MECHANICAL ENGINEERING

DEPARTMENT
3rd year Power

Engineering Economics
&
Vocational Legislations
GEN331
Lecture #4

Dr. Sayed Ali Zayan 2nd Term 2022/2023

Example 1:
For the cash-flow diagram shown below, calculate the
amount of money in year 3 that would be equivalent to all
of the cash flows shown, using an interest rate of 11% per
year.
Solution:
Po = -200 + 92.4075 = - $107.5925
Pt = -Po + 100(P/F,11%, 1) +125 (P/F,11%, 2) – 130 (P/F, 115, 5) +
30 (P/F,11%,7)
= -107.5925 + 100(0.9009) + 125(0.8116) – 130 (0.5935) + 30 ( 0.4817)
=-107.5925 + 90.09 + 101.45 – 77.155 + 14.451
= - $ 21.2435
at year 3 :
F3 = Pt ( F/P, 11%, 3)
= - 21.2435 ( 1.3676 )

= - $ 29.053
Uniform Series Present Worth Factor and Capital
Recovery Factor (P∕A and A∕P)
The equivalent present worth P of a uniform series A of end-of-period cash flows
(investments) is shown in Figure

An expression for the present worth can be determined by considering each A value as a
future worth F, calculating its present worth with the P∕F factor, and summing the results.
Uniform Series Present Worth Factor and Capital
Recovery Factor (P∕A and A∕P)
The terms in brackets are the P∕F factors for years 1 through n, respectively. Factor out A.

To simplify the above equation and obtain the P∕A factor, multiply the n-term geometric
progression in brackets by the (P∕F,i%,1) factor, which is 1∕(1 + i). This results the following
equation:

Now subtract the two equations:

Uniform Series Present Worth Factor and Capital
Recovery Factor (P∕A and A∕P)
Simplify to obtain the expression for P when i ≠ 0:

Or P = A (P/A, i%, n)

 The term in brackets or (P/A, i%, n) in above equation is the

conversion factor referred to as the Uniform Series Present Worth
Factor (USPWF).
 It is the P∕A factor used to calculate the equivalent P value in year 0
for a uniform end-of-period series of A values beginning at the end of
period 1 and extending for n periods.
Uniform Series Present Worth Factor and Capital
Recovery Factor (P∕A and A∕P)
To reverse the situation, the present worth P is known and the equivalent uniform
series amount A is sought (Figure).

The first A value occurs at the end of period 1, that is, one period after P occurs. Solve
(P/A) Equation for A to obtain

= P (A/P, i%, n)
Uniform Series Present Worth Factor and Capital
Recovery Factor (P∕A and A∕P)
The term in brackets is called the capital recovery factor (CRF), or A∕P
factor. It calculates the equivalent uniform annual worth A over n years
for a given P in year 0, when the interest rate is i.
Sinking Fund Factor and Uniform Series Compound
Amount Factor (A∕F and F∕A)

The simplest way to derive the A∕F factor is to substitute into factors
already developed. If P from (P/F) equation is substituted into (P/A)
equation, the following formula results.

or = F (A/F, i%, n)
Sinking Fund Factor and Uniform Series Compound
Amount Factor (A∕F and F∕A)
The expression in brackets in the previous equation is the A∕F or sinking
fund factor. It determines the uniform annual series A that is equivalent
to a given future amount F.
 The uniform series A begins at the end of year (period) 1 and continues
through the year of the given F. The last A value and F occur at the
same time.
To find F for a stated A series in periods 1 through n, rearrange the
previous equation:

= A (F/A, i%, n)
Sinking Fund Factor and Uniform Series Compound
Amount Factor (A∕F and F∕A)
The term in brackets is called the Uniform Series Compound Amount
Factor (USCAF), or F∕A factor. When multiplied by the given uniform
annual amount A, it yields the future worth of the uniform series. It is
important to remember that the future amount F occurs in the same
period as the last A.

As a matter of interest, the uniform series factors can be symbolically determined

by using an abbreviated factor form. For example, F∕A = (F∕P)(P∕A), where
cancellation of the P is correct.
Example 2:
A company buys a machine for $12,000,
which it agrees to pay for in five equal
annual payments, beginning one year after
the date of purchase, at an interest rate of
4% per annum. Immediately after the
second payment, the terms of the
agreement are changed to allow the
balance due to be paid off in a single
payment the next year. What is the final
single payment?
Solution:

Annual payments: (A)

A = P (A/P, i%, n) = 12,000 ( A/P, 4%, 5 ) = 12,000 ( 0.22463 )
= $2695.56
The discount cash flow for the remainder payments at year 2:
P = A ( P/A, I%, n ) = 2695.56 ( P/A, 4%, 3) = 2695.56 ( 2.775 ) = 7480.179
Then, the final single payment next year is :
F = P ( F/P, I%, n ) = 7480.179 ( F/P, 4%, 1 ) = 7480.179 ( 1.04) = $7779.4
Example 3:

