CE482

Construction
Management
Comparision of Alternatives
Present Worth Method
How do I compare and choose between
certain choices for a given situation?
Comparison of Alternatives
A replay of Time Value of Money Concept

Interest
Rate

Cash Flow Time Value

Equivalence
Diagram of Money

Nominal
Present Worth Comparisons

○ For various alternatives get the present worth or equivalent dollars NOW

○ Compare the present worth and choose the best alternative

Present worth comparisons

○ Co-termination is a requirement.

○ Cash flows are known

○ The interest rate is known

○ It does not include intangibles.

○ Also called Net Present Worth or NPV (Net Present Value) calculations
Example of PW comparison

Item Machine #A Machine #B

Initial Cost Rs. 25000 Rs. 35000
Annual Operating Cost Rs. 9000 Rs. 7000
Salvage Value Rs. 2000 Rs. 3500
Life of the machine 5 years 5 years

I have to buy a machine for excavation work. I have two options. Which
machine would you buy ? If i = 10%

What is “i” here?

Solution

Machine A

○ -PWA = 25000 + 9000X(P/A,10%,5) – 2000(P/F,10%,5) = Rs. 57877.2

Machine B

○ - PWB = 35000 + 7000(P/A,10%,5) – 3500(P/F,10%,5) = Rs. 59364

Choose Machine A
What if lives are different?

○ Which one would you buy? i = 15%

Item Machine #A Machine #B

Initial Cost Rs. 11000 Rs. 18000
Annual Operating Cost Rs. 3500 Rs. 3100
Salvage Value Rs. 1000 Rs. 2000
Life of the machine 6 years 9 years
Option 1: Least Cost Multiple of Years

○ LCM of 6 and 9 is 18 years.

○ Evaluate the PW over 18 year period

○ Machine A will be bought 3 times

○ Machine B will be bought 2 times

○ Find PWs and compare.

Option 1: LCM method – Machine A

PWA = -Rs. 38,559

Option 1: LCM Method Machine B

PWB = -Rs. 41,384

Choose Machine A
Limitations

○ 18 years – same equipment?

○ Cost of replacements – will they be same as initial costs?

Option 2: Planning Horizon Method

○ Select a planning period – This depends on the organization you would be working and the long term/short
term outlook of the organization.

○ Let us say we select 5 year planning horizon

○ Assume salvage value as same.

○ Solve for PWs and compare.

Option 2: Solution

○ PWA = -Rs. 22,236

○ PWB = -Rs. 27,937

○ Choose Machine A
What would happen if
the life is infinite?
Capitalized Cost Calculations

○ What if the life of the asset is very very large (infinite)? What is its present worth?

○ Procedure:
• Draw Cash flow diagrams for at-least 2 cycles
• Calculate PW of non-recurring expenditures
• For each cycle of recurring expenditures, find A and add this to other uniform amounts
• Divide A by i to get the capitalized cost of the A
• Add the values derived for non-recurring expenditures and recurring expenditures
Example

○ We are trying to build a new road project. The initial cost of laying the road is Rs. 1,50,000. After 10
years, we would add 2 more lanes to the road costing Rs. 50,000. The annual operating cost of the road is
Rs. 5,000 for the first 4 years and Rs.8,000 for thereafter. In addition to this, we have to relay the road
every 13 years at a cost of Rs. 15,000. Calculate the capitalized cost of the project? (assume i = 15% per
year).
Capitalized cost

Capitalized cost of the project = Rs. 2,10,043

Comparison of capitalized costs of two alternatives

○ You have an option to build either a suspension bridge or a truss bridge across a river.

○ The suspension bridge will cost Rs. 3.08 crores with an annual inspection cost of Rs. 15,000. The deck should
be re-surfaced every 10 years at a cost of Rs. 50,000.

○ The truss bridge would cost you Rs. 2.23 crores with an annual maintenance cost of Rs. 8000. The bridge
has to be painted every 3 years at a cost of Rs. 10,000 and sand blasted every 10 years at a cost of Rs.
45,000.

○ Compare the alternatives at 6% per year.

Comparison – Suspension Bridge

○ Step 1
• P1 = Rs 3,08,00,000

○ Step 2
• Annual Maintenance Cost = A1 = Rs. 15,000
• Recurring resurfacing costs = - EUAW = 50000(A/F,6%,10) = Rs. 3794

○ Step 3
• Capitalized cost of recurring costs = Rs. 18,794 / 0.06 = Rs. 3,13,233

○ Step 4:
• Total Capitalized cost = Rs. 3,11,13,233
Comparison – Truss Bridge

○ Step 1
• P1 = Rs 2,23,00,000

○ Step 2
• Annual Maintenance Cost = A1 = Rs. 8000
• Recurring painting costs = - EUAW = 10000(A/F,6%,3) = Rs. 3141
• Recurring sandblasting costs

○ Step 3
• Capitalized cost of recurring costs = Rs. 14555 / 0.06 = Rs. 242583
• Total Capitalized cost = Rs. 2,25,42,583