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Engineering Economy

Engineering Economics (University of Mindanao)

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ENGINEERING ECONOMY Ans. P 4,133.33

Example 5: How long will it take for a deposit of P 1, 500.00 to earn P 186
Engineering Economy – is the analysis and evaluation of the factors that if invested at the simple interest rate of 7 1/3%?
will affect the economic success of engineering projects to the end that a Ans. 1.6909 years
recommendation can be made which will ensure the best use of capital. 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.
SET 1A: INTEREST AND MONEY-TIME RELATIONSHIPS Ans. P 18,348.60
Interest – is the amount of money paid for the use of borrowed capital Example 7: (CE Board) A deposit of P 110,000 was made for 31 days. The
(borrower’s viewpoint) or the income produced by money which has been net interest after deducting 20% withholding tax is P 890.36. Find the rate
loaned (lender’s viewpoint). of return annually.
F =P+I Ans. 11.75%
Where: Example 8: A man buys an electric fan from a merchant that charges
I = interest P1500.00 at the end of 90 days. The man wishes to pay cash. What is the
P = principal or present worth cash price if money is worth 10% simple interest?
F = accumulated amount or future worth Ans. P 1,463.41
Example 9: What amount will be available in eight months if P 15,000.00
Cash-Flow Diagrams is invested now at 10% simple interest per year?
Cash-Flow Diagram – is a graphical representation of cash flows drawn on Ans. P 16,000.00
a time scale. Example 10: P 1000.00 becomes P 1500.00 in three years. Find the simple
↑ - receipt (positive cash flow or cash inflow) interest rate.
↓ - disbursement (negative cash flow or cash outflow) Ans. 16.67%
Example: A loan of P100 at simple interest will becomeP150 after 5 years. 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 lender

Principal at
Interest Interest Earned Amount at End of
Beginning of
Period During Period Period
Period
1 P Pi P(1+i)
2 P(1+i) P(1+i)i P(1+i)2
Cash flow diagram on the viewpoint of the borrower
3 P(1+i)2 P(1+i)2i P(1+i)3
Simple Interest
Simple Interest – is calculated using the principal only, ignoring any … … … …
interest that has been accrued in preceding periods.
N P(1+i)n-1 P(1+i)n-1i P(1+i)n
I = Pni
F = P(1 + in)
Where: F = P(1 + i)n
F⁄ = (1 + i)n = (F⁄ , i%, n)
I = interest P P
P = principal or present worth P = F(1 + i)−n
n = number of interest periods P⁄ = (1 + i)−n = (P⁄ , i%, n)
F F
i = rate of interest per period Where:
F = accumulated amount or future worth F = accumulated amount or future worth
For Ordinary Simple Interest: P = principal or present worth
Interest period = 1 year = 360 days i = rate of interest per interest period
For Exact Simple Interest: n = number of compounding periods
Interest period = 1 year = 365 days (ordinary year) F/P = single payment compound amount factor
= 366 days (leap year) P/F = single payment present worth factor

SAMPLE PROBLEMS Nominal Rate of Interest – specifies the rate of interest and the number of
Example 1: Determine the ordinary simple interest on P 20,000 for 9 interest periods in one year.
months and 10 days if the rate of interest is 12%.
Ans. P 1,866.67 r
i=
Example 2: Determine the (a) ordinary and (b) exact simple interests on P m
100,000 for the period January 15 to June 20 2012 if interest is 15%. n = my
Ans. (a) P 6,541.67; (b) P 6434.43 r my
F = P (1 + )
Example 3: Calculated the exact interest on an investment of P 2,000.00 m
for a period from January 30 to September 15, 2001 if the rate of interest
is 10%. Where:
Ans. P124.93 i = rate of interest per interest period
Example 4: If P 4000 is borrowed for 75 days at 16% per annum. How n = number of compounding periods
much will be due at the end of 75 days? r = nominal rate of interest

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m = number of compounding periods per year his last deposit for the purpose of buying shoes, what will be the amount
y = number of years of money left in the bank after one year of his withdrawal? Effective annual
interest rate is 10%.
Compounding Period m Ans. P 1,549.64
Compounded Quarterly 4 Example 17: If the interest rate of a certain account is 6.5%, compute the
Compounded Semi-annually 2 (a) single payment present worth factor; and (b) single payment
Compounded Monthly 12 compound amount factor at the end of 18 years.
Compounded Bi-monthly 6 Ans. (a) 0.322; (b) 3.107

Effective Rate of Interest – is the actual or exact rate of interest on the Continuous Compounding Interest
principal during 1 year, or simply the ratio of accumulated interest in one From the compound interest formula for m periods per year:
year to the principal amount. r my
F = P (1 + )
m
m
F−P Let = k, then m = rk, as m increases, so must k:
ER = r
P r my 1 rky 1 k
ry
r m (1 + ) = (1 + ) = [(1 + ) ]
ER = (1 + i)m − 1 = (1 + ) − 1 m k k
m
1 k
The limit of (1 + ) as k approaches infinity is e, thus:
SAMPLE PROBLEMS k

