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113 views16 pagesEngineering Economics 390. Courtesy of Atre, Sundar V Associate Professor, Oregon State University.

May 29, 2007

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Engineering Economics 390. Courtesy of Atre, Sundar V Associate Professor, Oregon State University.

Attribution Non-Commercial (BY-NC)

113 views

11 upvote00 downvotes

Engineering Economics 390. Courtesy of Atre, Sundar V Associate Professor, Oregon State University.

Attribution Non-Commercial (BY-NC)

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Lecture 1

• Meetings:

•T, R: 11:00 – 12:20

• Instructor:

•Prof. Sundar V. Atre

•Phone: 737-8272

•E-mail: sundar.atre@oregonstate.edu

•Office Hrs: T,R 1:00 – 3:00 p.m.

• Class website:

BLACKBOARD

Central Idea

because it can earn more

money over time (earning

power).

Time value of money is

measured in terms of interest

rate.

Interest is the cost of money—

a cost to the borrower and an

earning to the lender

S.V. Atre 1

ENGR 390 Winter 2007 Section 1

Lecture 1

calculations involving the time value of

money using standard formulas and

tables.

net present worth, equivalent annual

worth, internal rate-of-return, and

benefit-cost analysis.

3. Be able to apply the principles listed in

(1) and (2) above in applications such

as economic life, replacement analysis,

benefit/cost analysis, breakeven

analysis, lease vs. buy and inflation.

4. Be able to apply depreciation and

income tax principles to the

comparison of alternatives using after

tax cash flows.

S.V. Atre 2

ENGR 390 Winter 2007 Section 1

Lecture 1

1. Prepare economic reports

following correct engineering

economy procedures.

expected on the Fundamentals

of Engineering exam.

choices.

Course Structure

• Grading: Percentage

• Weighting:

•Assignments 25%

•Exam 1 25%

•Exam 2 25%

•Final 25%

S.V. Atre 3

ENGR 390 Winter 2007 Section 1

Lecture 1

Assignment Structure

• Format for each problem:

•Find (objective)

•Given (starting values)

•Diagram (cash flow)

•Soln. (steps to solve):

•Write equation in Table Factor Form

•Insert values

•Double underline answer and units

Policies

• Assignments:

•Due at class (Thursday), all equal wt.

(%)

•No late work

• Exams:

• One 8.5” x 11” Notecard

•Closed text, etc.

• No make-up Midterms

•Add extra weight to Final

•No make-up Final

S.V. Atre 4

ENGR 390 Winter 2007 Section 1

Lecture 1

Typical Decisions

• Cost reduction

(e.g., equipment, tooling, facility

layout)

• Plant expansion

(e.g., to increase capacity, sales)

• Equipment selection

• Lease or buy decisions

• Make or buy decisions

• Equipment replacement

Manufacturing Profit

Planning Investment

Marketing

S.V. Atre 5

ENGR 390 Winter 2007 Section 1

Lecture 1

• Identify alternative uses for limited

resources

alternative:

•Screening decisions

(meets minimum acceptable?)

•Preference decisions

(Select from competing alternatives)

• Paid $100,000 for a piece of

equipment - 3 years ago

• Don’t need it now

• Option 1 – Sell it for $50,000

• Option 2 – Lease it for $15,000

for 3 years. Sell it for

$10,000 at the end of

the lease.

Note:

Leases typically pay at the beginning of a time period.

Loans typically pay at the end of a time period.

S.V. Atre 6

ENGR 390 Winter 2007 Section 1

Lecture 1

OPTION 1:

$50 k

N= 0 1 2 3 YRS

F3?

OPTION 2:

$15 k $15 k $15 k

$10 k

N= 0 1 2 3 YRS

F3?

The Question

• Under what conditions would I be

indifferent between Options 1 & 2?

• Indifferent means:

– Have the same amount of

money at same point in time.

– In this case, 3 years from now.

• Interest Rates…

– Annual

– Compounding annually

S.V. Atre 7

ENGR 390 Winter 2007 Section 1

Lecture 1

I% Option 1 Option 2

2.5% $53,844 $57,288

5.0% $57,881 $59,652

7.5% $62,115 $62,094

10% $66,550 $64,615

At what interest rate, am I indifferent

between the two options?

• At an interest rate just a little less than 7.5%

Questions?

• What about the $100,000?

•The $100 K is irrelevant - it is a sunk cost, and makes no

difference in the decision at this point in time.

•We need to know under which conditions we would be

economically indifferent - we have the same amount of

money at the same time - and then if the conditions are

better for one option, we will select that option.

