ENGINEERING ECONOMY Example 2: Determine the (a) ordinary and (b) exact simple

interests on P 100,000 for the period January 15 to June 20 2012

Engineering Economy is the analysis and evaluation of the factors
that will affect the economic success of engineering projects to the
end that a recommendation can be made which will ensure the
best use of capital.
SET 1A: INTEREST AND MONEY-TIME RELATIONSHIPS
Interest is the amount of money paid for the use of borrowed
capital (borrowers viewpoint) or the income produced by money
which has been loaned (lenders viewpoint).
F=P+I
Where:
I = interest
P = principal or present worth
F = accumulated amount or future worth
Cash-Flow Diagrams
Cash-Flow Diagram is a graphical representation of cash flows
drawn on a time scale.
- receipt (positive cash flow or cash inflow)
- disbursement (negative cash flow or cash outflow)
Example: A loan of P100 at simple interest will becomeP150 after
5 years.
Cash flow diagram on the viewpoint of the lender
if interest is 15%.
Ans. (a) P 6,541.67; (b) P 6434.43
Example 3: Calculated the exact interest on an investment of P
2,000.00 for a period from January 30 to September 15, 2001 if the
rate of interest is 10%.
Ans. P124.93
Example 4: If P 4000 is borrowed for 75 days at 16% per annum.
How much will be due at the end of 75 days?
Ans. P 4,133.33
Example 5: How long will it take for a deposit of P 1, 500.00 to earn
P 186 if invested at the simple interest rate of 7 1/3%?
Ans. 1.6909 years
Example 6: If you borrow money from your friend with simple
interest of 12%, find the present worth of P 20,000 at the end of 9
months.
Ans. P 18,348.60
Example 7: (CE Board) A deposit of P 110,000 was made for 31
days. The net interest after deducting 20% withholding tax is P
890.36. Find the rate of return annually.
Ans. 11.75%
Example 8: A man buys an electric fan from a merchant that
charges P1500.00 at the end of 90 days. The man wishes to pay
cash. What is the cash price if money is worth 10% simple
interest?
Ans. P 1,463.41
Example 9: What amount will be available in eight months if P
15,000.00 is invested now at 10% simple interest per year?
Ans. P 16,000.00
Example 10: P 1000.00 becomes P 1500.00 in three years. Find the
simple interest rate.
Ans. 16.67%
Example 11: An engineer borrowed a sum of money under the
following terms: P 650,000.00 if paid in 90 days, or P 600,000.00
if paid in 30 days. What is the equivalent annual rate of simple
interest?
Ans. 50%

Compound Interest
Compound Interest the interest for an interest period is
calculated on the principal plus total amount of interest
accumulated in previous period.

Cash flow diagram on the viewpoint of the borrower

Simple Interest
Simple Interest is calculated using the principal only, ignoring
any interest that has been accrued in preceding periods.
I = Pni
F = P(1 + in)
Where:
I = interest Principal at
Interest Interest Earned Amount at End
P = principal or present worth Beginning
Period During Period of Period
of Period
n = number of interest periods
i = rate of interest per period 1 P Pi P(1+i)
F = accumulated amount or future worth 2 P(1+i) P(1+i)i P(1+i)2
For Ordinary Simple Interest: 3 P(1+i)2 P(1+i)2i P(1+i)3
Interest period = 1 year = 360 days
For Exact Simple Interest:
Interest period = 1 year = 365 days (ordinary year) n P(1+i)n-1 P(1+i)n-1i P(1+i)n
= 366 days (leap year)
F = P(1 + i)n
SAMPLE PROBLEMS F = (1 + i)n = (F , i%, n)
P P
Example 1: Determine the ordinary simple interest on P 20,000
P = F(1 + i)n
for 9 months and 10 days if the rate of interest is 12%. P = (1 + i)n = (P , i%, n)
Ans. P 1,866.67 F F
Where: Example 9: Find the present worth of a future payment of P
F = accumulated amount or future worth 300,000 to be made 5 years with an interest rate of 8% per annum.
P = principal or present worth Ans. P 204,174.96
i = rate of interest per interest period Example 10: How long will it take money to double itself if
n = number of compounding periods invested at 5% compounded annually?
F/P = single payment compound amount factor Ans. 14.2 years
P/F = single payment present worth factor Example 11: The amount of P 50,000 was deposit in the bank
earning an interest of 7.5% per annum. Determine the total
Nominal Rate of Interest specifies the rate of interest and the amount at the end of 5 years, if the principal and interest were not
number of interest periods in one year. withdrawn during the period?
r Ans. P 71,781.47
i=
m Example 12: Compute the equivalent rate of 6% compounded
n = my semi-annually to a rate compounded quarterly.
r my
F = P (1 + ) Ans. 5.96% compounded quarterly
m Example 13: If P5, 000.00 shall accumulate for 10 years at 8%
compounded quarterly. Find the compounded interest at the end
Where:
of 10 years.
i = rate of interest per interest period
Ans. P 6,040.20
n = number of compounding periods
Example 14: A sum of P 1,000.00 is invested now and left for eight
r = nominal rate of interest
years, at which time the principal is withdrawn. The interest has
m = number of compounding periods per year
accrued is left for another eight years. If the effective annual
y = number of years
interest rate is 5%, what will be the withdrawal amount at the end
of the 16th year?
Compounding Period m
Ans. P 705.42
Compounded Quarterly 4
Example 15: By the condition of a will, the sum of P 2,000 is left to
Compounded Semi-annually 2
a girl to be held in trust fund by her guardian until it amounts to P
Compounded Monthly 12
5,000, when will the girl received the money if the fund is invested
Compounded Bi-monthly 6
at 8% compounded quarterly?
Effective Rate of Interest is the actual or exact rate of interest on Ans. 11.57 years
the principal during 1 year, or simply the ratio of accumulated Example 16: A student plan to deposit P1, 500 in the bank now
interest in one year to the principal amount. and another P3, 000 for the next 2 years. If he plans to withdraw
FP P5, 000 3 years after his last deposit for the purpose of buying
ER = shoes, what will be the amount of money left in the bank after one
P
r m year of his withdrawal? Effective annual interest rate is 10%.
ER = (1 + i)m 1 = (1 + ) 1 Ans. P 1,549.64
m
Example 17: If the interest rate of a certain account is 6.5%,
SAMPLE PROBLEMS compute the (a) single payment present worth factor; and (b)
Example 1: The amount of P 20,000 was deposited in a bank single payment compound amount factor at the end of 18 years.
earning an interest rate of 6.5% per annum. Determine the total Ans. (a) 0.322; (b) 3.107
amount at the end of 7 years if the principal and interest were not
withdrawn during this period. Continuous Compounding Interest
Ans. P 31,079.73 From the compound interest formula for m periods per year:
Example 2: A man expects to receive P 25,000 in 8 years. How r my
F = P (1 + )
much is that money worth now considering interest at 8% m
m
compounded quarterly? Let = k, then m = rk, as m increases, so must k:
r
Ans. P 13,265.83 r my 1 rky 1 k
ry

