income
• equal to interest rate that would make present worth of investment equal to zero
• must exceed minimum attractive rate of return (MARR)
• also called return on investment (ROI)

Question 26

Break-even analysis

Answer 26

analysis with the goal of finding

• the point at which revenue is equal to cost, or
• the point at which two alternatives are equal

Question 27

pay-back period (PBP)

Answer 27

length of time need for cumulative net profit to equal initial investment

Question 28

benefit cost analysis

Answer 28

• often used where benefits and costs affect different groups
• B is present worth of all benefits (regardless of who benefits)
• C is present worth of all costs (regardless of who pays them)

Question 29

sensitivity

Answer 29

the degree to which an economic decision would be affected by moderate changes in estimates and forecasts

Question 30

risk

Answer 30

the chance that the return of an investment will be less than what is expected

Question 31

financial accounting

Answer 31

• financial statements
• annual reports
• other reports for those concerned with the operation of a firm

Question 32

managerial accounting

Answer 32

• data and other information needed to make rational decisions for the firm

Question 33

independent projects

Answer 33

-projects for which the selection of one does not affect the selection of others

Question 34

mutually exclusive projects

Answer 34

-projects of which one can be selected

Question 35

contingent project

Answer 35

a project that cannot go forward unless another project is approved