Example 1: The amount of P 20,000 was deposited in a bank earning an F = Pery

interest rate of 6.5% per annum. Determine the total amount at the end of The effective rate of interest for continuous compounding is:
7 years if the principal and interest were not withdrawn during this ER = er − 1
period. Where:
Ans. P 31,079.73 F = accumulated amount or future worth
Example 2: A man expects to receive P 25,000 in 8 years. How much is that P = principal or present worth
money worth now considering interest at 8% compounded quarterly? r = nominal rate of interest
Ans. P 13,265.83 y = number of years
Example 3: How many years will P 100,000 earn a compounded interest e = Euler’s number
of P 50,000 if interest is 9% compounded quarterly? ery = continuous compound amount factor
1⁄ ry = present worth of continuous compounding factor
Ans. 4.56 years e
Example 4: Find the effective rate of interest corresponding to 8%
compounded quarterly. SAMPLE PROBLEMS
Ans. 8.24% Example 1: P 100,000 is deposited in a bank that earns 5% compounded
Example 5: Find the nominal rate, which if converted quarterly could be continuously. What will be the amount after 10 years?
used instead of 12% compounded semiannually? Ans. P 164,872.13
Ans. 11.825% Example 2: Money is deposited in a certain account for which interest is
Example 6: If money is worth 5% compounded quarterly, find the equated compounded continuously. If the balance doubles in 6 years, what is the
time for paying a loan of P 150,000 due in one year and P 280,000 in 2 annual percentage rate?
years. Ans. 11.55%
Ans. 1.64 years Example 3: A man wishes to have P 40,000 in a certain fund at the end of
Example 7: Five years ago, you paid P 340,000 for a lot. Today you sold it 8 years. How much should he invest in a fund that will pay 6%
at P 500,000. What is the annual rate of appreciation? compounded continuously?
Ans. 8% Ans. P 24, 751.34
Example 8: John borrowed P50, 000.00 from the bank at 25% Example 4: If the effective annual interest rate is 4%, compute the
compounded semi-annually. What is the equivalent effective rate of equivalent nominal interest compounded continuously.
interest? Ans. 3.924%
Ans. 26.56% Example 5: What is the nominal rate of interest compounded continuously
Example 9: Find the present worth of a future payment of P 300,000 to be for 10 years if the compound amount factor is 1.34986?
made 5 years with an interest rate of 8% per annum. Ans. 3%
Ans. P 204,174.96 Example 6: Deposits of P35,000.00, P48,000.00 and P25,000.00 were
Example 10: How long will it take money to double itself if invested at 5% made in a savings account eight years, five years, and two years ago,
compounded annually? respectively. Determine the accumulate amount in the account today if a
Ans. 14.2 years withdrawal of P55,000.00 was made four years ago. The applied interest
Example 11: The amount of P 50,000 was deposit in the bank earning an rate is 11% compounded continuously.
interest of 7.5% per annum. Determine the total amount at the end of 5 Ans. P 113,330.66
years, if the principal and interest were not withdrawn during the period?
Ans. P 71,781.47 Discount
Example 12: Compute the equivalent rate of 6% compounded semi- Discount – is the difference between the future worth of a certain
annually to a rate compounded quarterly. commodity and its present worth.
Ans. 5.96% compounded quarterly 2 Types of Discount:
Example 13: If P5, 000.00 shall accumulate for 10 years at 8% Trade Discount – discount offered by the seller to induce trading.
compounded quarterly. Find the compounded interest at the end of 10 Cash Discount – is the reduction on the selling price offered to a buyer to
years. induce him to pay promptly.
Ans. P 6,040.20 D =F−P
Example 14: A sum of P 1,000.00 is invested now and left for eight years, Where:
at which time the principal is withdrawn. The interest has accrued is left D = amount of discount
for another eight years. If the effective annual interest rate is 5%, what will F = accumulated amount or future worth
be the withdrawal amount at the end of the 16th year? P = principal or present worth
Ans. P 705.42 Discount Rate – is the discount on one unit of principal per unit of time.
Example 15: By the condition of a will, the sum of P 2,000 is left to a girl to F−P
d= = 1 − (1 + i)−1
be held in trust fund by her guardian until it amounts to P 5,000, when will F
the girl received the money if the fund is invested at 8% compounded If the commodity is discounted in a certain period of time:
quarterly? Fd = F − P
Ans. 11.57 years P = F(1 − d) For 1 year
Example 16: A student plan to deposit P1, 500 in the bank now and another P = F(1 − nd) For n years
P3, 000 for the next 2 years. If he plans to withdraw P5, 000 3 years after The relationship between discount rate and interest rate becomes:

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d P + Pi = A + A(1 + i)−1 + A(1 + i)−2 + ⋯ + A(1 + i)−n+2 + A(1 + i)−n+1

