CE

22 - Engineering Economics 2nd Semester AY 2019-2020

PROBLEM SET
GENERAL INSTRUCTIONS:
1. Try to answer this problem. Use only a blue or black ink pen. BOX your final answers.
2. Answer the review questions in UVLE to check your answers. You may consult me regarding the solution.
3. You are encouraged to start your solution by setting up equations in terms of the equivalence factors in standard notation first, then plug-in
numbers and calculate the final answer. Assume end-of-the-period (EOP) cash flows unless stated otherwise.

Problem 1.
Hydrolix Corporation is assessing the feasibility of constructing an oil well in the petroleum rich region of the Arctic
tundras. Based on initial estimates, an amount of $500M will be used to construct the oil well and jumpstart the
operations. Further, an annual amount of $50M is needed to sustain the yearly operation of the facility, about half of
which will be spent for the thawing, heating and insulation of the facility. The well is expected to generate $175M worth
of oil every year. At this rate, the oil reservoir is expected to last for 15 years. Upon closure of the operations, the
company expects to sell the project with a salvage value of $75M. $10M is needed to clean up the area after the project
closes. The company sets its hurdle rate at 20% and expects to liquidate its capital investment within the first 6 years.
Draw the Cash Flow Diagram of the project. Evaluate the acceptability of the project using:
1) No-return Payback Period Method
2) Discounted Payback Period Method (Simplify your solution by formulating an equation calculating the DPBP)
3) Annual Worth Method. What is the capital recovery of the project?
4) Is IRR Method applicable to this project? Explain why. If yes, is the project acceptable based on IRR method?
5) Modified Benefit Cost Ratio Method on PW (Treat the revenues as benefits)

Problem 2. Southern Cement plans to open a new rock-mining site. Two plans are suggested. Plan A requires the purchase
of two earthmovers and an unloading pad at the plant. Plan B calls for the construction of a conveyor from mining site to
the plant. MARR is 15% per year compounded annually, and costs are given:

Plan A Plan B
Two Movers Pad Conveyor
First Cost, $ -90,000 -28,000 -175,000
Annual Operating Cost, $ -12,000 -300 -2,500
Salvage value at EO Useful Life, $ 10,000 2,000 25,000
Useful Life, years 8 12 12

(a) Assuming repeatability (LCM Method), what is the planning horizon?

(b) Compare the two plans using AW Method over the LCM period.
(c) Decide which plan to choose using AW method over a study period of 8 years. Use the Imputed Market Value
(IMV) technique to estimate the salvage value of the alternatives when useful life≠study period.

Problem 3. (From Contemporary Engineering Economics by Chan Park)

Baby Doll Shop currently manufactures wooden parts for dollhouses using handsaws. The shop is considering the purchase
of a power band saw with associated fixtures in order to improve the productivity of this operation. Three models of power
saw could be purchased: Model A (economy version), Model B (high-powered version), and Model C (deluxe high-end
version). The major operating difference between these models is their speed of operation. The investment costs, including
the required fixtures and other operating characteristics are summarized as follows: You may treat labor savings as
revenues.

Category Model A Model B Model C

Annual labor savings (vs. handsaw) $1,296 $1,725 $1,944
Annual power cost $400 $420 $480
Initial investment $4,000 $6,000 $7,000
Salvage Value $400 $600 $700
Service life (years) 20 20 20
Internal Rate of Return (IRR, %) 22.023 21.34 20.46

If the MARR = 10%,

A) Which model is most economical based on the rate of return principle?
B) Which model is most economical based on the modified benefit-cost analysis on annual worth?

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