CSE-305

Principles of Money-Time Relationship

Dr. Durr-e-Nayab
Email: [Link]@[Link]
 Agenda

CSE-305: Engineering Economics Dr. Durr-e-Nayab 2

 Uniform Series: Annuity

General cash flow diagram relating uniform series(ordinary annuity ) to present worth and future worth

CSE-305: Engineering Economics Dr. Durr-e-Nayab 3

 PW, FW and AW

Finding F given A:

Uniform Series Compound Amount Factor.

CSE-305: Engineering Economics Dr. Durr-e-Nayab 4

 Uniform Series: Cash Flows

CSE-305: Engineering Economics Dr. Durr-e-Nayab 5

 Uniform Series: Equal Cash Flows

0 1 2 3
N

(1 + i ) − 1N
F=A
i
F = A(1 + i ) N −1 + A(1 + i ) N − 2 + +A = A( F / A, i , N )
CSE-305: Engineering Economics Dr. Durr-e-Nayab 6
 Equal Payment Series: Compound Amount Factor
F Example:
Given: A = $5,000,
N = 5 years,
and i = 6%
A(1+i)N-2
A A A
Finding: F
Solution:
A(1+i)N-1
N
F=
0 1 2 0 1 2 N
$5,000(F/A,6%,5)
= $28,185.46

CSE-305: Engineering Economics Dr. Durr-e-Nayab 7

 Equal Payment Series: Compound Amount Factor

F =?
$5,000(1 + 0.06) = $6,312.38
4

$5,000(1 + 0.06)3 = $5,955.08

i = 6%
$5,000(1 + 0.06)2 = $5,618.00
$5,000(1 + 0.06) = $5,300.00
1 0 1 2 3 4 5

$5,000(1 + 0.06)0 = $5,000.00

$28.185.46 $5,000 $5,000 $5,000 $5,000 $5,000

CSE-305: Engineering Economics Dr. Durr-e-Nayab 8

 Equal Payment Series: Compound Amount Factor

F
i
A= F
0 1 2 3 (1 + i ) N − 1
N

A=? = F ( A / F ,i, N )
Example:
◼ Given: F = $5,000, N = 5 years, and i = 7%

◼ Find: A

◼ Solution: A = $5,000(A/F,7%,5) = $869.50

CSE-305: Engineering Economics Dr. Durr-e-Nayab 9

 Equal Payment Series: Compound Amount Factor

First deposit occurs at n = 0

F=?
i = 6%

0 1 2 3 4 5
Annuity Due
F5 = $5,000( F / A,6%,5)(1.06)
$5,000 $5,000 $5,000 $5,000 $5,000 = $29,876.59

CSE-305: Engineering Economics Dr. Durr-e-Nayab 10

 Equal Payment Series: Sinking Fund Factor
$100,000
F
Current age: 10 years old

0 1 2 3
N 0
1 2 3 4 5 6 7 8
A
A=?

Example: College Savings Plan: i = 8%

◼ Given: F = $100,000, N = 8 years, and i = 7%

◼ Solution:

A = $100,000(A/F,7%,8) = $9,746.78
CSE-305: Engineering Economics Dr. Durr-e-Nayab 11
 Uniform Series: Capital Recovery Factor

P
i (1 + i )N
A= P
1 2 3 (1 + i ) N − 1
0 N

A=? = P( A / P, i , N )
Example 2.12: Paying Off Education Loan
◼ Given: P = $21,061.82, N = 5 years, and i = 6%

◼ Find: A

◼ Solution: A = $21,061.82(A/P,6%,5) = $5,000

CSE-305: Engineering Economics Dr. Durr-e-Nayab 12

 Deferred Loan Repayment Plan
P =$21,061.82 P’ = $21,061.82(F/P, 6%, 1)
Grace period
i = 6%

0 1 2 3 4 5 6

A A A A A
i = 6%
P ' = $21, 061.82( F / P, 6%,1) 0 1 2 3 4 5 6
= $22,325.53
A = $22,325.53( A / P, 6%,5)
A’ A’ A’ A’ A’
= $5,300

CSE-305: Engineering Economics Dr. Durr-e-Nayab 13

 Uniform Series: Present Worth Factor
P=?
(1 + i ) − 1
N
P= A
1 2 3 i (1 + i ) N
0 N

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

Example 2.14: Powerball Lottery

◼ Given: A = $7.92M, N = 25 years, and i = 8%

◼ Find: P

◼ Solution: P = $7.92M(P/A,8%,25) = $84.54M

CSE-305: Engineering Economics Dr. Durr-e-Nayab 14

 Example: Early Savings Plan
?

