Engineering Economy Law of Demand

It is the analysis and evaluation of the factors that will affect States that " if all other factors are equal, the higher the price
the economic success of engineering projects to the end that of a good, the less people demand that goods." In other
a recommendation can be made which will ensure the best words, the higher the price the lower the quantity demanded.
use of capital.
Law of Supply
Consumer goods and services States that "the higher the price, the higher the quantity
are those products or services that are directly used by supplied"
people to satisfy their wants.
The Law of Diminishing Returns
Producer goods and services "When the use of one of the factors of production is limited,
are used to produce consumer goods or services or other either in increasing cost or by absolute quantity, a point will
producers' goods. be reached beyond which an increase in the variable factors
will result in a less than proportionate increase in output."
Necessities
are those products or services that are required to support Cash-flow Diagram
human life and activities that will be purchased in somewhat It is the graphical presentation of each flows drawn on a time
the same quantity even though the price varies considerably. scale.

Luxuries Receipt
are those products or services that are desired by humans (positive cash flow or cash inflow)
and will be purchased if money is available after the required
necessities have been obtained. Disbursement
(negative cash flow or cash outflow)
Demand
It is the quantity of a certain commodity that is bought at a Compound Interest
certain price at a given place and time. It is the interest for an interest period is calculated on the
principal plus total amount of interest accumulated in
Elastic demand previous periods.
occurs when a decrease in selling price results in a greater It also means the interest on top of interest.
than proportionate increase in sales.
Nominal rate of interest
Inelastic demand The nominal rate of interest specifies the rate of interest and
occurs when a decrease in a selling price produces a less than a number of interest periods in one year.
proportionate increase in sales.
Effective rate of interest
Unitary elasticity of demand It is the actual or exact rate of interest on the principal during
occurs when a mathematical product of volume and price is one year.
constant.
Annuity
Perfect competition An annuity is a series of equal payments occurring at equal
occurs in a situation where a community or service is periods of time.
supplied by a number of vendors and there is nothing to
prevent additional vendors entering the market. Ordinary Annuity
is one where the equal payments are made at the end of
Monopoly each payment period starting from the first period.
is the opposite of perfect competition. A perfect monopoly
exists when a unique product or service is available from a Deferred Annuity
single vendor and that vendor can prevent the entry of all is one where the payment of the first amount is deferred a
others into the market. certain number of periods after the first.

Oligopoly Annuity Due

exists when there are so few suppliers of a product or service is one where the payments are made at the start of each
that action by one will almost inevitably result in similar period, beginning from the first period
action by the others.
Perpetuity
Supply is an annuity where the payment periods extend forever or in
is the quantity of a certain commodity that is offered for sale which the periodic payments continue indefinitely.
at a certain price at a given place and time.
Amortization Physical life of a property
is the length of time during which it is capable of performing
It is any method of repaying a debt, the principal and interest the function for which it was designed and manufactured
included, usually by a series of equal payments at an equal
interval of time. Economic life
is the length of time during which the property may be
Depreciation operated at a profit.
It is the decrease in the value of the physical property with
the passage of time. The Straight Line Method
In this method, the loss in value is considered to be directly
Value proportional to the age of the property. No interest is
in a commercial sense, is the present worth of all future assumed to be paid on the amounts set aside in the
profits that are to be received through ownership of a depreciation fund.
particular property.

