CIVIL ENGINEERING DEPARTMENT

CE 231
ENGINEERING •ECONOMY
LECTURE NOTES

WEEK 2

Simple and Compound Interest

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Simple and Compound Interest
CE 231 ENGINEERING ECONOMY
 Outline

• Simple Interest

• Compound Interest •

• Cash Flow

• Engineering Economy Factors

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 Engineering Economy

• Engineering Economy is a subset of economics concerned

with the use and "...application of economic principles"
in the analysis of engineering decisions.
•
• Engineers seek solutions to problems, and the economic
viability of each potential solution is normally
considered along with the technical aspects.
Fundamentally, engineering economics involves
formulating, estimating, and evaluating the economic
outcomes when alternatives to accomplish a defined
purpose are available.
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 Interest

• Interest may be defined as the money paid for the use of

borrowed money.

• Interest is expressed as a percentage

•

If interest = 12%

It means 12% per year

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 Interest

Interest

Simple Interest Compound Interest

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 Simple Interest

Simple Interest: With simple interest, the interest to be

paid for the repayment of a loan is proportional to the

•
length of time, the interest rate and principal sum that has

been borrowed.

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 Simple Interest

𝑰=𝑷×𝒊×𝒏

where;

I = interest •

P= principal

i= interest rate (expressed as a percentage)

n= interest period
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 Simple Interest

Example: 2000 TL has been borrowed for 1 year at an

interest rate of 10% per year. What is the interest at the end
of 1 year? •

𝑰=𝑷×𝒊×𝒏

𝐼 = 2000 × 0.1 × 1 = 𝟐𝟎𝟎 𝑻𝑳

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 Simple Interest

(Where the interest period is more than 1 year)

When a loan is made for a length of time equal to several interest

• interest period.
periods, interest is paid at the end of each
Example: 2000 TL has been borrowed for 3 years at an interest rate of
10% per year. What is the interest paid?

𝑰=𝑷×𝒊×𝒏

𝐼 = 2000 × 0.1 × 𝟑 = 600 𝑇𝐿

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 Simple Interest

Amount Interest to be Amount to be

Amount owed
owed at the paid at the end paid by the
Year at the end of the
beginning of of year borrower at the
•year
the year (P) 𝐼 =𝑃×𝑖×𝑛 end of year
1 2000 2000x0.1x1=200 2000+200=2200 200
2 2000 2000x0.1x1=200 2000+200=2200 200
3 2000 2000x0.1x1=200 2000+200=2200 2200

Total interest paid at the end of 3 years: 200 + 200 + 200 = 600 TL

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 Compound Interest

• If the borrower is allowed to keep the earned interest until

the entire loan becomes due, the loan will be increased by

•
amount equal to the interest due to the end of each year.

• In this case, no yearly interest payments are required and

the interest is said to be “compounded”.

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 Compound Interest
Example 4: 2000 TL has been borrowed for 3 years at an interest rate of
10%. What is the amount due at the end of 3 years, assuming compound
interest?
Amount Amount to be
Interest to be paid •Amount owed at
owed at the paid by the
Year at the end of year the end of the
beginning of borrower at the
𝐼 =𝑃×𝑖×𝑛 year
the year (P) end of year
1 2000 2000x0.1x1 = 200 2000+200=2200 0
2 2200 2200x0.1x1 = 220 2200+220=2420 0
3 2420 2420x0.1x1 = 242 2420+242=2662 2662

Total interest paid at the end of 3 years: 200 + 220 + 200 = 662 TL
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 Cashflow Diagrams
• Cashflow diagrams visually represent the timing of costs and incomes
over a period of time.
• Such a diagram is very easy to construct. We start with simple
horizontal time line.
•
0 1 2 3 4 5 years

• And then we add arrows to represent the cost and incomes at their
occurrence times. 500 TL 500 TL 500 TL 500 TL 500 TL
(Incomes)