Example 3: How many years will P 100,000 earn a compounded (1 + ) = (1 + ) = [(1 + ) ]

m k k
interest of P 50,000 if interest is 9% compounded quarterly?
1 k
Ans. 4.56 years The limit of (1 + ) as k approaches infinity is e, thus:
k
Example 4: Find the effective rate of interest corresponding to 8% F = Pery
compounded quarterly. The effective rate of interest for continuous compounding is:
Ans. 8.24% ER = er 1
Example 5: Find the nominal rate, which if converted quarterly Where:
could be used instead of 12% compounded semiannually? F = accumulated amount or future worth
Ans. 11.825% P = principal or present worth
Example 6: If money is worth 5% compounded quarterly, find the r = nominal rate of interest
equated time for paying a loan of P 150,000 due in one year and P y = number of years
280,000 in 2 years. e = Eulers number
Ans. 1.6455 years ery = continuous compound amount factor
Example 7: Five years ago, you paid P 340,000 for a lot. Today you 1 ry = present worth of continuous compounding factor
sold it at P 500,000. What is the annual rate of appreciation? e
Ans. 8%
SAMPLE PROBLEMS
Example 8: John borrowed P50, 000.00 from the bank at 25%
Example 1: P 100,000 is deposited in a bank that earns 5%
compounded semi-annually. What is the equivalent effective rate
compounded continuously. What will be the amount after 10
of interest?
years?
Ans. 26.56%
Ans. P 164,872.13
Example 2: Money is deposited in a certain account for which Inflation
interest is compounded continuously. If the balance doubles in 6 Inflation is the increase in the prices for goods and services from
years, what is the annual percentage rate? one year to another, thus decreasing the purchasing power of
Ans. 11.55% money.
Example 3: A man wishes to have P 40,000 in a certain fund at the FC = PC(1 + f)n
end of 8 years. How much should he invest in a fund that will pay Where:
6% compounded continuously? FC = future cost of a commodity
Ans. P 24, 751.34 PC = present cost of a commodity
Example 4: If the effective annual interest rate is 4%, compute the f = annual inflation rate
equivalent nominal interest compounded continuously. n = number of years
Ans. 3.922% In an inflationary economy, the buying power of money decreases
Example 5: What is the nominal rate of interest compounded as cost increases:
continuously for 10 years if the compound amount factor is P
F=
1.34986? (1 + f)n
Ans. 3% If interest is computed as the same time that inflation is occurring:
Example 6: Deposits of P35,000.00, P48,000.00 and P25,000.00 1+i n
F = P( )
were made in a savings account eight years, five years, and two 1+f
years ago, respectively. Determine the accumulate amount in the Where:
account today if a withdrawal of P55,000.00 was made four years F = future worth of todays present amount P
ago. The applied interest rate is 11% compounded continuously. f = annual inflation rate
Ans. P 113,330.66 n = number of years
i = rate of interest
Discount If the uninflated present worth is to be determined:
Discount is the difference between the future worth of a certain F F
P= =
commodity and its present worth. (1 + i)n (1 + f)n (1 + icf )n
2 Types of Discount: icf = i + f + if
Trade Discount discount offered by the seller to induce trading. SAMPLE PROBLEMS
Cash Discount is the reduction on the selling price offered to a Example 1: A man invested P 130,000 at an interest rate of 10%
buyer to induce him to pay promptly. compounded annually. What will be the final amount of his
D = FP investment, in terms of todays peso, after 5 years, if inflation
Where: remains the same at the rate of 8% per year?
D = amount of discount Ans. P 142,491
F = accumulated amount or future worth Example 2: What is the uninflated present worth of a P 200,000
P = principal or present worth future value in two years if the average inflation rate is 6% and
Discount Rate is the discount on one unit of principal per unit of interest rate is 10%.
time. Ans. P 147,107
FP
d= = 1 (1 + i)1
F
If the commodity is discounted in a certain period of time:
Fd = F P
P = F(1 d) For 1 year
P = F(1 nd) For n years
The relationship between discount rate and interest rate
becomes:
d
i=
1d
and
i
d=
1+i
Where:
d = discount rate for the period involved
i = rate of interest for the same period

