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The criterion used to select an Cash outflows are all types of costs,
alternative in engineering economy including disbursements, expenses,
for a specific set of estimates is called deposits into retirement or savings
a measure of worth. accounts, loan repayments, and
taxes caused by projects and
All these measures of worth account business activity.
for the fact that money makes money
over time. This is the concept of the All of these are point estimates, that
time value of money. The time value is, single-value estimates for cash
of money explains the change in the flow elements of an alternative,
amount of money over time for except for the last revenue and cost
funds that are owned (invested) or estimates listed above.
owed (borrowed). This is the most
important concept in engineering The end-of-period convention
economy means that all cash inflows and all
cash outflows are assumed to take
Interest paid on borrowed funds (a place at the end of the interest
loan) is determined using the original period in which they actually occur.
amount, also called the principal, When several inflows and outflows
Interest = amount owed now – principal occur within the same period, the net
cash flow is assumed to occur at the
When interest paid over a specific end of the period.
time unit is expressed as a
percentage of the principal, the
result is called the interest rate. The
time unit of the rate is called the
interest period
The cash flow diagram is a very List three evaluation criteria besides
important tool in an economic the economic ones for selecting the
analysis, especially when the cash best automobile to purchase. (The
flow series is complex. It is a color I like, best fuel rating, roomiest,
graphical representation of cash safest, most stylish, fastest, etc.)
flows drawn on the y axis with a time
scale on the x axis. Identify at least five areas of personal
finances in which engineering
Economic equivalence is a economic analysis can be used by you
fundamental concept upon which in the future. (Examples are: house
engineering economy computations purchase; car purchase, credit card
are based; a combination of interest (which ones to use); personal loans
rate and time value of money to (and their rate of interest and
determine the different amounts of repayment schedule); investment
money at different points in time decisions of all types; when to sell a
that are equal in economic value. house or car.)
The opportunity cost is the rate of That is, the present worth P must
return of a forgone opportunity always be located one period prior to
caused by the inability to pursue a the first A.
project. Numerically, it is the largest
rate of return of all the projects not An arithmetic gradient series is a
accepted (forgone) due to the lack of cash flow series that either increases
capital funds or other resources or decreases by a constant amount
each period. The amount of change
Identify at least three noneconomic is called the gradient.
attributes that may be used as
evaluation criteria in the decision G = constant arithmetic change in
making process. (Morale, goodwill, cash flows from one time period to
dependability, acceptance, the next; G may be positive or
friendship, convenience, aesthetics, negative.
etc.)
The total present worth PT for a
Define the term measure of worth. series that includes a base amount A
Identify three different commonly- and conventional arithmetic
applied measures. (Measure of gradient must consider the present
worth is a criterion used to select the worth of both the uniform series
economically best alternative. Some defined by A and the arithmetic
measures are present worth, rate of gradient series.
return, payback period, benefit/cost
ratio.)
The corresponding equivalent adjusted to take inflation into
annual worth AT is the sum of the account. This is the interest rate we
base amount series annual worth AA hear every day. It is a combination of
and gradient series annual worth AG the real interest rate i and the
inflation rate f, and, therefore, it
A geometric gradient series is a cash changes as the inflation rate changes.
flow series that either increases or It is also known as the inflated
decreases by a constant percentage interest rate.
each period. The uniform change is
called the rate of change. Inflation rate f. As described above,
this is a measure of the rate of
Capitalized Cost (CC) is the present change in the value of the currency.
worth of a project that has a very
long life (more than, say, 35 or 40
years) or when the planning horizon
is considered very long or infinite.
Inflation-adjusted or market
interest rate if . As its name implies,
this is the interest rate that has been