0 1 2 3 4 5 years
(Costs)
10 000 TL 8 000 TL
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 Engineering Economy Factors

P
(single payment – present
worth factor)
•
F A
(single payment – future (annual equal payment
worth factor) series)

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 Engineering Economy Factors

P
(single payment – present worth factor)

0 1 2 3 4 5 years
•
(Cost)
P

or
P
(Income)

0 1 2 3 4 5 years

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 Engineering Economy Factors
F
(single payment – future worth factor)
F

0 1 2 3 4 5 years
• F
or

0 1 2 3 4 5 years
or
0 1 2 3 4 5 years

F
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 Engineering Economy Factors
A
(annual equal payment series)
A

500 TL 500 TL 500 TL 500 TL

•
0 1 2 3 4 5 6 years
or
0 1 2 3 4 5 6 years

300 TL 300 TL 300 TL

A
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 Engineering Economy Factors

Interest Factors Formula Sheet

Download from ODTUClass

•

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 Engineering Economy Factors
1) Single Payment Compound Amount Factor
(Present given, future unknown)
F = P(1 + i) n

OR
•
F=P (F/P, i, n)

from tables

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 Engineering Economy Factors

Example: 2000 TL borrowed today for 3 years at an interest

rate of 10%. What is the amount at the end of 3 years?
2000 TL F=?

•
0 1 2 3

Solution
𝑛
𝐹 = 𝑃 1+𝑖 = 2000 (1 + 0.1)3 = 2000𝑥 1.331 = 2662 𝑇𝐿

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 Engineering Economy Factors

Example: 2000 TL borrowed today for 3 years at an interest

rate of 10%. What is the amount at the end of 3 years?
2000 TL F=?

•
0 1 2 3

Alternative Solution

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

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 Engineering Economy Factors

Example: 2000 TL borrowed today for 3 years at an interest rate of 10%.

What is the amount at the end of 3 years?
Alternative Solution
F=P (F/P, i, n) =2000 (F/P, 10%, 3)
•

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 Engineering Economy Factors

Example: 2000 TL borrowed today for 3 years at an interest rate of 10%.

What is the amount at the end of 3 years?

Alternative Solution
F=P (F/P, i, n) •

F=P (F/P, 10%, 3)

F = 2000 x 1.331

F= 2662 TL

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 Engineering Economy Factors
2) Single Payment Present Worth Factor
(Future given, present unknown)
P =F/ (1+i)n

OR
•
P = F (P/F, i, n)

from tables

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 Engineering Economy Factors
Example: 2662 TL will be received in 3 years time. If the
interest rate is 10%, what is the present worth amount?
P=? F = 2662 TL

•
0 1 2 3

Solution

F 2662
P= n = = 2000 TL
(1+i) (1+0.1) 3
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 Engineering Economy Factors
Example: 2662 TL will be received in 3 years time. If the
interest rate is 10%, what is the present worth amount?
P=? F = 2662 TL

•
0 1 2 3

Alternative Solution

F = (P/F, i, n)

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 Engineering Economy Factors

Example: 2662 TL will be received in 3 years time. If the

interest rate is 10%, what is the present worth amount?
Alternative Solution
P = F (P/F, i, n) = 2662 (P/F, 10%, 3)
•

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 Engineering Economy Factors

Example: 2662 TL will be received in 3 years time. If the

interest rate is 10%, what is the present worth amount?