SAMPLE PROBLEMS
Example 1: Mr. T borrowed money from the bank. He receives
from the bank P 1,340 and promised to pay P 1,500 at the end of
9 months. Compute: (a) Simple interest rate; and (b) Discount
Rate.
Ans. (a) 15.92%; (b) 13.73%
Example 2: Find the discount if P 2,000 is discounted for 6 months
at 8% simple discount.
Ans. P 80
Example 3: Discount 1650 for 4 months at 6% simple interest.
What is the discount?
Ans. P 32.35
SET 1B: ANNUITIES SAMPLE PROBLEMS
Annuity is a series of equal payments occurring at equal periods Example 1: Find the annual payment to extinguish a debt of P
of time. 100,000 payable for 6 years at 12% interest annually.
Ans. P 24,322.57
Ordinary Annuity Example 2: What annuity is required over 12 years to equate to a
Ordinary Annuity a type of annuity were equal payments are future amount of P 200,000? i = 8%.
made at the end of each period. Ans. P 10,539.00
Example 3: A man paid 10% downpayment of P 200,000 for a
house and lot and agreed to pay the 90% balance on monthly
installment for 60 months at an interest rate of 15% compounded
monthly. Compute the amount of monthly payment.
Ans. P 42,821.87
Example 4: Mr. Y bought a house and lot for $ 2,800,000 with a
downpayment of $ 300,000. Interest is 5% to be paid for 30 years
on a monthly basis. Compute the amount of monthly payment.
Ans. $ 13,420.54
P = A(1 + i)1 + A(1 + i)2 + A(1 + i)3 + + A(1 + i)(n1)
Example 5: A piece of machinery can be bought for P 10,000 cash,
+ A(1 + i)n Eq. 1
or for P 2,000 downpayment and payments of P 750 per year for
Multiplying this equation by (1 + i), the equation becomes:
15 years. What is the annual interest rate of the time payments?
P + Pi = A + A(1 + i)1 + A(1 + i)2 + + A(1 + i)n+2
Ans. 4.6%
+ A(1 + i)n+1 Eq. 2
Example 6: A man inherited a regular endowment of P 100, 000
Subtracting Eq. 1 from Eq. 2:
every of 3 months for 10 years. However, he may choose to get a
Pi = A A(1 + i)n
single lump sum payment at the end of 4 years. How much is this
A A (1 + i)n 1
P = [1 (1 + i)n ] = [ ] lump sum if the cost of money is 14% compounded quarterly?
i i (1 + i)n
n
Ans. P 3,702,939.73
P = [(1 + i) 1] = (P , i%, n) Example 7: A service car whose cash price was P 540,000 was
A i(1 + i)n A
bought with a down payment of P 162,000 and monthly
The functional symbol (P/A, i%, n) is called the uniform series installment of P 10,874.29 for 5 years. What was the rate of
present worth factor. interest if compounded monthly?
n
A = [ i(1 + i) ] = (A , i%, n) Ans. 24% compounded monthly
P n
(1 + i) 1 P Example 8: If P500.00 is invested at the end of each year for 6
The functional symbol (A/P, i%, n) is called the capital recovery years, at an annual interest rate of 7%, what is the total peso
factor. amount available upon the deposit of the sixth payment?
Where: Ans. P 3,576.65
P = value or sum of money at present Example 9: A man purchased a car with a cash price of P 350,000.
A = series of periodic equal amount of payments He was able to negotiate with the seller to allow him to pay only a
i = interest rate per interest period down payment of 20% and the balance payable in equal 48 end of
n = number of interest periods/number of equal payments the month installment at 1.5% interest per month. On the day he
P/A = uniform series present worth factor paid the 20th installment, he decided to pay the remaining
A/P = capital recovery factor balance. How much is the monthly payment and what is the
Substituting P = F(1 + i)n from the equation of P, it becomes: remaining balance that he paid?
A Ans. P 8,224.99; P 186,927.02
F = [(1 + i)n 1]
i Example 10: For having been loyal, trustworthy and efficient, the
company has offered a superior a yearly gratuity pay of P
20,000.00 for 10 years with the first payment to be made one year
after his retirement. The supervisor, instead, requested that he be
paid a lump sum on the date of his retirement less interest that the
company would have earned if the gratuity is to be paid on yearly
basis. If interest is 15%, what is the equivalent lump sum that he
could get?
Ans. P 100,375.37
Example 11: In anticipation of a much bigger volume of business
n
F = [(1 + i) 1] = (F , i%, n) after 10 years, a fabrication company purchased an adjacent lot
A i A for its expansion program where it hopes to put up a building
The functional symbol (F/A, i%, n) is called the uniform series projected to cost P 4,000,000.00 when it will be constructed 10
compound amount factor. years after. To provide for the required capital expense, it plans to
A = [ i put up a sinking fund for the purpose. How much must the
] = (AF , i%, n)
F (1 + i)n 1 company deposit each year if interest to be earned is computed at
The functional symbol (A/F, i%, n) is called the sinking fund 15%?
factor. Ans. P 197,008.25 annual deposits
Where:
F = value or sum of money at some future time
A = series of periodic equal amount of payments
i = interest rate per interest period
n = number of interest periods/number of equal payments
F/A = uniform series compound amount factor
A/F = sinking fund factor
Example 12: A new office building was constructed 5 years ago by
a consulting engineering firm. At that time the firm obtained the
bank loan for P 10,000,000 with a 20% annual interest rate,
compounded quarterly. The terms of the loan called for equal
quarterly payments for a 10-year period with the right of
prepayment any time without penalty. Due to internal changes in
the firm, it is now proposed to refinance the loan through an
insurance company. The new loan is planned for a 20- year term
with an interest rate of 24% per annum, compounded quarterly.
The insurance company has a onetime service charge 5% of the
balance. This new loan also calls for equal quarterly payments.
a.) What is the balance due on the original mortgage (principal) if
all payments have been made through a full five years?
b.) What will be the difference between the equal quarterly
payments in the existing arrangement and the revised proposal?
Ans. (a) P 7,262,747.03; (b) P 120,862
Example 13: An annual payment is made for 10 years with an
annual interest rate of 8%. Compute the following:
(a) Uniform series present worth factor;
(b) Capital recovery factor;
(c) Uniform series compound amount factor;
(d) Sinking fund factor
Ans. (a) 6.710; (b) 0.149; (c) 14.487; (d) 0.069
Annuity Due
Annuity Due a type of annuity were equal payments are made at
the beginning of each period.
A (1 + i)n1 1
P =A+ [ ]
i (1 + i)n1
A m = number of interest periods when there is no payment made
F= [(1 + i)n+1 1] A
i
Where:
P = value or sum of money at present
F = value or sum of money at some future time
A = series of periodic equal amount of payments
i = interest rate per interest period
n = number of interest periods/number of equal payments
SAMPLE PROBLEMS
Example 1: If money is worth 4% compounded semiannually, find
the present amount of an annuity due paying P 5,000
semiannually for a term of 3.5 years.
Ans. P 33,007.15
Example 2: A man agrees to make equal payments at the beginning
of each 6 months for 10 years to discharge a debt of P 50,000 due
now. If money is worth 8% compounded semiannually, find the
semiannual payment.
Ans. P 3,537.58
Example 3: To accumulate a fund of P 80,000 at the end of 10
years, a man will make equal annual deposits in the fund at the
beginning of each year. How much should he deposit if the fund is
invested at 5% compounded annually?
