Engineering Economic Analysis

284 OTHER ANALYSISTECHNIQUES

Now, as a check on the payback period analysis, compute the rate of return for each alternative."

Assume the minimum attractive rate of return is 10%.

The cash flows for the two alternatives are as follows:

Year

o 1 2 3 4 5 6 7 8

Tempo Machine

-$30,000

+ 12,000

+9,000

+6,000

+3,000

o

o

o

o

o

Dura Machine

-$35,000

+1,000

+4,000

+7,000

+10,000

+ 13,000

+16,000

+19,000

+22,000

+57,000

Tempo Machine

Since the sum of the cash flows for the Tempo machine is zero, we see immediately that the

$30,000 investment just equals the subsequent benefits. The resulting rate of return is 0%.

Dura Machine

35,000 = 1000(PjA, i,8)+3000(PjG, i,8)

Tryi=20%:

35,000 ~ 1000(3.837) + 3000(9.883)

~3837 + 29,649 = 33,486

The 20% interest rate is too high. Tryi=15%:

35,000 ~ 1000(4.487) + 3000(12.481)

~4487 + 37,443=41,930

This time, the interest rate is too low. Linear interpolation would show that the rate of return is

approximately 19%.

Using an exact calculation-rate of return--;-,-itis clear that the Tempo is not very attJ.'active

economiq.l}y. Y~t it ~s thi~ aJle!ll~t:tve,and nq.t."the.,QurawacJ:rine, that w,~ preferred based On ~

the payback period calculations. On the other hand, the shorter payback period for the Tempo does

give a measure of the speed of the return of the investment not found in the Dura. The conclusion

I to be drawn~iSJhatJiqfiidity;ffild,profitability may be two quite different criteria. \1
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