Professional Documents
Culture Documents
Perpetuity
Perpetuity Example
A new football stadium will replace the
current municipal stadium at an initial
cost of $250 million.
One year later, the old stadium will be
demolished at a net cost of $1.5 million.
Annual maintenance is expected to be
$900 000, and every 15 years the
skyboxes will be remodeled at a cost of
$500 000.
Find the capitalized cost if the discount
rate is 10%, compounded annually.
2
Perpetuity Example
DIAGRAM:
0
15
30
n= yrs
$900 K
$1.5 M
$500 K
$500 K
$250 M
CC1 = $250 000 000 + $1 500 000 (P|F,10%,1) = $ 251 363 650
CC2 = $900 000 + $500 000 (A|F,10%,15) =
$ 9 157 500
0.10
CCT = CC1 + CC2 = $251 363 650 + $9 157 500 = $ 260 521 150
ReviewingNPW
Two approaches to handle
differing project lives:
Common Multiple Period:
Projects are assumed to be
repeated until a common
multiple point in time is
established.
Study Period: Select a study
period for both projects
and estimate cash flows to
conform to the study
4
Equivalent
Annual Worth Analysis
Equivalent Annual Worth
(EAW) can be used to
compare projects.
Equivalent Annual Cost
(EAC) can be used instead
of EAW if revenues are not
included.
EAC = EAW
Equivalent Annual
Worth Analysis
Opportunity
cost
Example 1
The Ragweed Pollination Company needs a
new building to expand seed production.
The building will cost $600,000, last for 30
years, and is expected to sell for
$100,000. It will be built on property that
costs $200,000, which will be sold with the
building. Energy costs are projected to be
$45,000 the first year increasing by $3,000
each year after that. Needed equipment
will cost $70,000 and last 10 years with
no salvage value. It will be replaced with
identical equipment 10 and 20 years from
now. Annual maintenance is projected to
be $20,000. Determine the Equivalent
Annual Cost (EAC) for the proposed
9
expansion using a MARR of 18%
1st Costs:
Annuals:
Increases:
Replacements:
Salvage:
Lifetime:
MARR:
FIND:
200 000
Land
600 000
Building
70 000
Equipment
20 000
Maintenance
45 000
Energy
3 000/yr Energy
70 000
70 000
100 000
200 000
Land
30 yrs
18%,
cpd annually
EAC (= EAW)
10
$200 K
EAC = ?
DIAGRAM:
10
20
$100 K
n=30 yrs
$20 K
$200 K
$600 K
$45 K
G=$3 K
$70 K
EAC = A0 + AN + AI + AR + AS
$70 K
$70 K
11
Example 2
A 1000-foot tunnel must be constructed as part of
a new aqueduct system for a major city. Two
alternatives are being considered. One is to build
a full-capacity tunnel now for $400,000. The
other alternative is to build a half-capacity tunnel
now for $200,000, and then to build a second
parallel half-capacity tunnel 20 years hence for
$300,000. The cost of repair of the tunnel lining
at the end of every 10 years is estimated to be
$20,000 for the full capacity tunnel and $18,000
for each half-capacity tunnel.
20
30
40
$20 K
$20 K
$20 K
n=50 yrs
$400 K
EAWF = (A|P,6%,50)[ 400 000 20 000(P|F,6%,10) 20 000(P|F,6%,20)
20 000(P|F,6%,30) 20 000(P|F,6%,40)]
= $26 807 / yr
DIAGRAM: Half Tunnel
10
0
$200 K
$18 K
20
$18 K
30
$18 K
$18 K
40
n=50 yrs
$18 K
$18 K
$300 K
EAWH = (A|P,6%,50)[ 200 000 18 000(P|F,6%,10) (300 000 +18 000)(P|F,6%,20)
(18 000 +18 000)(P|F,6%,30) (18 000 +18 000)(P|F,6%,40)]
= $20 223 / yr
Example 3
Your in-laws paid cash for a home they
purchased 18 years ago for $100,000. They
just sold it for $100,000. They were bragging
that, neglecting such expenses as taxes,
insurance, and utilities, it did not cost them
anything to live in the house for the 18 years.
Having just completed an engineering
economics course as a part of your
engineering degree, you knew immediately
that your in-laws reasoning was incorrect.
Identify and describe the engineering
economic principle involved.
Include in your explanation what it
actually cost your in-laws each year to
own the house provided that they value
money at 6% per year compounded
annually. (Do not include changes in the
14
purchasing power of money, and continue
Effectively, you could tell your in-laws that if they had truly lived in the house
for free, they could have spent $6 000 per year on better raising your spouse
but then, again, maybe you shouldnt.
15