Ans. P 6,057.49
Example 4: Determine the present worth and the accumulated
amount of an annuity consisting of 6 payments of P120, 000 each,
the payment are made at the beginning of each year. Money is
worth 15% compounded annually.
Ans. P = P 522,259; F = P 1,208,016
Example 5: A farmer bought a tractor costing P 25,000 payable in
10 semi-annual payments, each installment payable at the
beginning of each period. If the rate of interest is 26%
compounded semi-annually, determine the amount of each
installment.
Ans. P 4,077.20
Example 6: A certain manufacturing plant is being sold and was
submitted for bidding. Two bids were submitted by interested
buyers. The first bid offered to pay P 200,000 each year for 5 years,
each payment being made at the beginning of each year. The
second bid offered to pay P 120,000 the first year, P 180,000 the
second year, and P 270,000 each year for the next 3 years, all
payments being made at the beginning of each year. If money is
worth 12% compounded annually, which bid should the owner of
the plant accept?
Ans. second bid, Present worth = P 859,727.18
Deferred Annuity
Deferred Annuity a type of annuity were the first payment is
made several periods after the beginning of annuity.
A (1 + i)n 1
P= [ ] (1 + i)m
i (1 + i)n
Where:
P = value or sum of money at present
F = value or sum of money at some future time
A = series of periodic equal amount of payments
i = interest rate per interest period
n = number of interest periods/number of equal payments
SAMPLE PROBLEMS
Example 1: The present value of an annuity of R pesos payable
annually for 8 years, with the 1st payment at the end of 10 years is
P 187,481.25. Find the value of R if money if money is worth 5%.
Ans. P 45,000
Example 2: A parent on the day that child is born wishes to
determine what lump sum would have to be paid into an account
bearing interest of 5% compounded annually, in order to
withdraw P 20,000 each on the childs 18th, 19th , 20th and 21th
birthdays?
Ans. P 30,941.73
Example 3: An asphalt road requires no upkeep until the end of 2
years when P60, 000 will be needed for repairs. After this P90, 000
will be needed for repairs at the end of each year for the next 5
years, then P120, 000 at the end of each year for the next 5 years.
If money is worth 14% compounded annually, what was the
equivalent uniform annual cost for the 12-year period?
Ans. P 79,245.82
Example 4: A man wishes to provide a fund for his retirement such
that from his 60th to 70th birthdays he will be able to withdraw
equal sums of P18, 000 for his yearly expenses. He invests equal
amount for his 41st to 59th birthdays in a fund earning 10%
compounded annually. How much should each of these amounts
be?
Ans. P 2,285.25
Example 5: A lathe for a machine shop costs P 60,000, if paid in
cash. On the installment plan, a purchaser should pay P 20,000
downpayment and 10 quarterly installments, the first due at the
end of the first year after purchase. If money is worth 15%
compounded quarterly, determine the quarterly installment.
Ans. P 5,439.18
Example 6: A man invests P 10,000 now for the college education
of his 2 year old son. If the fund earns 14% effective interest rate,
how much will his son get each year starting from his 18 th to the
22nd birthday?
Ans. P 20,791.64
Perpetuity
Perpetuity a type of annuity in which payments continue
indefinitely.
A R = replacement cost
P=
i
Where:
P = value or sum of money at present
A = series of periodic equal amount of payments
i = interest rate per interest period
SAMPLE PROBLEMS
Example 1: Find the present worth of perpetuity of P 5,200
payable monthly if the interest is 16% compounded monthly.
Ans. P 390,000
Example 2: Find the present value of a perpetuity of P 15,000
payable semiannually if money is worth 8% compounded
quarterly.
Ans. P 371,287
Example 3: If money is worth 8%, determine the present value of
a perpetuity of P 1,000 payable annually with the 1st payment due
at the end of 5 years.
Ans. P 9,187.87
Example 4: If money is worth 8% compounded quarterly,
calculate the present worth of the following:
(a) An annuity of P 1,000 payable quarterly for 50 years
(b) An annuity of P 1,000 payable quarterly for 100 years
(c) A perpetuity of P 1,000 payable quarterly
Ans. (a) P 49,047.35; (b) P 49,981.85; (c) P 50,000
Example 5: It costs P 50,000 at the end of each year to maintain a
section of Kennon road in Baguio City. If money is worth 10%, how
much would it pay to spend immediately to reduce the annual cost
by P 10,000?
Ans. P 400,000
Continuous Compounding for Discrete Payments
For an annuity compounded continuously, replace interest rate
with the effective rate for compounded continuously. Recall that:
ER = er 1
Replacing the interest rate for the formula of ordinary annuity
with ER, the formula becomes:
A ern 1
P= r ( rn )
e 1 e
A
F= r (ern 1)
e 1
SAMPLE PROBLEMS
Example 1: Determine the accumulated amount to an account
paying P 5,000 annually (payments are made at the beginning of
each period) for 18 years if money is worth 8% compounded
continuously. Also determine the present worth.
Ans. P 209,452.57; P 49,625.13
Capitalized Cost
Capitalized Cost is the sum of the first cost and the present worth
of all costs of replacement, operation and maintenance for a long
period of time of any property.
Capitalized Cost = First Cost + Present Worth of Perpetual
Operations and Maintenance + Present Worth of Perpetual
Replacement by Sinking Fund Method
R
Present Worth of Perpetual Replacement =
(1 + i)L 1
R = FC SV
Where:
FC = first cost
SV = salvage value
i = interest rate per interest period
L = useful life in years
SAMPLE PROBLEMS
Example 1: The first cost of a certain equipment is P 324,000 and
a salvage value of P 50,000 at the end of its life of 4 years. If money
is worth 6% compounded annually, find the capitalized cost.
Ans. P 1,367,901.15
Example 2: Find the capitalized cost of a bridge whose cost is P
250M and life is 20 years. If the bridge must be partially rebuilt at
a cost of P 100M at the end of each 20 years. i = 6%.
Ans. P 295.3076M
Example 3: A machine cost P 150,000 and will have a scrap value
of P 10,000 when retired at the end of 15 years. If money is worth
4%, find the annual investment and the capitalized cost of the
machine.
Ans. P 324,793.85
Example 4: A bridge that was constructed at a cost of P 7.5M is
expected to last 30 years at the end of which time its renewal cost
will be P 4M. Annual repairs and maintenance is P 300,000. What
is the capitalized cost of the bridge at an interest of 6%?
Ans. P 13,343,260.77
Example 5: Calculate the capitalized cost of a project that has an
initial cost of P 3,000,000 and an additional cost of P 1,000,000 at
the end of every 10 yrs. The annual operating costs will be P100,
000 at the end of every year for the first 4 years and P160, 000
thereafter. In addition, there is expected to be recurring major
rework cost of P 300,000 every 13 yrs. Assume i =15%.
Ans. P 4,281,936
Uniform Arithmetic Gradient A contract has been signed to lease a building at
Uniform Arithmetic Gradient is the increase by a relatively P20,000 per year with an annual increase of P1,500 for
constant amount each period. 8 years. Payments are to be made at the end of each
year, starting one year from now. The prevailing
interest rate is 7%. What lump sum paid today would
be equivalent to the 8-year lease-payment plan?

