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Evaluating Business and Engineering Assets - Part II: Professor C. S. Park
Evaluating Business and Engineering Assets - Part II: Professor C. S. Park
Evaluating Business and Engineering Assets - Part II: Professor C. S. Park
Part II
Professor C. S. Park
Copyright © 2005
Payback Period
Lecture No.14
Professor C. S. Park
Fundamentals of Engineering Economics
Copyright © 2005
1
Chapter 5
Present-Worth Analysis
Loan versus Project
Cash Flows
Initial Project Screening
Methods
Present-Worth Analysis
Methods to Compare
Mutually Exclusive
Alternatives
Nature of Project:
Equip 40,000 couriers
with PowerPads
Save 10 seconds per
pickup stop
Investment cost: $150
million
Expected savings: $20
million per year
Federal Express
2
Ultimate Questions
3
Mr. Brcewell’s Hydro Project
Bank Loan
Loan
Bank Customer
Repayment
Investment Project
Investment
Company Project
Return
4
Describing Project Cash Flows
Year Cash Inflows Cash Net
(n) (Benefits) Outflows Cash Flows
(Costs)
0 0 $650,000 -$650,000
… … … …
Payback Period
Principle:
How fast can I recover my initial investment?
Method:
Based on cumulative cash flow (or accounting
profit)
Screening Guideline:
If the payback period is less than or equal to
some specified payback period, the project
would be considered for further analysis.
Weakness:
Does not consider the time value of money
10
5
Example 5.1 Payback Period
0 -$105,000+$20,000 -$85,000
1 $35,000 -$50,000
2 $45,000 -$5,000
3 $50,000 $45,000
4 $50,000 $95,000
5 $45,000 $140,000
6 $35,000 $175,000
11
$45,000 $45,000
$35,000 $35,000
Annual cash flow
$25,000
$15,000
0
1 2 3 4 5 6
Years
$85,000
150,000
Cumulative cash flow ($)
0
-50,000
-100,000
0 1 2 3 4 5 6
Years (n)
12
6
Practice Problem
13
14
7
Example 5.2 Discounted Payback Period Calculation
Period Cash Flow Cost of Funds Cumulative
(15%)* Cash Flow
0 -$85,000 0 -$85,000
15
Summary
16