Engineering Economic Analysis

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272 OTHER ANALYSISTECHNIQUES

Chapter 9 examines four topics:

Future Worth Analysis 9 OTHER ANALYSISTECHNIOUES

Benefit-Cost Ratio Analysis

·Payback period

·Sensitivity and breakeven analysis

Future worth analysis is very much like present worth analysis, dealing withthen(future

worth) rather than withnow(present worth) situations.

Previously,we have written economic analysis relationships based on either:

PW of cost=PW of benefit or EUAC=EUAB

Instead of writing it in this form, we could define these relationships as

PW of benefit

=1

Cost of Capital Concept

or

EUAB

=1

EUAC

When economic analysis is based on these ratios, the calculations are called benefit-cost

ratio analysis.

Payback period is an approximate analysis technique, generally defined as the time

required for cumulative benefits to equal cumulative costs. Sensitivity describes the relative

magnitude of a particular variation in one or more elements of a problem that is sufficient

to change a particular decision. Closely related is breakeven analysis, which determines

the conditions where two alternatives are equivalent.Thus, breakeven analysis is a form of

sensitivity analysis.

FUTURE WORTH ANALYSIS

Wehaveseenhow economic analysistechniquesresolved alternativesinto comparableunits.

In present worth analysis, the comparison was made in terms of the present consequences

of taking the feasible courses of action. In annual cash flow analysis, the comparison was

in terms of equivalent uniform annual costs (or benefits). We saw that we could easily

convert from present worth to annual cash flow,and vice versa. But the concept of resolving

alternatives into comparable units is not restricted to a present or annual comparison. The

comparison may be made at any point in time. In many situations we would like to know

what thefuturesituation will be, if we take some particular course of actionnow.This is

calledfuture worthanalysis.

Ron Jamison, a 20-year-old college student, consumes about a carton of cigarettes a week. He

wonders how much money h~ could accumulate by age 65 if he quit smoking now and put his

cigarett~money into~asavings account. Cig"aretiescost $35 per carton. Ron expects:that a savings

account would earn 5% interest, compounded semiannually. Compute Ron's future worth at

age 65.;,."..'::1: -.