i=
i−d → Eq. 2
and Subtracting Eq. 1 from Eq. 2:
i Pi = A − A(1 + i)−n
d=
1+i A A (1 + i)n − 1
Where: P = [1 − (1 + i)−n ] = [ ]
i i (1 + i)n
d = discount rate for the period involved n
i = rate of interest for the same period P⁄ = [(1 + i) − 1] = (P⁄ , i%, n)
A i(1 + i)n A
The functional symbol (P/A, i%, n) is called the “uniform series present
SAMPLE PROBLEMS
Example 1: Mr. T borrowed money from the bank. He receives from the worth factor”.
n
bank P 1,340 and promised to pay P 1,500 at the end of 9 months. A⁄ = [ i(1 + i) ] = (A⁄ , i%, n)
P (1 + i)n − 1 P
Compute: (a) Simple interest rate; and (b) Discount Rate.
Ans. (a) 15.92%; (b) 13.73% The functional symbol (A/P, i%, n) is called the “capital recovery factor”.
Example 2: Find the discount if P 2,000 is discounted for 6 months at 8% Where:
simple discount. P = value or sum of money at present
Ans. P 80 A = series of periodic equal amount of payments
Example 3: Discount 1650 for 4 months at 6% simple interest. What is i = interest rate per interest period
the discount? n = number of interest periods/number of equal payments
Ans. P 32.35 P/A = uniform series present worth factor
A/P = capital recovery factor
Inflation
Inflation – is the increase in the prices for goods and services from one year Substituting P = F(1 + i)−n from the equation of P, it becomes:
to another, thus decreasing the purchasing power of money. A
F = [(1 + i)n − 1]
FC = PC(1 + f)n i
Where:
FC = future cost of a commodity
PC = present cost of a commodity
f = annual inflation rate
n = number of years
In an inflationary economy, the buying power of money decreases as cost
increases:
P
F=
(1 + f)n
If interest is computed as the same time that inflation is occurring:
n
1+i n F⁄ = [(1 + i) − 1] = (F⁄ , i%, n)
F = P( ) A i A
1+f
Where: The functional symbol (F/A, i%, n) is called the “uniform series compound
F = future worth of today’s present amount P amount factor”.
f = annual inflation rate A⁄ = [ i
F ] = (A⁄F , i%, n)
n = number of years (1 + i)n − 1
i = rate of interest The functional symbol (A/F, i%, n) is called the “sinking fund factor”.
If the uninflated present worth is to be determined: Where:
F F F = value or sum of money at some future time
P= =
(1 + i)n (1 + f)n (1 + icf )n A = series of periodic equal amount of payments
icf = i + f + if i = interest rate per interest period
SAMPLE PROBLEMS n = number of interest periods/number of equal payments
Example 1: A man invested P 130,000 at an interest rate of 10% F/A = uniform series compound amount factor
compounded annually. What will be the final amount of his investment, in A/F = sinking fund factor
terms of today’s peso, after 5 years, if inflation remains the same at the rate
of 8% per year? SAMPLE PROBLEMS
Ans. P 142,491 Example 1: Find the annual payment to extinguish a debt of P 100,000
Example 2: What is the uninflated present worth of a P 200,000 future payable for 6 years at 12% interest annually.
value in two years if the average inflation rate is 6% and interest rate is Ans. P 24,322.57
10%. Example 2: What annuity is required over 12 years to equate to a future
Ans. P 147,107 amount of P 200,000? i = 8%.
Ans. P 10,539.00
SET 1B: ANNUITIES Example 3: A man paid 10% downpayment of P 200,000 for a house and
Annuity – is a series of equal payments occurring at equal periods of time. lot and agreed to pay the 90% balance on monthly installment for 60
months at an interest rate of 15% compounded monthly. Compute the
Ordinary Annuity amount of monthly payment.
Ordinary Annuity – a type of annuity were equal payments are made at the Ans. P 42,821.87
end of each period. 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
Example 5: A piece of machinery can be bought for P 10,000 cash, or for P
2,000 downpayment and payments of P 750 per year for 15 years. What is
the annual interest rate of the time payments?
Ans. 4.6%
Example 6: A man inherited a regular endowment of P 100, 000 every of 3
months for 10 years. However, he may choose to get a single lump sum
payment at the end of 4 years. How much is this lump sum if the cost of
P = A(1 + i)−1 + A(1 + i)−2 + A(1 + i)−3 + ⋯ + A(1 + i)−(n−1)
money is 14% compounded quarterly?
+ A(1 + i)−n → Eq. 1
Ans. P 3,702,939.73
Multiplying this equation by (1 + i), the equation becomes:

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Example 7: A service car whose cash price was P 540,000 was bought with
a down payment of P 162,000 and monthly installment of P 10,874.29 for
5 years. What was the rate of interest if compounded monthly?
Ans. 24% compounded monthly
Example 8: If P500.00 is invested at the end of each year for 6 years, at an
annual interest rate of 7%, what is the total peso amount available upon
the deposit of the sixth payment?
Ans. P 3,576.65
Example 9: A man purchased a car with a cash price of P 350,000. He was
able to negotiate with the seller to allow him to pay only a down payment A
of 20% and the balance payable in equal 48 end of the month installment F= [(1 + i)n+1 − 1] − A
i
at 1.5% interest per month. On the day he paid the 20th installment, he Where:
decided to pay the remaining balance. How much is the monthly payment P = value or sum of money at present
and what is the remaining balance that he paid? F = value or sum of money at some future time
Ans. P 186,927.24 A = series of periodic equal amount of payments
Example 10: For having been loyal, trustworthy and efficient, the company i = interest rate per interest period
has offered a superior a yearly gratuity pay of P 20,000.00 for 10 years n = number of interest periods/number of equal payments
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 SAMPLE PROBLEMS
his retirement less interest that the company would have earned if the Example 1: If money is worth 4% compounded semiannually, find the
gratuity is to be paid on yearly basis. If interest is 15%, what is the present amount of an annuity due paying P 5,000 semiannually for a term
equivalent lump sum that he could get? of 3.5 years.
Ans. P 100,375.37 Ans. P 33,007.15
Example 11: In anticipation of a much bigger volume of business after 10 Example 2: A man agrees to make equal payments at the beginning of each
years, a fabrication company purchased an adjacent lot for its expansion 6 months for 10 years to discharge a debt of P 50,000 due now. If money
program where it hopes to put up a building projected to cost P is worth 8% compounded semiannually, find the semiannual payment.
4,000,000.00 when it will be constructed 10 years after. To provide for the Ans. P 3,537.58
required capital expense, it plans to put up a sinking fund for the purpose. Example 3: To accumulate a fund of P 80,000 at the end of 10 years, a man
How much must the company deposit each year if interest to be earned is will make equal annual deposits in the fund at the beginning of each year.
computed at 15%? How much should he deposit if the fund is invested at 5% compounded
Ans. P 197,008.25 annual deposits annually?
Example 12: A new office building was constructed 5 years ago by a Ans. P 6,057.49
consulting engineering firm. At that time the firm obtained the bank loan Example 4: Determine the present worth and the accumulated amount of
for P 10,000,000 with a 20% annual interest rate, compounded quarterly. an annuity consisting of 6 payments of P120, 000 each, the payment are
The terms of the loan called for equal quarterly payments for a 10-year made at the beginning of each year. Money is worth 15% compounded
period with the right of prepayment any time without penalty. Due to
annually.
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 Ans. P = P 522,259; F = P 1,208,016
term with an interest rate of 24% per annum, compounded quarterly. The Example 5: A farmer bought a tractor costing P 25,000 payable in 10 semi-
insurance company has a onetime service charge 5% of the balance. This annual payments, each installment payable at the beginning of each
new loan also calls for equal quarterly payments. period. If the rate of interest is 26% compounded semi-annually,
a.) What is the balance due on the original mortgage (principal) if all determine the amount of each installment.
payments have been made through a full five years? Ans. P 4,077.20
b.) What will be the difference between the equal quarterly payments in Example 6: A certain manufacturing plant is being sold and was submitted
the existing arrangement and the revised proposal? for bidding. Two bids were submitted by interested buyers. The first bid
Ans. (a) P 7,262,747.03; (b) P 120,862 offered to pay P 200,000 each year for 5 years, each payment being made
Example 13: An annual payment is made for 10 years with an annual at the beginning of each year. The second bid offered to pay P 120,000 the
interest rate of 8%. Compute the following: first year, P 180,000 the second year, and P 270,000 each year for the next
(a) Uniform series present worth factor; 3 years, all payments being made at the beginning of each year. If money
(b) Capital recovery factor; is worth 12% compounded annually, which bid should the owner of the
(c) Uniform series compound amount factor; plant accept?
(d) Sinking fund factor Ans. second bid, Present worth = P 859,727.18
Ans. (a) 6.710; (b) 0.149; (c) 14.487; (d) 0.069
Deferred Annuity
Annuity Due Deferred Annuity – a type of annuity were the first payment is made several
Annuity Due – a type of annuity were equal payments are made at the periods after the beginning of annuity.
beginning of each period. A (1 + i)n − 1
P= [ ] (1 + i)−m
i (1 + i)n