The cash flow above is equal to the sum of the two cash flows
below:

A = P 1000, n = 5

We denote the difference between two preceding amount

(increase per period) as G, which is also known as uniform
gradient amount, in this case:
G = 500, n = 5
The formulas that may be used in this type of cash flow may be
analyzed using this formulas:
P = PA + PG
A (1 + i)n 1
PA = [ ]
i (1 + i)n
G (1 + i)n 1
PG = [ n] (1 + i)n
i i
PG 1 (1 + i)n 1
G i[
= n] (1 + i)n
i
Where:
PG/G = Gradient to present worth factor

SAMPLE PROBLEMS
Example 1: An individual makes 5 deposits that increase
uniformly by P 300 every month in a savings account that earns
12% compounded monthly. If the initial deposit is P 4,500,
determine the accumulated amount in the account just after the
last deposit.
Ans. P 25,984.67
Example 2: An amortization of a debt is in a form of a gradient
series. (a) What is the equivalent present worth of the debt if
interest is 5%. (b) Determine also the future amount of
amortization as well as the equivalent uniform periodic payment.
(c) What is the equivalent uniform annual cost?
Ans. P 15,178.34; P 18,449.37; P 4,280.47
SET 2: DEPRECIATION
Depreciation is the decrease in value of physical property with
the passage of time.
Book Value is the worth of property as shown on the accounting
records of an enterprise
Salvage/Resale Value is the price that can be obtained from the
sale of the property after it has been used.
Scrap Value the amount of property would sell if disposed of as
junk.
BVm = FC Dm
DL = FC SV
Where:
BVm = book value of a property at any time m
Dm = total depreciation of a property at any time m
DL = total depreciation at the end of its useful life
FC = first cost
SV = salvage or scrap value
Straight Line Method
Straight Line Method a method which assumes that the loss in
value is directly proportional to the age of the property.
d1 = d2 = = dm = dL = d
FC SV
d=
L Sinking Fund Method
Dm = md
DL = Ld
Where:
d = depreciation at any year
Dm = total depreciation of a property at any time m
DL = total depreciation at the end of its useful life
L = useful life in years
FC = first cost
SV = salvage or scrap value
SAMPLE PROBLEMS
Example 1: A machine has an initial cost of P 50,000 and a salvage
value of P 10,000 after 10 years. Using Straight Line Method of
Depreciation:
(a) What is the annual depreciation?
(b) What is the book value after 5 years?
(c) What is the total depreciation after 3 years?
Ans. (a) P 4,000; (b) P 30,000; (c) P 12,000
Example 2: An Engineer bought an equipment for P 500,000. He
spent an additional amount of P 30,000 for installation and other
expenses. The salvage value is 10% of the first cost. If the book
value at the end of 5 years is P 291,500 using straight line
depreciation, compute the life of the equipment in years.
Ans. 10 years
Example 3: A machine which cost P 10,000 was sold as scrap after
being used for 10 years. The scrap value is P 500. Determine the
total depreciation at the end of 5 years.
Ans. P 4750
Example 4: An engineer bought an equipment for P 500,000.00.
He spent an additional amount of P 30,000 for installation and
other expenses. The salvage value is 10% of the initial first cost.
Life = 15 years. Compute the following:
(a) Annual Depreciation.
(b) Book Value after 6 years.
(c) Total depreciation after 10 years.
Ans. (a) P 31,800; (b) P 339,200; (c) P 318,000
Example 5: A machine cost P 73,500 and has a life of 8 years with
a salvage value of P 3500 at the end of 8 years. Determine the
book value at the end of 4 years using straight line method.
Ans. P 38,500
Example 6: What is the book value of electronic test equipment
after 8 years of use if it depreciates from its original value of P
120,000.00 to its salvage value of 13% in 12 years? Use straight-
line method.
Ans. P 50,400
Example 7: The initial cost of paint sand mill, including its
installation is, P800 000.00. The BIR approved life of this machine
is 10 years for depreciation. The estimated salvage value of the
mill is P 50,000.00 and the cost of dismantling is estimated to be P
15,000.00. Using straight line depreciation, what is the annual
depreciation charge and what is the book value of the machine at
the end of six years?
Ans. P 76,500; P 341,000
Example 8: An equipment has a salvage value of P1M at the end of
50 years. The straight line depreciation charge is P2M.
(a) What is the first cost of the machine?
(b) What is the book value after 25 years?
(c) At what year will its total depreciation be P30M?
Ans. P 101M; P 51M; 15th year
Sinking Fund Method a method which assumes that the sinking
fund established in which funds will accumulate for replacement.
The total depreciation that has been taken place up to any given
time is assumed to be equal to the accumulated amount in the
sinking fund at any time.
d1 = d2 = = dm = dL = d
(FC SV)i
d=
(1 + i)L 1
d
Dm = [(1 + i)m 1]
i
d
DL = [(1 + i)L 1]
i
Where:
d = depreciation at any year
Dm = total depreciation of a property at any time m
DL = total depreciation at the end of its useful life
L = useful life in years
FC = first cost
SV = salvage or scrap value
SAMPLE PROBLEMS
Example 1: Given FC = 100,000, SV = 10,000, L = 10 years, i = 5%.
(a) Annual Depreciation, d.
(b) Book Value after 3 years.
(c) Book Value after 8 years.
Ans. P 7,155.41; P 77,442.56; P 31,672.21
Example 2: An equipment cost P 100,000 with a salvage value of P
5,000 at the end of 10 years.
Using Sinking Fund Method with interest rate= 4%.
(a) Compute the annual depreciation cost.
(b) Find the book values at years 1 to 4.
Ans. (a) P 7,912.64; (b) P 92,087.36; P 83,858.21; P 75,299.90; P
66,399.26
Example 3: A plant erected to manufacture socks with a first cost
of P 10,000,000 with an estimated salvage value of P 100,000 at
the end of 25 years. Find the appraised value to the nearest 100
by sinking fund method at 6% interest rate at the end of
a. 10 years
b. 20 years
Ans. P 7,621,600; P 3,362,200
Example 4: A factory is constructed at a 1st cost of P 8,000,000 and Ans. P 268,793.20
with an estimated salvage value of P 200,000 at the end of 25
years. Find its appraised value to the nearest 100 at the end of 10 Double Declining Balance Method
years by using sinking fund of depreciation assuming an interest Double Declining Balance Method a method which is similar to
of 5%. declining balance method except that the rate of depreciation k is
Ans. P 5,944,400 replaced by 2/L.
Example 5: A four-stroke motorbike costs P75 000.00. It will have 2 m1 2
a salvage value of P10 000.00 when worn out at the end of eight dm = FC (1 )
L L
years. Determine the annual replacement deposit using the SFM 2 m
at 5%. BVm = FC (1 )
L
Ans. P 6,806.92 Dm = FC BVm
Example 6: A machine that costs P75 000.00 five years ago now Where:
cost P45 864.31, when 7% interest is applied using the sinking dm = depreciation at any time m
fund formula. Determine the salvage value of the machine for an BVm = book value of a property at any time m
estimated useful life of 10 years. Dm = total depreciation of a property at any time m
Ans. P 5,000 L = useful life in years
FC = first cost
Declining Balance Method (Mathesons Method)
Declining Balance Method a method which assumes that the SAMPLE PROBLEMS
annual cost of depreciation is a fixed percentage (k) of the salvage Example 1: A machine has a first cost of P 140,000 and a life of 8
value at the beginning of the year. years with a salvage value of P 10,000 at the end of its useful life.
dm = FC(1 k)m1 k Using double declining balance method:
BVm = FC(1 k)m (a) What is the Book Value on the 3rd year?
SV = FC(1 k)L (b) What is the depreciation charge on the 4 th year?
L SV
Ans. P 59,062.50; P 14,765.63
k=1 Example 2: An equipment costs P 500,000 and has a salvage value
FC of P 25,000 after its 25 years of useful life. Using Double Declining
