ENGINEERING ECONOMICS

LECTURE 1

DISCOUNT FACTORS AND EQUIVALENCE

Time Value of Money (TVM): ‫القيمة الزمنية للنقود‬
The change in the amount of money over a given time period is called
the " time value of money " . When we invest money today , we expect
to have more money in the future . If a company borrows money today
, by tomorrow more than the original loan principal will be owed .
:‫القيمة الزمنية للنقود‬
. ‫تعرف القيمة الزمنية للنقود على إنها التغير في كمية مبلغ مالي خالل فترة زمنية محددة‬

Interest Rate , Rate Of Return , and MARR (I) :

Interest is the appearance of the time value of money , and it essentially
represents " rent " paid for use of the money .
Computationally , interest is the difference between an ending amount
of money and the beginning amount .

: ‫ ومعدل العائد‬، ‫معدل الفائدة‬

‫الفائدة هي الفرق بين المبلغ النهائي والمبلغ االبتدائي الستعمال النقود خالل فترة زمنية ( مظهر القيمة‬
.)‫الزمنية للنقود‬
 Interest calculation:
When interest is expressed as percentage of the original amount per unit time,
the result is an (interest rate)
interest accured per unit time x 100%
Percent interest rate = Original amount

The most common time period used for expressing interest rate is one year
(interest period)
EX: the GMG company invested 100,000 on June and withdrew a total of 106000 exactly one
year later.

(A)compute the interest gained from the original.

(B) compute the interest rate.
Interest 106000 - 100000 = 6000

6000 x 100%
Percent interest rate = 100000
= 6%
 Cash Flow :‫التدفق النقدي‬
Cash flow is the sum of money recorded as receipts or disbursements
in a project’s financial records.
A cash flow diagram presents the flow of cash as arrows on a timeline
scaled to the magnitude of the cash flow, where expenses are down
arrows and receipts are up arrows.
:‫التدفق النقدي‬
.‫التدفق النقدي هو حساب التكاليف والعوائد المالية للمشروع‬
90,000

+
+ 60,000
30,000 30,000 30,000 30,000 30,000 30,000

20,000 20,000 20,000 0

1 2 3 4 5 6
0
1 2 3
20,000 20,000 20,000 20,000 20,000 20,000

- 50,000 -
50,000
1- Present Worth (P): ‫القيمة الحالية‬
present amount at t = 0

2- Future Worth (F): ‫القيمة املستقبلية‬

equivalent future amount at t = n of any present amount at t = 0

3- Annual Amount (A): ‫القسط السنوي‬

uniform amount that repeats at the end of each year for n years.

4- Uniform Gradient Amount (G): ‫التدرج‬

uniform gradient amount that repeats at the end of each year, starting
at the end of the second year and stopping at the end of year n.
 Single - Payment Formulas ( F / P and P / F )

1- ( F/P):
If an amount P is invested at time t = 0 , the amount accumulated 1 year
hence at an interest rate of i percent per year will be

F1 = P + Pi = P ( 1 + i ) F =?

F2 = P ( 1 + i )+ P ( 1 + i ) i i = given%
2 0 1 2 3 4 n-2 n-1
=P(1+i+i+i ) n

2
= P ( 1 + 2i + i )
P = given
2
=P(1+i)
n
F = P ( 1 + i )................... Formula
Or
F = P (F/P,i,n)................ using tables ‫باستخدام الجداول‬
 Example 1
For the following cash flows, calculate the future worth ?
F =?
i = 10%

0 1 2 3 4 5 6

P = 3000
solution
F = P ( 1 + i )n = 3000 (1+0.1)6 = 3000 (1.7716) = 5314.80 Formula.
Or
F = P (F/P,i,n) = 3000 (F/P, 10%,6 ) = 3000 (1.7716) = 5314.80 using tables.
2- ( P/F):
F = given

i = given%
0 1 2 3 4 n-2 n-1
n

P=?

1 ................. Formula
P=F n
(1+i)
Or
P = F (P/F,i,n) )................ using tables ‫باستخدام الجداول‬
 Example 2
For the following cash flows, calculate the present worth ?
F = 10,000
i = 10%

0 1 2 3 4 5 6 7

solution P=?

