ENGINEERING ECONOMY
BY
Engr. Hiba Arshad
Lecture 4 (Part-I)
EQUIVALENCE OF GRADIENT CASH
FLOWS
Nominal Interest Formulas Relating a
Uniform Gradient of Cash Flows to Its
Annual and Present Equivalents
Some problems involve receipts or expenses that are
projected to increase or decrease by a uniform amount
each period, thus constituting an arithmetic sequence of
cash flows. For example, because of leasing a certain type
of equipment, maintenance and repair savings relative to
purchasing the equipment may increase by a roughly
constant amount each period. This situation can be
modeled with a uniform gradient.
Figure (on next slide) depicts a cash flow diagram of a
sequence of end of period cash flows increasing by a
constant amount, G, in each period. The G is known as
the Uniform Gradient Amount. Note that the timing of
cash flows on which the derived formulas is constant.
…Cont…
Nominal Interest Formulas Relating a
Uniform Gradient of Cash Flows to Its
Annual and Present Equivalents
Notice that the first cash flow occurs at the end of
period two.
(N – 1)G
i = Effective interest
Rate per Period (N – 2)G
(N – 3) G
3G
Cash Flow Diagram for a
Uniform Gradient Increasing by
G Dollars per Period
2G
1 2 3 4 N–2 N–1 N
End of Period
…Cont…
Nominal Interest Formulas Relating a
Uniform Gradient of Cash Flows to Its
Annual and Present Equivalents
Finding A When Given G:
Finding P When Given G
Finding F When Given G
…Cont…
Nominal Interest Formulas Relating a
Uniform Gradient of Cash Flows to Its
Annual and Present Equivalents
EXAMPLE-1
As an example of the straightforward use of the gradient conversion
factors, suppose that certain end-of-year cash flows are expected to
be $1,000 for the second year, $2000 for the third year, and $3,000
for the fourth year, and that if interest is 15% per year. Find
(a)present equivalent value at the beginning of the first year, and
(b)uniform annual equivalent value at the end of each of the four
years.
Solution
G= $1,000 and N =4, i=15%
The present equivalent can be calculated as
P0 = G (P/G, 15%, 4) = $1,000 (3.79) = $ 3,790
The annual equivalent can be calculated from
P0 = G (A/G, 15%, 4) = $1,000 (1.3263) = $ 1,326.30
Once value of P0 is known, the value of A can also be calculated as;
A= P0 (A/P, 15%, 4) = $3,790 (0.3503) = $ 1,326.30
…Cont…
Nominal Interest Formulas Relating a
Uniform Gradient of Cash Flows to Its
Annual and Present Equivalents
EXAMPLE-2
A Highway department expects the cost of maintenance for a
piece of construction equipment to be $5000 in year 1, to be
$5500 in year 2 and to increase annually by $500 through year 10.
At an interest rate 10% per year. Find
(a) present worth of 10 years of maintenance costs.
(b) uniform annual equivalent value at the end of each years
…Cont…
Nominal Interest Formulas Relating a
Uniform Gradient of Cash Flows to Its
Annual and Present Equivalents
EXAMPLE-2
A person has cash flows that are timed in exact reverse of the
situation depicted in Example 1. The following sequence of cash
flows.
P0T = ̶ P0A + P0G End of Year Cash Flows
= ̶ A(P/A, 15%, 4) + G(P/G, 5%, 4) (S)
= ̶ $8,000 (2.8550) + $1,000 (3.79) 1 -8,000
2 -7,000
= ̶ $22,840 + $3,790 = ̶ $19,050 3 -6,000
Again, the annual equivalent of the original decreasing
4 series
-5,000 of
cash flows can be calculated by the same rationale:
A = A ̶ AG
= ̶ $8,000 + $1,000 (A/G, 15%,4)
= ̶ $6,673.70
…Cont…
THANK YOU