Alternative Solution
•
P = F (P/F, i, n)

P = 2662 (P/F, 10%, 3)

P = 2662 x 0.7513

P = 2000 TL
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 Engineering Economy Factors
3) Equal Payment Series Compound Amount Factor
(Annual given, future unknown)
1+𝒊 𝒏−1
𝑭=𝑨
𝒊
OR
𝑭 = 𝑨(𝑭Τ𝑨 ,•𝒊, 𝒏)

from tables

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 Engineering Economy Factors
Example: Find the future value of the given cash flow at the
end of the third year. Interest rate is 10%.
0 1 2 3

•
200 TL 200 TL 200 TL

Solution
F = 662 TL
𝑛
1+𝑖 −1 1.13 – 1 200 𝑥 0.331
𝐹 = 𝐴 = 200 = = 662 𝑇𝐿
𝑖 0.1 0.1

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 Engineering Economy Factors
Example: Find the future value of the given cash flow at the
end of the third year. Interest rate is 10%.
0 1 2 3

•
200 TL 200 TL 200 TL

Alternative Solution

𝐹 = 𝐴 𝐹 Τ𝐴 , 𝑖, 𝑛

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 Engineering Economy Factors
Example: Find the future value of the given cash flow at the
end of the third year. Interest rate is 10%.
Alternative Solution
𝐹 = 𝐴 𝐹 Τ𝐴 , 𝑖, 𝑛 = 200 𝐹 Τ𝐴 , 10%, 3
•

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 Engineering Economy Factors
Example: Find the future value of the given cash flow at the
end of the third year. Interest rate is 10%.

Alternative Solution
•
𝐹 = 𝐴 𝐹 Τ𝐴 , 𝑖, 𝑛

𝐹 = 200 𝐹 Τ𝐴 , 10%, 3

𝐹 = 200 x 3.31

𝐹 = 662 TL
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 Engineering Economy Factors
4) Equal Payment Series Sinking Fund Factor
(Future given, annual unknown)
𝒊
𝑨=𝑭
1+𝒊 𝒏−1
OR
𝑨 = 𝑭(𝑨Τ𝑭•, 𝒊, 𝒏)
from tables

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 Engineering Economy Factors
Example: If one wants to accumulate 662 TL in three years
time, with an interest rate of 10%, how much money should be
put aside at the end of each year?

Solution
𝑖
𝐴=𝐹
1+𝑖 𝑛−1
0.10
𝐴 = 662 3
= 200 𝑇𝐿/𝑦𝑒𝑎𝑟
(1 + 0.1) −1

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 Engineering Economy Factors
Example: If one wants to accumulate 662 TL in three years
time, with an interest rate of 10%, how much money should be
put aside at the end of each year?

Alternative Solution •

𝐴 = 𝐹(𝐴Τ𝐹 , 𝑖, 𝑛)

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 Engineering Economy Factors
Example: If one wants to accumulate 662 TL in three years
time, with an interest rate of 10%, how much money should be
put aside at the end of each year?
Alternative Solution
𝐴 = 𝐹(𝐴Τ𝐹 , 𝑖, 𝑛) = 662(𝐴Τ𝐹• , 10%, 3)

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 Engineering Economy Factors
Example: If one wants to accumulate 662 TL in three years
time, with an interest rate of 10%, how much money should be
put aside at the end of each year?
Alternative Solution
𝐴 = 𝐹 𝐴Τ𝐹 , 𝑖, 𝑛 •

𝐴 = 662(𝐴Τ𝐹 , 10%, 3)

𝐴 = 662 x 0.30211

𝐴 = 200 TL/year

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 Engineering Economy Factors
5) Equal Payment Series Capital Recovery Factor
(Present given, annual unknown)
𝒊 (𝟏 + 𝒊)𝒏
𝑨=𝑷
(𝟏 + 𝒊)𝒏 −𝟏
OR
𝑨 = 𝑷(𝑨/𝑷,•𝒊, 𝒏)
from tables

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 Engineering Economy Factors
Example: A man wants to borrow 2000 TL now and repay it in 4 years.
What is the annual payment amount? Given i=10%.

Solution
0.1 (1+0.1)4
𝐴 = 2000 = 631 𝑇𝐿/𝑦𝑒𝑎𝑟
(1+0.1)4 −1

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 Engineering Economy Factors
Example: A man wants to borrow 2000 TL now and repay it in 4 years.
What is the annual payment amount? Given i=10%.

