LEC 4 Capitalized Cost

Capitalized Cost

The application of perpetuity is capitalized cost. The capitalized cost of any structure or property
like building, machineries, equipment is the sum of the first cost and the present worth of all cost
of the replacement, operation and maintenance for a long time or forever.

Case I – No replacement, only maintenance and or operation every period.

𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑒𝑑 𝐶𝑜𝑠𝑡 = 𝐹𝑖𝑟𝑠𝑡 𝐶𝑜𝑠𝑡 + 𝐶𝑜𝑠𝑡 𝑜𝑓 𝑃𝑒𝑟𝑝𝑒𝑡𝑢𝑎𝑙 𝑀𝑎𝑖𝑛𝑡𝑒𝑛𝑎𝑛𝑐𝑒
𝐴
𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑒𝑑 𝐶𝑜𝑠𝑡 = 𝐹𝑐 +
𝑖
Example 19: Determine the capitalized Cost of a building that requires an initial investment of
P5,000,000.00 and an annual maintenance of P100,000. Interest is 12.5%.

P=5,000,000 100,000 100,000 100,000

0 1 2 3 …

100,000
𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑒𝑑 𝐶𝑜𝑠𝑡 = 5,000,000 + = 𝑃5,800,000.00
0.125

Case II – Replacement only, no Maintenance and or Operation

𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑒𝑑 𝐶𝑜𝑠𝑡 = 𝐹𝑖𝑟𝑠𝑡 𝐶𝑜𝑠𝑡 + 𝑃𝑟𝑒𝑠𝑒𝑛𝑡 𝑊𝑜𝑟𝑡ℎ 𝑜𝑓 𝑃𝑒𝑟𝑝𝑒𝑡𝑢𝑎𝑙 𝑟𝑒𝑝𝑙𝑎𝑐𝑒𝑚𝑒𝑛𝑡

S= amount needed to replace a property every “k” period.

X= amount of principal invested at rate i% the interest on which will amount to “S” every K period.
Xi= interest on X every period, the periodic deposit towards the accumulation of S.

0 1 2 3 … k-1 k

Xi Xi Xi Xi Xi

ENGR. VERNA LIZA M. BERMIDO 1

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Engineering Economy
 LEC 4 Capitalized Cost

A A A

0 1 2 3 ….

P
!
𝑃= "
- P is the amount invested now at i% per period whose interest at the end of
every period forever is A

𝐴[(1 + 𝑖)# − 1]
𝐹=
𝑖
$"[('(")! *']
𝑆= "
-S is the amount needed to replace a property every K period.

,
𝑋 = [('(")! *'] - X is the amount invested now at i% per period whose interest at the end
of every “K” period forever is S.

Example 20: A new machine was installed in a factory at a cost of P 650,000 and projected
to have a useful life of 25 years. At the end of its useful life, it is estimated
to have a salvage value of P85,000. Determine its capitalized cost if interest
is 15% compounded annually.

𝑆 = 300,000 − 30,000 = 270,000 𝑎𝑚𝑜𝑢𝑛𝑡 𝑛𝑒𝑒𝑑𝑒𝑑 𝑡𝑜 𝑟𝑒𝑝𝑙𝑎𝑐𝑒 𝑡ℎ𝑒 𝑚𝑎𝑐ℎ𝑖𝑛𝑒

𝑆
𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑒𝑑 𝐶𝑜𝑠𝑡 = 𝐹𝐶 +
(1 + 𝑖)# − 1

565,000
𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑒𝑑 𝐶𝑜𝑠𝑡 = 650,000 + = 𝑃667,701.08
(1 + 0.15)-. − 1

ENGR. VERNA LIZA M. BERMIDO 2

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Engineering Economy
 LEC 4 Capitalized Cost

Case III – Replacement, maintenance and or operation every period

Capitalized Cost = First Cost + Present worth of perpetual operation and or maintenance +
Present Worth of Cost of perpetual replacement.

Example 21: Determine the capitalized cost of a factory which requires P 12,000,000 for
construction. P250,000 at the end of every year for the first 8 years and then
P200,0000 each year thereafter for operating expenses, and P750,000.00
every 5 years for replacement of machineries with interest at 14% per annum?

0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16

𝐶𝑎𝑝𝑖𝑡𝑎𝑙𝑖𝑧𝑒 𝐶𝑜𝑠𝑡
200,000
250,000 [(1.14)/ − 1] 750,0000
= 𝑃12,000,000 + + 0.14 / +
0.14 𝑥 1.14/ (1.14) [(1.14). − 1]
= 𝟏𝟒, 𝟒𝟕𝟎, 𝟗𝟔𝟐. 𝟏𝟗

Uniform Arithmetic Gradient

Year and increasing
Some economic analysis problem involves receipt or disbursement that is increasing or deceasing by a uniform
amount each period like maintenance or repair expenses on a specific property or machinery. This is termed as
Uniform Arithmetic gradient.

Example: The maintenance expense on a certain machine is P5,000 at the end of the first year and increasing at a
constant rate of P2,500 each year for the next eight years and the rate of interest is 9% per annum. Determine
an equal annual savings to provide the expenses.

𝑃 = 𝑃" + 𝑃#

$%%%&(()%.%+)! -(.
𝑃" = = 29,976.23
%.%+/((.%+)!
2500 (1.09)+ − 1 1
𝑃# = , 𝑥0 − 95 𝑥 6 78 = 51,427.69
0.09 0.09 1.09+
𝑃 = 29.976.23 + 51,427.69 = 𝑃81,403.92

"[(()1)" -(]
𝑃= 1(()1)"

ENGR. VERNA LIZA M. BERMIDO 3

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Engineering Economy
 LEC 4 Capitalized Cost

𝐴[(1 + 0.09)+ − 1]
81,403.92 = 𝐴 = 13,578.08
0.09(1 + 0.09)+

ENGR. VERNA LIZA M. BERMIDO 4

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Engineering Economy