Dm = FC BVm Balance Method, what will be the book value after 8 years?
Note: This method is not applicable if there is no salvage value. Ans. P 256,609.44
Where: Example 3: XYZ Company has an equipment that cost P 90,000.
dm = depreciation at any time m After 8 years, it will have a salvage value of P 18,000.00. Using
BVm = book value of a property at any time m Double declining balance method, find the book value at the end
Dm = total depreciation of a property at any time m of 5 years.
L = useful life in years Ans. P 21,357
FC = first cost Example 4: Given the following data for a construction equipment:
SV = salvage or scrap value Initial cost = P 1,200,000.00; Economic Life = 12 years; Estimated
k = rate of depreciation salvage value = P 320,000.00.
(a) What is the book value after seven years?
SAMPLE PROBLEMS (b) What is the depreciation charge on the 4th year?
Example 1: A machine costing P 720,000 is estimated to have a (c) What is the total depreciation charge at the end of the 10 th
book value of P 40,545.73 when retired at the end of 10 years. year?
Depreciation cost is computed using a constant percentage of the Ans. P 334,898; P 115,740.74; P 1,006,193.30
declining value. Example 5: A machine costing P 550,000 has an estimated scrap
(a) What is the annual rate of depreciation? value of P 85,000 at the end of its economic life of 8 years. Using
(b) What is the book value after 3 years? DDBM of depreciation:
(c) What is the depreciation charge at the 4th year? (a) What is the book value after 4 years of service?
(d) What is the total depreciation after 6 years? (b) What is the book value at the end of its life?
Ans. (a) 0.25; (b) P 303,750; (c) P 75,937.50; (d) P 591,855.47 Ans. P 174,023; P 55,062.10
Example 2: A machine having a certain 1st cost has a life of 10 years
and a salvage value of 6.633% of the first cost of 10 years. If it has Sum of the Years Digit Method
a book value of P 58,914 after 6 years, how much is the first cost (FC SV)
of the machine using Mathesons Method? dm = (reverse digit)
sum of the digits
Ans. P 300,049.23 (FC SV)
Example 3: A machine has a current price of P 400,000. If its selling Dm = (sum of reverse digits)
sum of the digits
price is expected to decline at the rate of 10% per annum, what L
will be the selling price after 5 years? sum of the digits = (L + 1)
2
Ans. P 236,196.00 reverse digit = L m + 1
Example 4: A radio service panel truck initially costs P 56,000. I m
sum of reverse digits = (2L m + 1)
resale value at the end of the fifth year is estimated at P 15,000. By 2
means of the Declining Balance Method, determine the yearly Where:
depreciation charge for the first and second years. dm = depreciation at any time m
Ans. P 12,969.60; P 9,965.84 Dm = total depreciation of a property at any time m
Example 5: An engineer bought an equipment for P 800,000. Other L = useful life in years
expenses, including installation, amounted to P 50,000. At the end FC = first cost
of its estimated useful life of 10 years, the salvage value will be SV = salvage or scrap value
10% of the first cost. Using the constant percentage method of
depreciation, what is the book value after 5 years?
SAMPLE PROBLEMS
Example 1: An asset is purchased for P 9000. Its estimated life is
10 years, after which is will be sold for P 1,000. Using SOYD
(a) Find the book value during the 3rd year.
(b) Find the depreciation during the 2nd year.
(c) Find the total depreciation after 4 years.
Ans. P 5,072.72; P 1,309.09; P 4,945.45
Example 2: Mr. Q purchased a Bulk Milk Cooler for P 480,000.00.
Shipping, tax, and installation costs amounted to P 25,000.00, P
20,000.00 and P 15,000.00. The machine has a useful life of 7 years
and salvage value of P 40,000.
(a) Determine the book value after four years.
(b) Determine the depreciation charge on its last year of service.
(c) Determine the total depreciation after 3 years.
Ans. P 147,142.86; P 17,857.14; P 321,428.57
Example 3: A telephone company purchased microwave radio
equipment for P 6 million, freight and installation charges
amounted to 4% of the purchased price. If the equipment will be
depreciated over a period of 10 years with a salvage value of 8%,
determine the depreciation cost during 5th year using SYD.
Ans. P 626,269.10
Example 4: A company purchases an asset for P 10,000.00 and
plans to keep it for 20 years. If the salvage value is zero at the end
of the 20th year:
(a) What is the depreciation in the third year?
(b) What is the total depreciation at the end of 14 years?
(c) What is the book value of the asset at the end of 8 years?
Use sum-of-the-years digits depreciation.
Ans. P 857.14; P 9,000; P 3,714.29
Example 5: An equipment costing P 500,000.00 has a life
expectancy of 5 years. Using some-of-the-years digit method of
depreciation, what must be its salvage value such that its
depreciation charge for the first year is P 100,000.00?
Ans. P 200,000.00
Service-Output Method
Service-Output Method a method which assumes that the total
depreciation that has taken place is directly proportional to the
quantity of output of the property up to that time.
(FC SV)
Depreciation per unit output =
T (d) SOYD Method
(FC SV)
Dm = (Q)
T Example 4: An equipment costs P 10,000 with a salvage value of P
Where:
Dm = total depreciation of a property at any time
FC = first cost
SV = salvage or scrap value
T = total units of output up to the end of its life
Q = total number of units of output at any time
SAMPLE PROBLEMS
Example 1: A television company purchased machinery for P
100,000 on July 1, 1979. It is estimated that it will have a useful of
10 years, scrap value of P 4,000, production of 400,000 units and
working hours of 120,000. The company uses the machinery for
14,000 hours in 1979 and 18,000 hours is 1980. The machinery
produces 36,000 units in 1979 and 44,000 units in 1980. Compute
the depreciation charge for 1980 using each method given below:
(a) Straight Line Method
(b) Working Hours Method
(c) Output method
Also compute the total depreciation at the end of 1980 using:
(d) Working Hours Method
(e) Service Output Method
Ans. P 9,600; P 14,400; P 10,560; P 25,600; P 19,200
Example 2: An asphalt and aggregate mixing plant having a
capacity of 50 cu.m. every hour costs P 2,500,000. It is estimated
to process 800,000 cu.m. during its life. During a certain year it
processed 60,000 cu.m. If its scrap value is P 100,000, determine
the total depreciation during the year and the depreciation cost
chargeable to each batch of 50 cu.m. using the service output
method.
Ans. P 180,000.00; P 150.00
SUPPLEMENTARY PROBLEMS
Example 1: A machine costs P 7,000 which last for 8 years with a
salvage value at the end of its life of P 350. Determine the
depreciation charge during the 4th year and the book value at the
end of 4 years by:
(a) Straight Line Method;
(b) Declining Balance Method;
(c) SOYD Method;
(d) Sinking Fund Method with interest of 12%;
(e) Double Declining Balance Method
Ans. (a) P 831.25, P 3,675; (b) P 710.96, P 1,565.25; (c) P 923.61,
P 2,197.22; (d) P 540.66, P 4,416.00; (e) P 738.28; P 2,214.84
Example 2: A P 110,000 chemical plant had an estimated life of 6
years and a projected scrap value of P 10,000. After 3 years of
operation, an explosion made it a total loss. How much money
would have to be raised to put up a new plant costing P 150,000,
if the depreciation reserve was maintained during its 3 years of
operation by:
(a) Straight Line Method;
(b) Sinking Fund Method at 6% interest
Ans. P 100,000; P 104,359.08
Example 3: A contractor imported a bulldozer for his job, paying P
250,000 to the manufacturer. Freight and insurance charges
amounted to P 18,000; customs, brokers fees and arresters
services amounted to P 8,500; taxes, permits, and other expenses
which is 10% of the purchasing cost. If the contractor estimates