A (1 + i)n−1 − 1
P=A+ [ ]
i (1 + i)n−1
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
m = number of interest periods when there is no payment made

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SAMPLE PROBLEMS ER = er − 1
Example 1: The present value of an annuity of R pesos payable annually Replacing the interest rate for the formula of ordinary annuity with ER, the
for 8 years, with the 1st payment at the end of 10 years is P 187,481.25. formula becomes:
Find the value of R if money if money is worth 5%. A ern − 1
P= r ( rn )
Ans. P 45,000 e −1 e
Example 2: A parent on the day that child is born wishes to determine what A
F= r (ern − 1)
lump sum would have to be paid into an account bearing interest of 5% e −1
compounded annually, in order to withdraw P 20,000 each on the child’s SAMPLE PROBLEMS
18th, 19th , 20th and 21th birthdays? Example 1: Determine the accumulated amount to an account paying P
Ans. P 30,941.73 5,000 annually (payments are made at the beginning of each period) for
Example 3: An asphalt road requires no upkeep until the end of 2 years 18 years if money is worth 8% compounded continuously. Also determine
when P60, 000 will be needed for repairs. After this P90, 000 will be the present worth.
needed for repairs at the end of each year for the next 5 years, then P120, Ans. P 193,349.09; P 45,809.77
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 Capitalized Cost
the 12-year period? Capitalized Cost – is the sum of the first cost and the present worth of all
Ans. P 79,245.82 costs of replacement, operation and maintenance for a long period of time
Example 4: A man wishes to provide a fund for his retirement such that of any property.
from his 60th to 70th birthdays he will be able to withdraw equal sums of Capitalized Cost = First Cost + Present Worth of Perpetual Operations
P18, 000 for his yearly expenses. He invests equal amount for his 41st to
and Maintenance + Present Worth of Perpetual Replacement by Sinking
59th birthdays in a fund earning 10% compounded annually. How much
Fund Method
should each of these amounts be?
R
Ans. P 2,285.25 Present Worth of Perpetual Replacement =
Example 5: A lathe for a machine shop costs P 60,000, if paid in cash. On (1 + i)L − 1
the installment plan, a purchaser should pay P 20,000 downpayment and R = FC − SV
10 quarterly installments, the first due at the end of the first year after Where:
purchase. If money is worth 15% compounded quarterly, determine the R = replacement cost
quarterly installment. FC = first cost
Ans. P 5,439.18 SV = salvage value
Example 6: A man invests P 10,000 now for the college education of his 2 i = interest rate per interest period
year old son. If the fund earns 14% effective interest rate, how much will L = useful life in years
his son get each year starting from his 18th to the 22nd birthday?
Ans. P 20,791.64 SAMPLE PROBLEMS
Example 1: The first cost of a certain equipment is P 324,000 and a salvage
Perpetuity
value of P 50,000 at the end of its life of 4 years. If money is worth 6%
Perpetuity – a type of annuity in which payments continue indefinitely.
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
A Example 4: A bridge that was constructed at a cost of P 7.5M is expected to
P= last 30 years at the end of which time its renewal cost will be P 4M. Annual
i
Where: repairs and maintenance is P 300,000. What is the capitalized cost of the
P = value or sum of money at present bridge at an interest of 6%?
A = series of periodic equal amount of payments Ans. P 13,343,260.77
i = interest rate per interest period 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
SAMPLE PROBLEMS yrs. The annual operating costs will be P100, 000 at the end of every year
Example 1: Find the present worth of perpetuity of P 5,200 payable for the first 4 years and P160, 000 thereafter. In addition, there is expected
monthly if the interest is 16% compounded monthly. to be recurring major rework cost of P 300,000 every 13 yrs. Assume i
Ans. P 390,000 =15%.
Example 2: Find the present value of a perpetuity of P 15,000 payable Ans. P 4,281,936
semiannually if money is worth 8% compounded quarterly.
Ans. P 371,287 Uniform Arithmetic Gradient
Example 3: If money is worth 8%, determine the present value of a Uniform Arithmetic Gradient – is the increase by a relatively constant
perpetuity of P 1,000 payable annually with the 1st payment due at the end amount each period.
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 The cash flow above is equal to the sum of the two cash flows below:
For an annuity compounded continuously, replace interest rate with the
effective rate for compounded continuously. Recall that:

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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

