Engineering Finance

Project Evaluation

Projects often involve investments that must be justified by future financial profits. This section describes how a cash flow can be expressed as a single equivalent measure and evaluated as to its financial acceptability. Click the bush icon to see a list of goals for the section and a summary of results.

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  • Time Value of Money
    The lesson describes how compounding, time and interest rate are used to express an amount of money at one point in time as an equivalent amount at another. These ideas are central to the procedures use to economically evaluate and compare project solutions.
  • Equivalence Factors
    The subjects of Engineering Economics and Business Finance traditionally use equivalence factors to express a complicated cash flow as a single equivalent number. This lesson introduces these factors and shows how they can be used to answer a variety of interesting business and personal finance questions.
  • Net Worth
    For investment analysis, common economic measures are the net present worth and net annual worth of a cash flow. This lesson shows how these measures are computed using the equivalence factors.
  • Selection
    To accept or not accept is the question posed for project selection. This lesson shows that the answer depends on the investor's minimum acceptable rate of return (MARR). The lesson provides a simple rule to make the decision.
  • Net Worth Comparisons
    This lesson uses the present and annual worth criteria for selection between mutually exclusive alternatives. Both methods yield the same selection, but we will see that there are important differences in application and interpretation.
  • Rate of Return
    The rate of return discussed in this lesson gives the same answers as the net worth methods, but it is more familiar to most decision makers. The lesson shows how to calculate the internal rate of return (IRR) for a cash flow and how it is used to make selection decisions.
  • Rate of Return Comparisons
    This lesson explores the rate of return method for comparing alternatives. We learn the important lesson that the rate of return method must be applied to increments of investment rather than directly to the individual alternatives.
  • Inflation
    Inflation of costs and revenues is inevitable in modern economies and it complicates economic decision making. Although the present worth, annual worth, and rate of return methods can be used when the effects of inflation are included, this lesson shows how the methods must be adjusted.
  • Evaluation with Risk
    With uncertainty, the chance of making the wrong decision is inescapable. The decision maker who simply neglects risk in his or her decisions is neglecting reality. This lesson provides tools to explicitly recognize uncertainty or risk. Non-probabilistic indicators of risk are described. Probability theory and simulation provide numerical estimates.
  • Comparisons with Risk
    This lesson extends the results of this section to the explicit consideration of risk. No deterministic analysis should be acceptable to the decision maker when there is significant uncertainty in the parameters of the analysis. The decision problem is made more difficult by risk, but the lesson shows how risk can be expressly included.

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Engineering Finance
by Paul A. Jensen
Copyright 2005 - All rights reserved

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