the life of the bulldozer to be 10 years with a salvage value of P
20,000, determine the book value at the end of 6 years using the:
(a) Straight Line Method;
(b) Sinking Fund Method with interest at 8%;
(c) Mathesons Formula;
Ans. P 132,600; P 158,949.69; P 59,201.53; P 71,181.82
500 at the end of 10 years. Calculate the annual depreciation cost
by:
(a) Straight Line Method;
(b) Sinking Fund Method at 4% interest
Ans. P 950; P 791.26
Example 5: A radio service panel truck initially costs P 56,000. Its
resale value at the end of the 5th year is estimated at P 15,000.
(a) Determine the annual depreciation charge by SLM.
(b) By means of the Mathesons Formula, determine the yearly
depreciation charge for the first, second and third year.
Ans. P 8,200; P 12,969.60, P 9,965.84, P 7,657.75
SET 3: BASIC METHODS FOR ECONOMY STUDIES
Rate of Return Method (ROR)
Rate of Return is a measure of the effectiveness of an investment
of capital and its financial efficiency. When this method is used, it
is necessary to decide whether the computed rate of return is
sufficient to justify the investment.
net annual profit
ROR =
capital invested
net annual profit = annual revenue annual cost
Annual cost includes depreciation, labor and material cost,
overhead, rental, tax and insurances, etc.
SAMPLE PROBLEMS
Example 1: An investment of P 270,000 can be made in a project
that will produce a uniform annual revenue of P 185,400 for 5
years and having a salvage value of 10% of the investment. Out of
pocket costs for operation and maintenance will be P 81,000 per
year. Taxes and insurance will be 4% of the first cost per year. The
company expects capital to earn not less than 25% before income
taxes. Using ROR method, determine the rate of return of the
investment. Is this a desirable investment?
Ans. ROR = 23.70%; It is not a desirable investment
Example 2: A young mechanical engineer is considering
establishing his own small company. An investment of P 800,000
will be required which will be recovered in 15 years. It is
estimated that sales will be P 800,000 per year and that operating
expenses will be as follows.
Materials P 160,000 per year
Labor P 280,000 per year
Overhead P 40,000 +10% of sales per year
Selling expense P 60,000
The man will give up his regular job paying P 216,000 per year and
devote full time to the operation of the business; this will result in
decreasing labor cost by P40,000 per year, material cost by P
28,000 per year and overhead cost by P32,000 per year. If the man
expects to earn at least 20% of his capital, should he invest?
Compute for the actual rate of return.
Ans. The man should not invest; ROR = 6.6118%
Example 3: The ABC Company is considering constructing a plant
to manufacture a proposed new product. The land costs P
15,000,000, the building costs P 30,000,000, the equipment costs
P 12,500,000, and P 5,000,000 working capital is required. At the
end of 12 years, the land can be sold for P 25,000,000, the building
for P 12,000,000, the equipment for P 250,000 and all of the
working capital recovered. The annual disbursements for labor,
materials, and all other expenses are estimated to cost P
23,750,000. If the company requires a minimum return of 25%,
what should be the minimum annual sales for 12 years to justify
the investment?
Ans. P 39,748,563.43
Example 4: A man formerly employed as chief mechanic of an
automobile repair shop has saved P 1,000,000.00 which are now
invested in certain securities giving him an annual dividend of
15%. He now plans to invest this amount in his own repair shop.
In his resent job, he is earning P 25,000.00 a month, but he has to
resign to run his own business. He will need the services of the
following: 2 mechanics each earning P400.00 a day, and 8 helpers
each earning P200.00 a day. These men will work on the average
300 days per year. His other expenses are the following:
Rental P30,000.00 a month
Miscellaneous P25,000.00 a month
Sales tax 3% of gross income
Insurance 2%
The length of his lease is 5 years. If the average charge for each car
repaired by his shop is P 1,000.00. Determine the number of cars
he must service in one year so that he will obtain a profit of at least
20% on his investment?
Ans. 2112 cars
Annual Worth Method
Annual Worth Method in this method, interest on the original
investment (sometimes called minimum required profit) is
included as cost. If the excess of annual cash inflows over annual
cash outflows is not less than zero, the proposed investment is
justified.
Annual cash inflow Annual cash outflow 0
SAMPLE PROBLEMS
Example 1: An investment of P 270,000 can be made in a project
that will produce a uniform annual revenue of P 185,400 for 5
years and having a salvage value of 10% of the investment. Out of
pocket costs for operation and maintenance will be P 81,000 per
year. Taxes and insurance will be 4% of the first cost per year. The
company expects capital to earn not less than 25% before income
taxes. Using annual worth method, determine the annual cash
flow. Is this a desirable investment?
Ans. P 3,509; It is not a desirable investment
Example 2: A man is considering investing P 500,000 to open a
semi-automatic auto washing business in a city of 400,000
population. The equipment can wash, on the average, 12 cars per
hour, using two men to operate it and to do small amount of hand
work. The man plans to hire two men, in addition to himself, and
operate the station on an 8-hour basis, 6 days per week, and 50
weeks per year. He will pay his employees P 25.00 per hour. He
expects to charge P 25.00 for a car wash. Out-of-pocket
miscellaneous cost would be P 8,500 per month. He would pay his
employees for 2 weeks vacation each year. Because of the length
of his lease, he must write off his investment within 5 years. His
capital now is earning 15%, and he is employed at a steady job that
pays P 25,000 per month. He desires a rate of return of at least
20% of his investment. Using annual worth method, determine the
excess of annual revenue over the annual cost. Would you
recommend the investment?
Ans. P 19,040; the man should invest
Present Worth Method
Present Worth Method this method is based on the concept of
present worth. If the present worth of all net cash flows is equal to
or greater than zero, the project is justified. Cash inflow includes
annual revenue and salvage or scrap value. Depreciation is
excluded in cash outflow.
Present Worth of all net cash flows 0
SAMPLE PROBLEMS
Example 1: An investment of P 270,000 can be made in a project
that will produce a uniform annual revenue of P 185,400 for 5
years and having a salvage value of 10% of the investment. Out of
pocket costs for operation and maintenance will be P 81,000 per
year. Taxes and insurance will be 4% of the first cost per year. The
company expects capital to earn not less than 25% before income
taxes. Using present worth method, determine the present worth
of all net cash flows. Is this a desirable investment?
Ans. P 9,436.00; It is not a desirable investment
Future Worth Method
Future Worth Method this method is exactly comparable to the
present worth method except that all cash inflows and outflows
are compounded forward to a reference point in time called the
future.
Future Worth of all net cash flows 0
SAMPLE PROBLEMS
Example 1: An investment of P 270,000 can be made in a project
that will produce a uniform annual revenue of P 185,400 for 5
years and having a salvage value of 10% of the investment. Out of
pocket costs for operation and maintenance will be P 81,000 per
year. Taxes and insurance will be 4% of the first cost per year. The
company expects capital to earn not less than 25% before income
taxes. Using future worth method, determine the future worth of
all net cash flows. Is this a desirable investment?
Ans. P 28,796.50; It is not a desirable investment