A = P 1000, n = 5 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
We denote the difference between two preceding amount (increase per used for 10 years. The scrap value is P 500. Determine the total
period) as G, which is also known as uniform gradient amount, in this depreciation at the end of 5 years.
case: Ans. P 4750
G = 500, n = 5 Example 4: An engineer bought an equipment for P 500,000.00. He spent
The formulas that may be used in this type of cash flow may be analyzed an additional amount of P 30,000 for installation and other expenses. The
using this formulas: salvage value is 10% of the initial first cost. Life = 15 years. Compute the
P = PA + PG following:
A (1 + i)n − 1 (a) Annual Depreciation.
PA = [ ]
i (1 + i)n (b) Book Value after 6 years.
n
G (1 + i) − 1 (c) Total depreciation after 10 years.
PG = [ − n] (1 + i)−n Ans. (a) P 31,800; (b) P 339,200; (c) P 318,000
i i
1 (1 + i)n − 1 Example 5: A machine cost P 73,500 and has a life of 8 years with a
PG⁄
G= i[ − n] (1 + i)−n salvage value of P 3500 at the end of 8 years. Determine the book value at
i
the end of 4 years using straight line method.
Where:
Ans. P 38,500
PG/G = Gradient to present worth factor
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
SAMPLE PROBLEMS
salvage value of 13% in 12 years? Use straight-line method.
Example 1: An individual makes 5 deposits that increase uniformly by P
Ans. P 50,400
300 every month in a savings account that earns 12% compounded
Example 7: The initial cost of paint sand mill, including its installation is,
monthly. If the initial deposit is P 4,500, determine the accumulated
P800 000.00. The BIR approved life of this machine is 10 years for
amount in the account just after the last deposit.
depreciation. The estimated salvage value of the mill is P 50,000.00 and
Ans. P 25,984.67
the cost of dismantling is estimated to be P 15,000.00. Using straight line
Example 2: An amortization of a debt is in a form of a gradient series. (a)
depreciation, what is the annual depreciation charge and what is the book
What is the equivalent present worth of the debt if interest is 5%. (b)
value of the machine at the end of six years?
Determine also the future amount of amortization as well as the equivalent
Ans. P 76,500; P 341,000
uniform periodic payment. (c) What is the equivalent uniform annual cost?
Example 8: An equipment has a salvage value of P1M at the end of 50 years.
Ans. P 15,178.34; P 18,449.37; P 4,280.47
The straight line depreciation charge is P2M.
(a) What is the first cost of the machine?
SET 2: DEPRECIATION
(b) What is the book value after 25 years?
Depreciation – is the decrease in value of physical property with the
(c) At what year will its total depreciation be P30M?
passage of time.
Ans. P 101M; P 51M; 15th year
Book Value – is the worth of property as shown on the accounting records
of an enterprise Sinking Fund Method
Salvage/Resale Value – is the price that can be obtained from the sale of Sinking Fund Method – a method which assumes that the sinking fund
the property after it has been used. established in which funds will accumulate for replacement. The total
Scrap Value – the amount of property would sell if disposed of as junk. depreciation that has been taken place up to any given time is assumed to
BVm = FC − Dm be equal to the accumulated amount in the sinking fund at any time.
DL = FC − SV d1 = d2 = ⋯ = dm = dL = d
Where: (FC − SV)i
d=
BVm = book value of a property at any time m (1 + i)L − 1
Dm = total depreciation of a property at any time m d
Dm = [(1 + i)m − 1]
DL = total depreciation at the end of its useful life i
FC = first cost d
DL = [(1 + i)L − 1]
SV = salvage or scrap value i
Where:
Straight Line Method d = depreciation at any year
Straight Line Method –a method which assumes that the loss in value is Dm = total depreciation of a property at any time m
directly proportional to the age of the property. DL = total depreciation at the end of its useful life
d1 = d2 = ⋯ = dm = dL = d L = useful life in years
FC − SV FC = first cost
d= SV = salvage or scrap value
L
Dm = md
DL = Ld SAMPLE PROBLEMS

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Example 1: Given FC = 100,000, SV = 10,000, L = 10 years, i = 5%. Ans. P 12,969.60; P 9,965.84

