Faculty of Engineering

Production Engineering Department

BUS x21 – Engineering Economy

Comparing & Selection Between Alternatives
Dr. Hadi Fors
Introduction
• Most engineering projects can be accomplished by more than one feasible design
alternative.
• When the selection of one of these alternatives excludes the choice of any of the
others, the alternatives are called mutually exclusive alternatives (MEA).
• Typically, the alternatives being considered may have different amounts of capital,
annual revenues, and costs. Also, may have different useful lives.
• In our lecture, the equivalent-worth methods (PW, FW, AW) presented in the previous
lecture provide the basis for economic comparison of the alternatives.

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Introduction
• Two Basic Types of Alternatives
• Investment Alternatives: are those with initial capital investment that produces positive cash flows
from increased revenue, savings through reduced costs, or both.
• Cost Alternatives: are those with all negative cash flows, except for a possible positive cash flow
from disposal of assets at the end of the project’s useful life.

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Investment Alternatives Example
• Use a MARR of 10% and useful life of 5 years to select between the investment
alternatives below.
Alternative
A B
Capital investment -$100,000 -$125,000
Annual revenues less expenses $34,000 $41,000

• Alternative B provides a greater PW, so is better economically.

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Cost Alternatives Example
• Use a MARR of 12% and useful life of 4 years to select between the cost alternatives
below.
Alternative
C D
Capital investment -$80,000 -$60,000
Annual expenses -$25,000 -$30,000

• Alternative D costs less than Alternative C (it has a greater PW), so is better
economically.

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Select Alternative Giving Most Money!
• For investment alternatives :
• Select the alternative with the largest PW.
• For cost alternatives:
• Select the alternative with the largest (smallest in absolute value) PW.

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Study Period
• The study (analysis) period, sometimes called the planning horizon, is the selected time
period over which mutually exclusive alternatives are compared.
• Useful lives of alternatives being compared, relative to the selected study period, can
involve two situations:
• Useful lives are the same for all alternatives and equal to the study period.
• Useful lives are unequal among the alternatives, and at least one does not match the study period.

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 Useful Lives Are Equal Among Alternatives

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Analyzing Investment Alternatives
• MEAs will be compared using calculated equivalent worth (PW, FW, or AW). The
decision will be the same regardless of the equivalent worth method you use.
• For a MARR of 12% and a study period of 10 years, select from among the MEAs below.
Alternatives
A B C D
Capital investment -$150,000 -$85,000 -$75,000 -$120,000
Annual revenues $28,000 $16,000 $15,000 $22,000
Annual expenses -$1,000 -$550 -$500 -$700
Market Value (EOL) $20,000 $10,000 $6,000 $11,000
Life (years) 10 10 10 10

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Analyzing Investment Alternatives
• Present worth analysis → Select Alternative A

• Annual worth analysis → Decision is the same

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Analyzing Cost Alternatives
• A company is planning to install a new automated plastic-molding press. Four different
presses are available. The initial capital investments and annual expenses for these four
mutually exclusive alternatives are as follows:

• Assume that each press has the same output capacity (120,000 units per year) and has
no market value at the end of its useful life; the selected analysis period is five years;
MARR of 10%
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Analyzing Cost Alternatives

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Analyzing Cost Alternatives

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 Useful Lives Are Unequal Among Alternatives

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Handling Unequal Lives
• Repeatability Assumption
• If study period can be infinite in length or a common multiple of the useful lives of the MEAs.
• This assumes that the economic estimates for an alternative’s initial useful life cycle will be repeated
in all subsequent replacement cycles.
• Co-terminated Assumption
• Uses a finite and identical study period for all MEAs.
• Often, one or more of the useful lives will be shorter or longer than the selected study period.
When this is the case, cash-flow adjustments based on additional assumptions need to be used so
that all the alternatives are compared over the same study period.

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Useful Life of Alternative is Less Than Study Period
• Cost alternatives
• Leasing the needed equipment for the remaining years.
• Repeat part of the useful life of the original alternative and then use an estimated market value to
truncate it at the end of the study period.
• Investment alternatives
• All cash flows will be reinvested in other opportunities available to the firm at the MARR to the end
of the study period.
• Replace the initial investment with another asset having possibly different cash flows over the
remaining life.

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Useful Life of Alternative is Greater Than Study Period
• Truncate the alternative at the end of the study period, using an estimated market
value.

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 Repeatability Assumption

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Example

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Example

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Example

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Example
• If repeatability can be assumed, the MEAs are most easily compared by finding the
annual worth (AW) of each alternative over its own useful life and recommending the
one having the most economical value.

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 Co-Terminated Assumption

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Example

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Example

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Summary

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Summary

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 Thank You

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