The president of Ford Motor Company wants to

know the equivalent future worth of a $1 million
capital investment each year for 8 years, starting 1
year from now. Ford capital earns at a rate of 14%
per year.
Solution:

A = 1,000,000 $/yr

F = A (F/A, i%, n)
= 1,000,000 (F/A, 14%, 8)
= 1,000,000 (13.2328)
= $13,232,800
 Factor Values for Untabulated i or n Values
Often it is necessary to know the correct numerical value of a factor with an i
or n value that is not listed in the compound interest tables. Given specific
values of i and n, there are several ways to obtain any factor value.
 Use the formula listed in this lecture.
 Use an Excel function with the corresponding
P, F, or A value set to 1.
 Use linear interpolation in the interest tables.

Linear interpolation:

or

The value of d will be positive or negative if

the factor is increasing or decreasing,
respectively, in value between x1 and x2 .
Example 4:
Determine the P∕A factor value for i = 7.75% and n = 10 years, using the three
methods described previously.
Solution
Factor formula:

Spreadsheet: Utilize the spreadsheet function in Figure, that is, = −PV(7.75%,10,1), to

display 6.78641.

Linear interpolation: the bounding interest rates are i1 = 7% and i2 = 8%, and the corresponding
P∕A factor values are f1 = (P∕A,7%,10) = 7.0236 and f2 = (P∕A,8%,10) = 6.7101. where x is the interest
rate i,
 Arithmetic Gradient Factors (P∕G and A∕G)
An arithmetic gradient series is a cash flow series that either
increases or decreases by a constant amount each period. The
amount of change is called the gradient.

Cash flow
diagram of an
arithmetic
gradient series

Define the symbols G for gradient and CFn for cash flow in year n as follows.
G = constant arithmetic change in cash flows from one time period to the
next; G may be positive or negative.
 Arithmetic Gradient Factors (P∕G and A∕G)
If the base amount is ignored, a generalized arithmetic (increasing) gradient cash flow
diagram is as shown in Figure. Note that the gradient begins between years 1 and 2.
This is called a conventional gradient.

Conventional
arithmetic
gradient series without
the base amount.

The total present worth PT for a series that includes a base amount A
and conventional arithmetic gradient must consider the present worth of
both the uniform series defined by A and the arithmetic gradient series.
The addition of the two results in PT .
Arithmetic Gradient Factors (P∕G and A∕G)
where
PA is the present worth of the uniform series only,
PG is the present worth of the gradient series only, and
the + or − sign is used for an increasing (+G) or decreasing (−G) gradient,
respectively.
The corresponding equivalent annual worth AT is the sum of the base
amount series annual worth AA and gradient series annual worth AG,
that is,

Three factors are derived for arithmetic gradients: the P∕G factor for present worth,
the A∕G factor for annual series, and the F∕G factor for future worth. There are several
ways to derive them. We use the single-payment present worth factor (P∕F,i,n), but
the same result can be obtained y using the F∕P, F∕A, or P∕A factor.
Arithmetic Gradient Factors (P∕G and A∕G)
The present worth of the gradient series PG :

Or PG = G(P∕G, i%, n)
The above equation is the general relation to convert an arithmetic gradient G (not
including the base amount) for n years into a present worth at year 0. Figure-a is
converted into the equivalent cash flow in Figure-b.
Arithmetic Gradient Factors (P∕G and A∕G)
The arithmetic gradient present worth factor, or P∕G factor, may be expressed in two forms:

or

The equivalent uniform annual series AG for an arithmetic gradient G is

found by multiplying the present worth in Equation [2.26] by the (A∕P,i,n) formula.
In standard notation form, the equivalent of algebraic cancellation of P can be
used.

In equation form,
Arithmetic Gradient Factors (P∕G and A∕G)
Or

The expression in brackets in above equation is called the arithmetic

gradient uniform series factor and is identified by (A∕G, i%, n). This
factor converts Figure-a into Figure-b.
Arithmetic Gradient Factors (P∕G and A∕G)
There is no direct, single-cell spreadsheet function to calculate PG or AG
for an arithmetic gradient. Use the NPV function to display PG and the PMT
function to display AG after entering all cash flows (base and gradient
amounts) into contiguous cells. General formats for these functions are:

An F∕G factor (arithmetic gradient future worth factor) to

calculate the future worth FG of a gradient series can be
derived by multiplying the P∕G and F∕P factors. The resulting
factor, (F∕G, i%, n), in brackets, and engineering economy
relation is
Example 5:

On a new car it is estimated that the maintenance

cost will be $40 the first year. Each subsequent year
it is expected to be $10 more than the previous one.
How much would you need to set aside when you
bought a new car to pay all future maintenance costs
if you planned to keep it seven years? Assume
interest is 5% per annum.
Solution:

P = Aeq ( P/A ,i ,%n ) = Aeq ( P/A, ) 7 ,5%

Aeq = A )7 ,5% ,G/A( G +1

) 2.805 ( 10 + 40 =

68.05 $ =

Then, P = 393.74 $ = )5.786 (68.05

Example 6:
A debt of $5000 can be repaid, with interest at 8%, by the following
payments.
Year Payment
1 $500
2 1000
3 1500
4 2000
5 X
The payment at the end of the fifth year is shown as X. How much is
X?
Solution:

Po = $5,000
P1 = A ( P/A, I%, n)
A = A1 + G(A/G, I%, n)
= 500 + 500 (A/G, 8%, 4 ) = 500 + 500 ( 1.4039 ) = $1201.95
P1 = 1201.95 ( P/A, 8%, 4 ) = 1201.95 ( 3.3121) = 3980.978595
P2 = X ( P/F, I%, n ) = X ( P/F, 8%, 5 ) = X (0.68058)
Then, Po = P1 + P2
5000 = 3980.978595 + 0.68058 X

= $ 1497.3
Geometric Gradient Series Factors
A geometric gradient series is a cash flow series that either increases or
decreases by a constant percentage each period. The uniform change is
called the rate of change.

The total present worth Pg for the entire cash flow series is:
Geometric Gradient Series Factors
The term in brackets in pervious equation is the (P∕A, g%, i%, n) or
geometric gradient series present worth factor for values of g not
equal to the interest rate i.
 g = constant rate of change, in decimal form, by which cash flow values increase or
decrease from one period to the next. The gradient g can be + or −.

 A1 = initial cash flow in period 1 of the geometric series

 Pg = present worth of the entire geometric gradient series, including the initial amount
A1
Note that: the initial cash flow A1 is not considered separately when
working with geometric gradients.

When g = i :
Geometric Gradient Series Factors
The (P∕A, g%, i% , n) factor calculates Pg in period t = 0 for a geometric
gradient series starting in Period 1 in the amount A1 and increasing by a
constant rate of g each period.
The equation for Pg and the (P∕A, g%, i% , n) factor formula are:

It is possible to derive factors for the equivalent A and F values; however, it is

easier to determine the Pg amount and then multiply by the A∕P or F∕P factor.
Example 7:
A coal-fired power plant has upgraded an emission
control valve. The modification costs only $8000 and
is expected to last 6 years with a $200 salvage
value. The maintenance cost is expected to be high
at $1700 the first year, increasing by 11% per year
thereafter. Determine the equivalent present worth
of the modification and maintenance cost at 8% per
year.
Solution:

The cash flow diagram (Figure) shows the salvage value as a positive cash flow and all
costs as negative. For g ≠ i, and the total PT is the sum of three present worth
components:
Calculations for Uniform Series That Are Shifted
When a uniform series begins at a time other than at the end of period 1, it is called a shifted
series. In this case several methods can be used to find the equivalent present worth P. For
example, P of the uniform series shown in Figure could be determined by any of the following
methods:

 Use the P∕F factor to find the present worth of each disbursement at year 0 and add them.
 Use the F∕P factor to find the future worth of each disbursement in year 13, add them, and
then find the present worth of the total, using P = F(P∕F,i,13).
 Use the F∕A factor to find the future amount F = A(F∕A,i,10), and then compute the present
worth, using P = F(P∕F,i,13).
 Use the P∕A factor to compute the “present worth” P3 = A(P∕A,i,10) (which will be located
in year 3, not year 0), and then find the present worth in year 0 by using the (P∕F,i,3)
factor.
Calculations for Uniform Series That Are Shifted
 The present worth is always located one period prior to the first uniform series
amount when using the P∕A factor.

 The future worth is always located in the same period as the last
uniform series amount when using the F∕A factor.
Example 8:

The offshore design group at Bechtel just purchased

upgraded CAD software for $5000 now and annual
payments of $500 per year for 6 years starting 3
years from now for annual upgrades. What is the
present worth in year 0 of the payments if the
interest rate is 8% per year?
Solution:

Note that:
P'A is located in actual year 2, not year 3. Also, n = 6, not 8, for the P∕A factor. First
find the value of P'A of the shifted series.
P'A = $500(P∕A,8%,6)
Since P'A is located in year 2, now find PA in year 0.
PA = P'A(P∕F,8%,2)
The total present worth is determined by adding PA and the initial payment P0 in
year 0.
PT = P0 + PA = 5000 + 500(P∕A,8%,6)(P∕F,8%,2)
= = 5000 + 500(4.6229)(0.8573) = $6981.60
Calculations Involving Uniform Series and Randomly
Placed Single Amounts

When you calculate the A value for a cash flow series that
includes randomly placed single amounts and uniform
series, first convert everything to a present worth or a future
worth. Then you obtain the A value by multiplying P or F by
the appropriate A∕P or A∕F factor.