(a) Annual Depreciation, d. Example 5: An engineer bought an equipment for P 800,000. Other
(b) Book Value after 3 years. expenses, including installation, amounted to P 50,000. At the end of its
(c) Book Value after 8 years. estimated useful life of 10 years, the salvage value will be 10% of the first
Ans. P 7,155.41; P 77,442.56; P 31,672.21 cost. Using the constant percentage method of depreciation, what is the
Example 2: An equipment cost P 100,000 with a salvage value of P 5,000 book value after 5 years?
at the end of 10 years. Ans. P 268,793.20
Using Sinking Fund Method with interest rate= 4%.
(a) Compute the annual depreciation cost. Double Declining Balance Method
(b) Find the book values at years 1 to 4. Double Declining Balance Method – a method which is similar to declining
Ans. (a) P 7,912.64; (b) P 92,087.36; P 83,858.21; P 75,299.90; P 66,399.26 balance method except that the rate of depreciation k is replaced by 2/L.
Example 3: A plant erected to manufacture socks with a first cost of P 2 m−1 2
10,000,000 with an estimated salvage value of P 100,000 at the end of 25 dm = FC (1 − )
L L
years. Find the appraised value to the nearest 100 by sinking fund method 2 m
at 6% interest rate at the end of BVm = FC (1 − )
L
a. 10 years Dm = FC − BVm
b. 20 years Where:
Ans. P 7,621,600; P 3,362,200 dm = depreciation at any time m
Example 4: A factory is constructed at a 1st cost of P 8,000,000 and with an BVm = book value of a property at any time m
estimated salvage value of P 200,000 at the end of 25 years. Find its Dm = total depreciation of a property at any time m
appraised value to the nearest 100 at the end of 10 years by using sinking L = useful life in years
fund of depreciation assuming an interest of 5%. FC = first cost
Ans. P 5,944,400
Example 5: A four-stroke motorbike costs P75 000.00. It will have a SAMPLE PROBLEMS
salvage value of P10 000.00 when worn out at the end of eight years. Example 1: A machine has a first cost of P 140,000 and a life of 8 years
Determine the annual replacement deposit using the SFM at 5%. with a salvage value of P 10,000 at the end of its useful life. Using double
Ans. P 6,806.92 declining balance method:
Example 6: A machine that costs P75 000.00 five years ago now cost P45 (a) What is the Book Value on the 3rd year?
864.31, when 7% interest is applied using the sinking fund formula. (b) What is the depreciation charge on the 4th year?
Determine the salvage value of the machine for an estimated useful life of Ans. P 59,062.50; P 14,765.63
10 years. Example 2: An equipment costs P 500,000 and has a salvage value of P
Ans. P 5,000 25,000 after its 25 years of useful life. Using Double Declining Balance
Method, what will be the book value after 8 years?
Declining Balance Method (Matheson’s Method) Ans. P 256,609.44
Declining Balance Method – a method which assumes that the annual cost Example 3: XYZ Company has an equipment that cost P 90,000. After 8
of depreciation is a fixed percentage (k) of the salvage value at the years, it will have a salvage value of P 18,000.00. Using Double declining
beginning of the year. balance method, find the book value at the end of 5 years.
dm = FC(1 − k)m−1 k Ans. P 21,357
BVm = FC(1 − k)1m Example 4: Given the following data for a construction equipment: Initial
SV = FC(1 − k)L cost = P 1,200,000.00; Economic Life = 12 years; Estimated salvage value
= P 320,000.00.
L SV
k=1− √ (a) What is the book value after seven years?
FC (b) What is the depreciation charge on the 4th year?
Dm = FC − BVm (c) What is the total depreciation charge at the end of the 10th year?
Note: This method is not applicable if there is no salvage value. Ans. P 334,898; P 115,740.74; P 1,006,193.30
Where: Example 5: A machine costing P 550,000 has an estimated scrap value of P
dm = depreciation at any time m 85,000 at the end of its economic life of 8 years. Using DDBM of
BVm = book value of a property at any time m depreciation:
Dm = total depreciation of a property at any time m (a) What is the book value after 4 years of service?
L = useful life in years (b) What is the book value at the end of its life?
FC = first cost Ans. P 174,023; P 55,062.10
SV = salvage or scrap value
k = rate of depreciation Sum of the Years Digit Method
(FC − SV)
SAMPLE PROBLEMS dm = (reverse digit)
sum of the digits
Example 1: A machine costing P 720,000 is estimated to have a book value (FC − SV)
of P 40,545.73 when retired at the end of 10 years. Depreciation cost is Dm = (sum of reverse digits)
sum of the digits
computed using a constant percentage of the declining value. L
(a) What is the annual rate of depreciation? sum of the digits = (L + 1)
2
(b) What is the book value after 3 years? reverse digit = L − m + 1
(c) What is the depreciation charge at the 4th year? m
sum of reverse digits = (2L − m + 1)
(d) What is the total depreciation after 6 years? 2
Ans. (a) 0.25; (b) P 303,750; (c) P 75,937.50; (d) P 591,855.47 Where:
Example 2: A machine having a certain 1st cost has a life of 10 years and a dm = depreciation at any time m
salvage value of 6.633% of the first cost of 10 years. If it has a book value Dm = total depreciation of a property at any time m
of P 58,914 after 6 years, how much is the first cost of the machine using L = useful life in years
Matheson’s Method? FC = first cost
Ans. P 300,049.23 SV = salvage or scrap value
Example 3: A machine has a current price of P 400,000. If its selling price
is expected to decline at the rate of 10% per annum, what will be the selling SAMPLE PROBLEMS
price after 5 years? Example 1: An asset is purchased for P 9000. Its estimated life is 10 years,
Ans. P 236,196.00 after which is will be sold for P 1,000. Using SOYD
Example 4: A radio service panel truck initially costs P 56,000. I resale (a) Find the book value during the 3rd year.
value at the end of the fifth year is estimated at P 15,000. By means of the (b) Find the depreciation during the 2nd year.
Declining Balance Method, determine the yearly depreciation charge for (c) Find the total depreciation after 4 years.
the first and second years. Ans. P 5,072.72; P 1,309.09; P 4,945.45

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Example 2: Mr. Q purchased a Bulk Milk Cooler for P 480,000.00. Shipping, Ans. (a) P 831.25, P 3,675; (b) P 710.96, P 1,565.25; (c) P 923.61, P
tax, and installation costs amounted to P 25,000.00, P 20,000.00 and P 2,197.22; (d) P 540.66, P 4,416.00; (e) P 738.28; P 2,214.84
15,000.00. The machine has a useful life of 7 years and salvage value of P Example 2: A P 110,000 chemical plant had an estimated life of 6 years and
40,000. a projected scrap value of P 10,000. After 3 years of operation, an
(a) Determine the book value after four years. explosion made it a total loss. How much money would have to be raised
(b) Determine the depreciation charge on its last year of service. to put up a new plant costing P 150,000, if the depreciation reserve was
(c) Determine the total depreciation after 3 years. maintained during its 3 years of operation by:
Ans. P 147,142.86; P 17,857.14; P 321,428.57 (a) Straight Line Method;
Example 3: A telephone company purchased microwave radio equipment (b) Sinking Fund Method at 6% interest
for P 6 million, freight and installation charges amounted to 4% of the Ans. P 100,000; P 104,359.08
purchased price. If the equipment will be depreciated over a period of 10 Example 3: A contractor imported a bulldozer for his job, paying P 250,000
years with a salvage value of 8%, determine the depreciation cost during to the manufacturer. Freight and insurance charges amounted to P 18,000;
5th year using SYD. customs’, broker’s fees and arresters services amounted to P 8,500; taxes,
Ans. P 626,269.10 permits, and other expenses which is 10% of the purchasing cost. If the
Example 4: A company purchases an asset for P 10,000.00 and plans to contractor estimates the life of the bulldozer to be 10 years with a salvage
keep it for 20 years. If the salvage value is zero at the end of the 20th year: value of P 20,000, determine the book value at the end of 6 years using the:
(a) What is the depreciation in the third year? (a) Straight Line Method;
(b) What is the total depreciation at the end of 14 years? (b) Sinking Fund Method with interest at 8%;
(c) What is the book value of the asset at the end of 8 years? (c) Matheson’s Formula;
Use sum-of-the-year’s digits depreciation. (d) SOYD Method
Ans. P 857.14; P 9,000; P 3,714.29 Ans. P 132,600; P 158,949.69; P 59,201.53; P 71,181.82
Example 5: An equipment costing P 500,000.00 has a life expectancy of 5 Example 4: An equipment costs P 10,000 with a salvage value of P 500 at
years. Using some-of-the-year’s digit method of depreciation, what must the end of 10 years. Calculate the annual depreciation cost by:
be its salvage value such that its depreciation charge for the first year is P (a) Straight Line Method;
100,000.00? (b) Sinking Fund Method at 4% interest
Ans. P 200,000.00 Ans. P 950; P 791.26
Example 5: A radio service panel truck initially costs P 56,000. Its resale
Service-Output Method value at the end of the 5th year is estimated at P 15,000.
Service-Output Method – a method which assumes that the total (a) Determine the annual depreciation charge by SLM.
depreciation that has taken place is directly proportional to the quantity (b) By means of the Matheson’s Formula, determine the yearly
of output of the property up to that time. depreciation charge for the first, second and third year.
(FC − SV) Ans. P 8,200; P 12,969.60, P 9,965.84, P 7,657.75
Depreciation per unit output =
T
(FC − SV)
Dm = (Q)
T
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

