Lecture 5A - Economic decisions, cashflow diagrams, interest and equivalence Flashcards
What is principal (money)
initial amount of money involved in debt or investment.
What is interest rate
Cost or price of money and is expressed in % in a period of time.
What is interest period
Period of time that determines how interest is calculated.
What is number of interest periods
Specifies the duration of the transaction.
Plan for receipts or payments:
Cash flow patters over a specified lenght of time.
Future amount of money:
The end value after the cumulative effects of interest rate over a number of interest periods
What is fixed costs
- Constant or unchanging costs
example: renting a machine has a base cost of 1000$
What are variable costs
- Depends on the level of output or activity
machine costs 100$ per unit to operate
What are marginal costs
- variable costs for one more unit
Machine costs 200$ per unit for every extra unit past x units
Average costs
Total cost (fixed + variable) divided by number of units.
What are sunk costs
- Money already spent
- past decision
- Should be disregarded in current analysis, as nothing can be done to change the costs.
Opportunity costs
Costs associated with a resource being used for an alternate task.
- ‘An opportunity cost is the benefit that is forgone by
engaging a business resource in a chosen activity instead of
engaging that same resource in a another (forgone) activity.’
Recurring costs
- Costs that reoccur at regular intervals (maintenance)
Non-recurring costs
- One of a kind costs occurring at irregular intervals.
incremental costs
- Cost differences between alternatives.
Cash costs
Require a cash transaction
Book costs
Recorded in the past but are not current transations (example asset depreciation)
Cash Flow diagram
- A CFD illustrates the size, sign and timing of individual
cash flows. - In this way, the CFD is the basis for engineering
economic analysis
What are the different types of cashflow
- First cost
- Operations and maintenance
- Salvage value
- Revenues
- Overhaul: major capital expenditure that occurs during the life of the asset
Time value of money
- Basically how money depreciates over time
Simple interest
Applied only on original sum, not applied to previous interest calculations
Compound interest
Usually the default setting.
calculated on the accumulated amount, not the original amount.
What is equivalence
Equivalence with respect to the ‘time value of money’ implies that:
– A sum of money in one time period may have the same ‘value’ to a different sum in another time period
with respect to an interest rate.