Payback (Payout) Period Method

Payback Period is defined as the length of time required to
recover the first cost of an investment from the net cash flow
produced by the investment for an interest rate of zero.
Depreciation is not included in cash outflow.
Investment Salvage Value
Payback Period =
Net annual cash flow

SAMPLE PROBLEMS
Example 1: An investment of P 270,000 can be made in a project
that will produce a uniform annual revenue of P 185,400 for 5
years and having a salvage value of 10% of the investment. Out of
pocket costs for operation and maintenance will be P 81,000 per
year. Taxes and insurance will be 4% of the first cost per year. The
company expects capital to earn not less than 25% before income
taxes. Determine the payback period.
Ans. 2.6 years
Example 2: A fixed capital investment of P 10,000,000.00 is
required for a proposed manufacturing plant and an estimated
working capital of P 2,000,000.00. Annual depreciation is
estimated to be 10% of the fixed capital investment. Determine
the rate of return on the total investment and the payout period is
the annual profit is P 2,500,000.00.
Ans. ROR = 12.5%; 4.8 years
SET 4: COMPARING ALTERNATIVES Present Worth Cost Method
Rate of Return on Additional Investment Method In comparing alternatives by this method, determine the present
The formula for the ROR on additional investment is: worth of the net cash outflows for each alternative for the same
annual net savings period of time. The alternative with the least present worth of cost
ROR on additional investment =
additional investment is selected.
annual net savings = difference in annual cost
additional investment = difference in capital invested SAMPLE PROBLEMS
Example 1: Example 1: A company is considering two types of
If the rate of return on additional investment is satisfactory, then, equipment for its manufacturing plant. Pertinent data are as
the alternative requiring a bigger investment is more economical follows:
and should be chosen. Type A Type B
First cost P 200,000 P 300,000
SAMPLE PROBLEMS Annual operating cost P 32,000 P 24,000
Example 1: A company is considering two types of equipment for Annual labor cost P 50,000 P 32,000
its manufacturing plant. Pertinent data are as follows: Insurance and property taxes 3% 3%
Type A Type B Payroll taxes 4% 4%
First cost P 200,000 P 300,000 Estimated Life 10 10
Annual operating cost P 32,000 P 24,000 If the minimum required rate of return is 15%. What is the present
Annual labor cost P 50,000 P 32,000 worth of Type A? Type B? Which equipment should be selected?
Insurance and property taxes 3% 3% Ans. P 651,689; P 632,643; Type B
Payroll taxes 4% 4%
Estimated Life 10 10
If the minimum required rate of return is 15%, which equipment
should be selected? What is the rate of return of return on
additional investment?
Ans. Type B; 18.79%

Annual Cost Method

To apply this method, the annual cost of alternatives including
interest on investment is determined. The alternative with the
least annual cost is chosen.

SAMPLE PROBLEMS
Example 1: Example 1: A company is considering two types of
equipment for its manufacturing plant. Pertinent data are as
follows:
Type A Type B
First cost P 200,000 P 300,000
Annual operating cost P 32,000 P 24,000
Annual labor cost P 50,000 P 32,000
Insurance and property taxes 3% 3%
Payroll taxes 4% 4%
Estimated Life 10 10
If the minimum required rate of return is 15%. What is the annual
cost of Type A? Type B? Which equipment should be selected?
Ans. P 129,850; P 126,056; Type B

Equivalent Uniform Annual Cost Method

In this method, all cash flows (irregular or uniform) must be
converted to an equivalent uniform annual cost, that is, a year-end
amount which is the same each year. The alternative with the least
equivalent uniform annual cost is preferred. When the EUAC
method is used, the equivalent uniform annual cost of the
alternatives must be calculated for one life cycle only.

SAMPLE PROBLEMS
Example 1: Example 1: A company is considering two types of
equipment for its manufacturing plant. Pertinent data are as
follows:
Type A Type B
First cost P 200,000 P 300,000
Annual operating cost P 32,000 P 24,000
Annual labor cost P 50,000 P 32,000
Insurance and property taxes 3% 3%
Payroll taxes 4% 4%
Estimated Life 10 10
If the minimum required rate of return is 15%. What is the EUAC
of Type A? Type B? Which equipment should be selected?
Ans. P 129,850; P 126,060; Type B
Break-Even Analysis

SAMPLE PROBLEMS
Example 1: The cost of producing a small transistor radio set
consists of P 23.00 for labor and P 37.00 for materials. The fixed
charges in operating the plant are P 100,000 per month. The
variable cost is P 1.00 per set. The radio set can be sold for P 75.00
each. Determine how many sets must be produced per month to
break-even.
Ans. 7,143 sets
Example 2: A company has a production capacity of 500 units per
month and its fixed costs are P 250,000 a month. The variable
costs per unit are P 1,150 and each unit can be sold for P 2,000.
Economy measures are instituted to reduce the fixed costs by 10%
and the variable cost be 20%. (a) Determine the old break-even
point.
(b) Determine the new break-even point.
(c) What is the old monthly profit at 100% capacity?
(d) What is the new monthly profit at 100% capacity?
Ans. 294 units per month; 208 units per month; P 175,000; P 315,
000
Example 3: Two machines are being considered for the production
of a particular part for which there is a long term demand.
Machine A costs P 50,000 and is expected to last 3 years and have
a P 10,000 salvage value. Machine B costs P 75,000 and is expected
to last 6 years and have zero salvage value. Machine A can produce
a part in 18 seconds; Machine B requires only 12 seconds per part.
The out-of-pocket hourly cost of operation is P 38 for A and P 30
for B. Monthly maintenance costs are P 200 for A and P 220 for B.
If interest on invested capital is 25%, determine the number of
parts per year at which the machines are equally economical.
Ans. 29, 544 parts
Benefit-Cost Ratio
SAMPLE PROBLEMS
Example 1: A non-profit educational research organization, is
contemplating an investment of P 1,500,000 in grants to develop
new ways to teach people the rudiments of profession. The grants
would extend over a ten-year period and would achieve an
estimated savings of P 500,000 per year in professors salaries,
student tuition, and other expenses. The program would be an
addition to ongoing and planned activities, thus an estimated P
100,000 a year would have to be released from the other program
to support the educational research. A rate of return of 15% is
expected, calculate the B/C ratio. Is this a good program?
Ans. B/C = 1.34; It is a good program
Example 2: The National Government intends to build a dam and
hydroelectric project in the Cagayan Valley at a total cost of P
455,500,000. The project will be financed by soft foreign load with
a rate of interest of 5% per year. The annual cost for operation and
maintenance, distribution facilities and others would total P
15,100,000. Annual revenues and benefits are estimated to be P
56,500,000. If the structures are expected to last for 50 years, with
no salvage value, determine the B/C ratio of the project.
Ans. B/C = 1.41