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SET 3: BASIC METHODS FOR ECONOMY STUDIES than 25% before income taxes. Using annual worth method, determine the
Rate of Return Method (ROR) annual cash flow. Is this a desirable investment?
Rate of Return – is a measure of the effectiveness of an investment of Ans. –P 3,509; It is not a desirable investment
capital and its financial efficiency. When this method is used, it is necessary Example 2: A man is considering investing P 500,000 to open a semi-
to decide whether the computed rate of return is sufficient to justify the automatic auto washing business in a city of 400,000 population. The
investment. equipment can wash, on the average, 12 cars per hour, using two men to
net annual profit operate it and to do small amount of hand work. The man plans to hire two
ROR =
capital invested men, in addition to himself, and operate the station on an 8-hour basis, 6
net annual profit = annual revenue − annual cost 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
Annual cost includes depreciation, labor and material cost, overhead, miscellaneous cost would be P 8,500 per month. He would pay his
rental, tax and insurances, etc. 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
SAMPLE PROBLEMS earning 15%, and he is employed at a steady job that pays P 25,000 per
Example 1: An investment of P 270,000 can be made in a project that will month. He desires a rate of return of at least 20% of his investment. Using
produce a uniform annual revenue of P 185,400 for 5 years and having a annual worth method, determine the excess of annual revenue over the
salvage value of 10% of the investment. Out of pocket costs for operation annual cost. Would you recommend the investment?
and maintenance will be P 81,000 per year. Taxes and insurance will be Ans. P 19,040; the man should invest
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 Present Worth Method
return of the investment. Is this a desirable investment? Present Worth Method – this method is based on the concept of present
Ans. ROR = 23.70%; It is not a desirable investment worth. If the present worth of all net cash flows is equal to or greater than
Example 2: A young mechanical engineer is considering establishing his zero, the project is justified. Cash inflow includes annual revenue and
own small company. An investment of P 800,000 will be required which salvage or scrap value. Depreciation is excluded in cash outflow.
will be recovered in 15 years. It is estimated that sales will be P 800,000 Present Worth of all net cash flows ≥ 0
per year and that operating expenses will be as follows.
Materials P 160,000 per year SAMPLE PROBLEMS
Labor P 280,000 per year Example 1: An investment of P 270,000 can be made in a project that will
Overhead P 40,000 +10% of sales per year
produce a uniform annual revenue of P 185,400 for 5 years and having a
Selling expense P 60,000
salvage value of 10% of the investment. Out of pocket costs for operation
The man will give up his regular job paying P 216,000 per year and devote
and maintenance will be P 81,000 per year. Taxes and insurance will be
full time to the operation of the business; this will result in decreasing
4% of the first cost per year. The company expects capital to earn not less
labor cost by P40,000 per year, material cost by P 28,000 per year and
than 25% before income taxes. Using present worth method, determine
overhead cost by P32,000 per year. If the man expects to earn at least 20%
the present worth of all net cash flows. Is this a desirable investment?
of his capital, should he invest? Compute for the actual rate of return.
Ans. –P 9,436.00; It is not a desirable investment
Ans. The man should not invest; ROR = 6.6118%
Example 3: The ABC Company is considering constructing a plant to
Future Worth Method
manufacture a proposed new product. The land costs P 15,000,000, the
Future Worth Method – this method is exactly comparable to the present
building costs P 30,000,000, the equipment costs P 12,500,000, and P
worth method except that all cash inflows and outflows are compounded
5,000,000 working capital is required. At the end of 12 years, the land can
forward to a reference point in time called the future.
be sold for P 25,000,000, the building for P 12,000,000, the equipment for
Future Worth of all net cash flows ≥ 0
P 250,000 and all of the working capital recovered. The annual
disbursements for labor, materials, and all other expenses are estimated
SAMPLE PROBLEMS
to cost P 23,750,000. If the company requires a minimum return of 25%,
Example 1: An investment of P 270,000 can be made in a project that will
what should be the minimum annual sales for 12 years to justify the
produce a uniform annual revenue of P 185,400 for 5 years and having a
investment?
salvage value of 10% of the investment. Out of pocket costs for operation
Ans. P 39,748,563.43
and maintenance will be P 81,000 per year. Taxes and insurance will be
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 4% of the first cost per year. The company expects capital to earn not less
securities giving him an annual dividend of 15%. He now plans to invest than 25% before income taxes. Using future worth method, determine the
this amount in his own repair shop. In his resent job, he is earning P future worth of all net cash flows. Is this a desirable investment?
25,000.00 a month, but he has to resign to run his own business. He will Ans. –P 28,796.50; It is not a desirable investment
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 Payback (Payout) Period Method
the average 300 days per year. His other expenses are the following: Payback Period – is defined as the length of time required to recover the
Rental P30,000.00 a month first cost of an investment from the net cash flow produced by the
Miscellaneous P25,000.00 a month investment for an interest rate of zero. Depreciation is not included in cash
Sales tax 3% of gross income outflow.
Insurance 2% Investment − Salvage Value
The length of his lease is 5 years. If the average charge for each car repaired Payback Period =
Net annual cash flow
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? SAMPLE PROBLEMS
Ans. 2112 cars 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
Annual Worth Method salvage value of 10% of the investment. Out of pocket costs for operation
Annual Worth Method – in this method, interest on the original investment and maintenance will be P 81,000 per year. Taxes and insurance will be
(sometimes called minimum required profit) is included as cost. If the 4% of the first cost per year. The company expects capital to earn not less
excess of annual cash inflows over annual cash outflows is not less than than 25% before income taxes. Determine the payback period.
zero, the proposed investment is justified. Ans. 2.6 years
Annual cash inflow − Annual cash outflow ≥ 0 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
SAMPLE PROBLEMS 2,000,000.00. Annual depreciation is estimated to be 10% of the fixed
Example 1: An investment of P 270,000 can be made in a project that will capital investment. Determine the rate of return on the total investment
produce a uniform annual revenue of P 185,400 for 5 years and having a and the payout period is the annual profit is P 2,500,000.00.
salvage value of 10% of the investment. Out of pocket costs for operation Ans. ROR = 12.5%; 4.8 years
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