•Since we need to account for the time value of money - we

need to know the interest rate and the compounding period.

S.V. Atre 8

ENGR 390 Winter 2007 Section 1

Lecture 1

Option 1

50,000 now

i = 10% compounded annually

F2 = 55,000 + 55,000 (.10)

= 50,000 (1 + .10)2 = 60,500

F3 = 60,500 + 60,500 (.10)

= 50,000 (1 + .10)3 = 66,550

Generalizing …

P = Present value beginning

of first period.

FN = Future value at end of N

periods in the future.

i = interest rate

FN = P (1 + i)N

= P (F/P,i,N)

(F/P,i,N) = (1+i)N

S.V. Atre 9

ENGR 390 Winter 2007 Section 1

Lecture 1

Solve ECON Problems

( F | P, i, N) Î Find F Given P

( P | F, i, N) Î Find P Given F

( F | A, i, N) Î Find F Given A

( A | F, i, N) Î Find A Given F

( P | A, i, N) Î Find P Given A

( A | P, i, N) Î Find A Given P

( P | G, i, N) Î Find P Given G

( A | G, i, N) Î Find A Given G

( F | G, i, N) Î Find F Given G

Tables…

S.V. Atre 10

ENGR 390 Winter 2007 Section 1

Lecture 1

Tables…

P is the present value at Time 0

F is the future value at Time N

(N periods in the future)

i is the effective interest rate

F?

0 1 2 3 N

F = P(F/P,i,N)

S.V. Atre 11

ENGR 390 Winter 2007 Section 1

Lecture 1

Tables…

i=

F3 = 50

50,000(F|P,i,N)

000(F|P,i,N) = 50

50,000(F|P,10%,3)

000(F|P,10%,3) = 50

50,000(1.3310)

000(1.3310) = $66,550

P is the present value at Time 0

F is the future value at Time N

(N periods in the future)

i is the effective interest rate for each period

0 1 2 3 N

P?

P = F(P/F,i,N)

S.V. Atre 12

ENGR 390 Winter 2007 Section 1

Lecture 1

A is the equal annual value over the time period

(time period: Time 0 to Time N, 1st flow at Time 1)

F is the future value at Time N

(N periods in the future)

i is the effective interest rate for each period

F?

0 1 2 3 N

F = A(F/A,i,N)

A is the equal annual value over the time period

(time period: Time 0 to Time N, 1st flow at Time 1)

F is the future value at Time N

(N periods in the future)

i is the effective interest rate for each period

0 1 2 3 N

A?

A = F(A/F,i,N)

S.V. Atre 13

ENGR 390 Winter 2007 Section 1

Lecture 1

A is an equal annual flow over the time period

(time period: Time 0 to Time N, 1st flow at Time 1)

P is the present value at Time 0

(N periods in the past)

i is the effective interest rate for each period

P?

0 1 2 3 N

P = A(P/A,i,N)

A is the equivalent annual flow over the time period

(time period: Time 0 to Time N, 1st flow at Time 1)

P is the present value at Time 0

(N periods in the past)

i is the effective interest rate for each period

0 1 2 3 N

A?

A = P(A/P,i,N)

S.V. Atre 14

ENGR 390 Winter 2007 Section 1

Lecture 1

(Linear)

G is the linear gradient over the time period

(time period: Time 0 to Time N, 1st flow at Time 2)

P is the present value of the flow at Time 0

(N periods in the past)

i is the effective interest rate for each period

P?

0 1 2 3 N

P = G(P/G,i,N)

(Linear)

G is the linear gradient over the time period

(time period: Time 0 to Time N, 1st flow at Time 2)

F is the future value of the flow at Time N

(N periods in the future)

i is the effective interest rate for each period

F?

0 1 2 3 N

F = G(F/G,i,N)

S.V. Atre 15

ENGR 390 Winter 2007 Section 1

Lecture 1

(Linear)

G is the linear gradient over the time period

(time period: Time 0 to Time N, 1st flow at Time 2)

A is the annual equivalent of the gradient flow

(annual flow starts at Time 1, goes through Time N)

i is the effective interest rate for each period

A?

0 1 2 3 N

A = G(A/G,i,N)

Solve ECON Problems

( F | P, i, N) Î Find F Given P

( P | F, i, N) Î Find P Given F

( F | A, i, N) Î Find F Given A

( A | F, i, N) Î Find A Given F

( P | A, i, N) Î Find P Given A

( A | P, i, N) Î Find A Given P

( P | G, i, N) Î Find P Given G

( A | G, i, N) Î Find A Given G

( F | G, i, N) Î Find F Given G

S.V. Atre 16

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