Option 1: Early Savings Plan

0 1 2 3 4 5 6 7 8 9 10

44

$2,000 ?

Option 2: Deferred Savings Plan

0 1 2 3 4 5 6 7 8 9 10 11 12
44

CSE-305: Engineering Economics Dr. Durr-e-Nayab 15

 Option 1: Early Savings Plan

F10 = $2, 000( F / A,8%,10)

= $28,973 ?

F44 = $28,973( F / P,8%,34) Option 1: Early Savings Plan

= $396, 645 0 1 2 3 4 5 6 7 8 9 10

44

$2,000

Age 31 65

CSE-305: Engineering Economics Dr. Durr-e-Nayab 16

 Option 2: Deferred Savings Plan

F44 = $2,000( F / A,8%,34)

?

= $317,233
Option 2: Deferred Savings Plan

0 11 12
44

$2,000

CSE-305: Engineering Economics Dr. Durr-e-Nayab 17

 What interest would make these plans Equivalent?
$396,644

Option 1: Early Savings Plan

0 1 2 3 4 5 6 7 8 9 10

44

$2,000 $317,253

Option 2: Deferred Savings Plan

0 1 2 3 4 5 6 7 8 9 10 11 12
44

CSE-305: Engineering Economics Dr. Durr-e-Nayab 18

 Finding Equivalence
Option 1:

Option 2:

Option 1= Option 2

CSE-305: Engineering Economics Dr. Durr-e-Nayab 19

 Finding Present Worth
For Present Worth in uniform Series can be evaluated from Compound
Amount Factor:

Hence:

The quantity in the square brackets is known as Uniform Series Present

Worth Factor (P/A, i%, N)

CSE-305: Engineering Economics Dr. Durr-e-Nayab 20

 Present Worth: Example
If a certain machine undergoes a major overhaul, its output can be increased by
20% which translates into an extra cash flow of $20,000 at the end of each year for
5 years. If i=15% per year, how much can we afford to invest to overhaul this
machine?
Solution:
The increase in cash flow is $20,000 per year and it continues for 5
years at 15% annual interest. The upper limit on what we can
Afford to spend is:
P = $20,000 ( P/A, 15%, 5)
= $20,000 ( 3.3522 ) = $ 67,044

CSE-305: Engineering Economics Dr. Durr-e-Nayab 21

 Present Worth: Example
Suppose your rich uncle has $1,000,000 that he wishes to distribute among his
heirs at the rate of $100,000 per year. If the amount is deposited in a bank account
that earns 6% effective interest each year, how many years will it take to
completely deplete the account? How long will it take if the interest is 8%?
Solution:
For i= 6%: P = A ( P/A, i%, N)
$1,000,000 = $100,000 ( P/A, 6%, N))
N = 15.7
For i= 8%: P = A ( P/A, i%, N)
$1,000,000 = $100,000 ( P/A, 8%, N))
N=?
CSE-305: Engineering Economics Dr. Durr-e-Nayab 22
 Capital Recovery Factor

Finding A given P.

The quantity in square brackets is known as Uniform Series Capital

Recovery Factor (A/P, i%, N)

CSE-305: Engineering Economics Dr. Durr-e-Nayab 23

 Discrete Cash Flows: Equivalence Chart

CSE-305: Engineering Economics Dr. Durr-e-Nayab 24

 Discrete Cash Flows: Examples

CSE-305: Engineering Economics Dr. Durr-e-Nayab 25

 Discrete Cash Flows: Examples

CSE-305: Engineering Economics Dr. Durr-e-Nayab 26

 Summary

Introduction to Engineering Economics?

Engineering Economic Decisions
Engineering Projects & Decisions
Role of Engineers in Engineering Economics
Fundamental Principles of Economics
Time Value of Money
Cost Estimation
Summary

CSE-5607: Engineering Economics Dr. Durr-e-Nayab 27