1 1
P=F = 10,000 = 5132 Formula.
n ( 1 + 0.1 )
7
(1+i)
Or

P = F (P/F,i,n) = 10,000 (P/F, 10%,7 ) = 10,000 (0.5132) = 5132 using tables.

Example 3
An engineer received a bonus of 12,000 L.E. that he will invest now . He
wants to calculate the equivalent value after 24 years , when he plans to use
all the resulting money as the down payment on a vacation home . Assume a
rate of return of 8 % per year for each of the 24 years . Find the amount he
can pay down , using the tabulated factor , and the factor formula.

Solution
The symbols and their values are P = 12,000 L.E . ; F = ? ; i = 8 % per year ; n = 24 years
n 24
F = P ( 1 + i ) = 12,000 ( 1 + 0.08 ) = 76,094.17 L.E.

Also, tables could be used:

F = P ( F / P , i , n ) = 12,000 ( F / P , 8 % , 24 )
F / P from tables = 6.3412
F = 12,000 ( 6.3412 ) = 76,094.4 L.E.
Example 4
Wilson Technology, a growing machine shop, wishes to set aside money now to invest over
the next 4 years in automating their customer service department. They now earn 10% on a
lump sum deposited, and they wish to withdraw the money in the following increments:
Year 1: $25,000 to purchase a computer and data base software designed for customer
service use.
Year 2: $3000 to purchase additional hardware to accommodate anticipated growth in use of
the system.
Year 3: No expenses.
Year 4: $5000 to purchase software upgrades.
How much money must be deposited now to cover the anticipated payments over the next 4
years?
Solution.
Discussion. This problem is equivalent to asking what value of P would make you
indifferent in your choice between P dollars today and the future expense stream of
($25,000, $3000, $0, $5000). One way to deal with an uneven series of cash flows is to
calculate the equivalent present value of each single cash flow and sum the present values to
find P. In other words, the cash flow is broken into three parts as shown in cash flow.

i = 10%
25000 5000

3000
0 1 2 3 4

PT =?

P = $ 25,000 ( P / F , 10 % , 1 ) + $ 3000 ( P / F , 10 % , 2 ) + $ 5000 ( P / F , 10 % , 4 ) = $ 28,622

 Uniform Series Formulas ( P / A , A / P , A / F , F / A )

There are 4 uniform series formulas that involve A , where A means that :

1. The cash flow occurs in

‫ يتم إيداع القسط السنوي في فترات فائدة لسنوات‬-1
consecutive interest periods, .‫متتالية‬
2. The cash flow amount is the .‫ قيمة القسط السنوي ثابتة في كل فترة‬-2
same in each period.

The two equations that relate P and A are as follows :

P=? i = given

0 1 2 3 n-2 n-1 n
Also, tables could be used:

P=A(P/A,i,n)
A = given
 P = given i = given

Also, tables could be used: 0 1 2 3 n-2 n-1 n

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

A=?

Example 5:
For the following cash flows, compute the annual worth?

15000
i = 16%

0 1 2 3 4 5 6 7 8 9 10

A=?
Solution.
A = P ( A / P , i , n ) = P ( A / P , 16% , 10 ) = 15000 (0.20690) = 3,103.5
A/F , F/A

The uniform series formulas that relate A and F follow:

F = given
i = given

0 1 2 3 n-2 n-1
Also, tables could be used: n

A=F(A/F,i,n)
A=?

F=?

i = given

0 1 2 3 n-2 n-1 n
tables could be used:

F=A( F/A,i,n) A = given

Example 5:
Suppose you make an annual contribution of $3000 to your savings account at the
end of each year for 10 years. If your savings account earns 7% interest annually,
how much can be withdrawn at the end of 10 years?

Solution.
F=?
i = 7%

0 1 2 3 4 5 6 7 8 9 10

A = 3000

F = A ( F/ A, i%, n ) = 3000 ( F/ A,7 % , 10 ) = 3000 ( 13.8164 ) = $ 41,449.20