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SET 4: COMPARING ALTERNATIVES Present Worth Cost Method

Rate of Return on Additional Investment Method In comparing alternatives by this method, determine the present worth of
The formula for the ROR on additional investment is: the net cash outflows for each alternative for the same period of time. The
annual net savings alternative with the least present worth of cost is selected.
ROR on additional investment =
additional investment
annual net savings = difference in annual cost SAMPLE PROBLEMS
additional investment = difference in capital invested Example 1: Example 1: A company is considering two types of equipment
for its manufacturing plant. Pertinent data are as follows:
If the rate of return on additional investment is satisfactory, then, the Type A Type B
alternative requiring a bigger investment is more economical and should First cost P 200,000 P 300,000
be chosen. Annual operating cost P 32,000 P 24,000
Annual labor cost P 50,000 P 32,000
SAMPLE PROBLEMS Insurance and property taxes 3% 3%
Example 1: A company is considering two types of equipment for its Payroll taxes 4% 4%
manufacturing plant. Pertinent data are as follows: Estimated Life 10 10
Type A Type B If the minimum required rate of return is 15%. What is the present worth
First cost P 200,000 P 300,000 of Type A? Type B? Which equipment should be selected?
Annual operating cost P 32,000 P 24,000 Ans. P 651,689; P 632,643; Type B
Annual labor cost P 50,000 P 32,000
Insurance and property taxes 3% 3% Break-Even Analysis
Payroll taxes 4% 4%
Estimated Life 10 10 SAMPLE PROBLEMS
If the minimum required rate of return is 15%, which equipment should Example 1: The cost of producing a small transistor radio set consists of P
be selected? What is the rate of return of return on additional investment? 23.00 for labor and P 37.00 for materials. The fixed charges in operating
Ans. Type B; 18.79% 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
Annual Cost Method produced per month to break-even.
To apply this method, the annual cost of alternatives including interest on Ans. 7,143 sets
investment is determined. The alternative with the least annual cost is Example 2: A company has a production capacity of 500 units per month
chosen. 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
SAMPLE PROBLEMS instituted to reduce the fixed costs by 10% and the variable cost be 20%.
Example 1: Example 1: A company is considering two types of equipment (a) Determine the old break-even point.
for its manufacturing plant. Pertinent data are as follows: (b) Determine the new break-even point.
Type A Type B (c) What is the old monthly profit at 100% capacity?
First cost P 200,000 P 300,000 (d) What is the new monthly profit at 100% capacity?
Annual operating cost P 32,000 P 24,000 Ans. 294 units per month; 208 units per month; P 175,000; P 315, 000
Annual labor cost P 50,000 P 32,000 Example 3: Two machines are being considered for the production of a
Insurance and property taxes 3% 3%
particular part for which there is a long term demand. Machine A costs P
Payroll taxes 4% 4%
50,000 and is expected to last 3 years and have a P 10,000 salvage value.
Estimated Life 10 10
If the minimum required rate of return is 15%. What is the annual cost of Machine B costs P 75,000 and is expected to last 6 years and have zero
Type A? Type B? Which equipment should be selected? salvage value. Machine A can produce a part in 18 seconds; Machine B
Ans. P 129,850; P 126,056; Type 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
Equivalent Uniform Annual Cost Method 200 for A and P 220 for B. If interest on invested capital is 25%, determine
In this method, all cash flows (irregular or uniform) must be converted to the number of parts per year at which the machines are equally
an equivalent uniform annual cost, that is, a year-end amount which is the economical.
same each year. The alternative with the least equivalent uniform annual Ans. 29, 544 parts
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. Benefit-Cost Ratio
SAMPLE PROBLEMS
SAMPLE PROBLEMS Example 1: A non-profit educational research organization, is
Example 1: Example 1: A company is considering two types of equipment contemplating an investment of P 1,500,000 in grants to develop new
for its manufacturing plant. Pertinent data are as follows: ways to teach people the rudiments of profession. The grants would
Type A Type B extend over a ten-year period and would achieve an estimated savings of
First cost P 200,000 P 300,000 P 500,000 per year in professors’ salaries, student tuition, and other
Annual operating cost P 32,000 P 24,000 expenses. The program would be an addition to ongoing and planned
Annual labor cost P 50,000 P 32,000 activities, thus an estimated P 100,000 a year would have to be released
Insurance and property taxes 3% 3% from the other program to support the educational research. A rate of
Payroll taxes 4% 4% return of 15% is expected, calculate the B/C ratio. Is this a good program?
Estimated Life 10 10 Ans. B/C = 1.34; It is a good program
If the minimum required rate of return is 15%. What is the EUAC of Type Example 2: The National Government intends to build a dam and
A? Type B? Which equipment should be selected? hydroelectric project in the Cagayan Valley at a total cost of P 455,500,000.
Ans. P 129,850; P 126,060; Type B 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

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