•
Alternative Solution
𝐴
𝐴 = 𝑃(𝐴/𝑃, 𝑖, 𝑛) = 2000 , 10, 4 = 2000 𝑥 0.31547 = 631 𝑇𝐿/𝑦𝑒𝑎𝑟
𝑃

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 Engineering Economy Factors
6) Equal Payment Series Present Worth Factor
(Annual given, present unknown)

(𝟏 + 𝒊)𝒏 −𝟏
𝑷=𝑨
𝒊 (𝟏 + 𝒊)𝒏
OR •
𝑷 = 𝑨(𝑷/𝑨, 𝒊, 𝒏)
from tables

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 Engineering Economy Factors
Example: A man has a house from which he receives a rental of
631 TL/year. He is on a contract for 4 years. What is the present worth of
his earnings? Given i=10%.
A=631 TL/year

0 1 2 • 3 4

P=?

Solution
1.14 – 1
𝑃 = 631 = 2000 𝑇𝐿
0.1 𝑥 1.14 4

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 Engineering Economy Factors
Example: A man has a house from which he receives a rental of
631 TL/year. He is on a contract for 4 years. What is the present worth of
his earnings? Given i=10%. A=631 TL/year

0 1 2 3 4
•
Alternative Solution: P=?

𝑃 = 𝐴 𝑃/𝐴, 𝑖, 𝑛 = 631 𝑃/𝐴, 10, 4 = 631 𝑥 3.1699 = 2000 𝑇𝐿

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 Engineering Economy Factors
7) Uniform (increasing) gradient series factor
𝟏 𝒏
𝑨 = 𝑨𝟏 + 𝑮 −
𝒊 𝟏+𝒊 𝒏−𝟏
OR
𝑨 = 𝑨𝟏 + 𝑮(𝑨/𝑮, 𝒊, 𝒏)
•
from tables

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 Engineering Economy Factors
7) Uniform (decreasing) gradient series factor
𝟏 𝒏
𝑨 = 𝑨𝟏 − 𝑮 −
𝒊 𝟏+𝒊 𝒏−𝟏
OR
𝑨 = 𝑨𝟏 − 𝑮(𝑨/𝑮, 𝒊, 𝒏)
•
from tables

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 Engineering Economy Factors
Example: A man has an annual income of 2000 TL that is increasing
with a rate of 200 TL every year. What is the equivalent annual income if
these payments are to continue for 5 years? (i=10%)
2800
2600
2200 2400
2000
•
0 1 2 3 4 5
Solution
1 𝑛
𝐴 = 𝐴1 + 𝐺 −
𝑖 1+𝑖 𝑛−1

1 5
𝐴 = 2000 + 200 − = 2000 + 200 × 1.8101
0.10 1+0.10 5 −1

𝐴 = 2362.02 𝑇𝐿/𝑦𝑒𝑎𝑟
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 Engineering Economy Factors
Example: A man has an annual income of 2000 TL that is increasing
with a rate of 200 TL every year. What is the equivalent annual income if
these payments are to continue for 5 years? (i=10%)
2800
2600
2200 2400
2000
•
0 1 2 3 4 5
Alternative Solution
𝐴 = 𝐴1 +𝐺(𝐴/𝐺, 𝑖, 𝑛)
𝐴 = 2000 + 200 𝐴Τ𝐺 , 10%, 5
𝐴 = 2000 + 200 x 1.8101
𝐴 = 2000 + 362.02 = 2362.02 𝑇𝐿/𝑦𝑒𝑎𝑟

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 Summary
• Interest (Simple & Compound)
• Cashflow diagram (End of year notation)
500 TL 500 TL 500 TL 500 TL 500 TL
(Incomes)
•
0 1 2 3 4 5 years
(Costs)
10 000 TL 8 000 TL P

• Time value of money

A
F
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 Things to do for the next week

Please study the “Cash Flow

• Examples” that will
be uploaded in our webpage, before attending the
lecture next week.

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