The market value of a property The Sinking Fund Method

is the amount that a willing buyer will pay to a willing seller This method assumes that a sinking fund is established in
for the property where each has an equal advantage and is which funds will accumulate for replacement. The total
under no compulsion to buy or sell. depreciation that has taken place up to any given time is
assumed to be equal to the accumulated amount in the
The utility or use-value of a property sinking fund at that time.
is what the property is worth to the owner as an operating
unit. Declining Balance Method(DBM)
This is also called the constant percentage method or the
Fair value Matheson Formula. It is assumed that the annual cost of
is the value which is usually determined by a disinterested depreciation is a fixed percentage of the salvage value at the
third party in order to establish a price that is fair to both beginning of the year.
seller and buyer.
Double Declining Balance(DDB) Method
Book value This method is very similar to the declining balance method
sometimes called depreciated book value, except that the rate of depreciation k is replaced by 2/L.
is the worth of a property as shown on the accounting
records of an enterprise. Service -Output Method
This method assumes that the total depreciation that has
Salvage, or resale, taken place is directly proportional to the quantity of output
value is the price that can be obtained from the sale of the of the property up to that time. This method has the
property after it has been used. advantage of making the unit cost of depreciation constant
and giving low depreciation expenses during periods of low
Scrap value production.
is the amount the property would sale for if disposed off as
junk. Valuation or appraisal
is the process of determining the value of a certain property
Physical depreciation for specific reasons. The person engaged in the task of
is due to the lessening of the physical ability of a property to valuation is called an appraiser.
produce results. Its common causes are wear and
deterioration. An intangible asset
is an asset that is not physical in nature.
Functional depreciation
is due to the lessening in the demand for the function which Goodwill
the property was designed to render. Its common causes are is the element of value that a business has earned through
inadequacy, changes in styles, population center's shift, a the favorable consideration and patronage of its well-known
saturation of markets, or more efficient machines are and well-conducted policies and operation.
produced.
Franchise
Depreciation due to changes in price levels is an intangible item of value arising from the exclusive right
is almost impossible to predict and therefore is not of a company to provide a specific product or service in a
considered in economic studies. stated region of the country.

Depletion Going value

refers to the decrease in the value of a property due to the is an intangible value that an actually operating concern has
gradual extraction of its contents. due to its operation.
Organization cost bond. The owner of the bond can collect the interest due by
is the amount of money spent on organizing business and surrendering the coupon to the offices of the corporation or
arranging for its financing and building. at specified banks.

Depreciation Bond Value

It is the decrease in the value of the physical property with The value of a bond is the present worth of all future
the passage of time. amounts that are expected to be received through ownership
of the bond.
Individual Ownership
The individual ownership or sole proprietorship is the Rate of Return(ROR) Method
simplest form of business organization, wherein a person It is a measure of the effectiveness of an investment of
uses his or her own capital to establish a business and is the capital. It is a financial efficiency.
sole owner.
The Annual Worth (AW) Method
The Partnership In this method, interest on the original investment
A partnership is an association of two or more persons for (sometimes called minimum required profit) is included as a
the purpose of engaging in a business for profit. cost.

The Corporation The Present Worth(PW) Method

A corporation is a distinct legal entity, separate from the This pattern for economy studies is based on the concept of
individuals who own it, and which can engage in almost any present worth. If the present worth of the net cash flows is
type of business transaction in which a real person could equal to, or greater than, zero, the project is justified
occupy himself or herself. economically.

Capitalization of a Corporation The Future Worth(FW) Method

The capital of a corporation is acquired through the sale of The future worth for making economy studies is exactly
stock. There are two principal types of capital stock: common comparable to the present worth method except that all cash
stock and preferred stock. inflows and outflows are compounded forward to a reference
point in time called the future.
Common stock
Common stock represents ordinary ownership without The Payback (Payout) Period Method
special guarantees of return. The payback period is commonly defined as the length of
time required to recover the first cost of an investment from
Preferred Stock the net cash flow produced by that investment for an interest
Preferred stockholders are guaranteed a definite dividend on rate of zero.
their stocks. In case the corporation is dissolved, the assets
must be used to satisfy the claims of the preferred Types of Costs
stockholders before those of the holders of the common Fixed costs
stock. Preferred stockholders usually have the right to vote in are those costs that remain constant, whether or not a given
meetings, but not always. change in operations or policy is adopted.

Bond Variable costs

is a certificate of indebtedness of a corporation usually for a are those costs that vary with output or any change in the
period not less than ten years and guaranteed by a mortgage activities of an enterprise.
on certain assets of the corporation or its subsidiaries. Bonds
are issued when there is a need for more capital such as for Increment costs
expansion of the plant or the services rendered by the are those that arise as the result of a change in operations or
corporation. policy.

Face value or par value of a bond Marginal cost

is the amount stated on the bond. When the face value has is the additional cost of producing one or more units of a
been repaid, the bond is said to have been retired or product.
redeemed. The bond rate is the interest rate quoted on the
bond. Sunk cost
represents money which has been spent or capital which
Registered bonds. have been invested and that cannot be recovered due to
The name of the owner of this bond is recorded on the certain reasons.
record books of the corporation and interest payments are
sent to the owner periodically without any action on his part. Break-even point
is the value of the variable for which the costs for the
Coupon bonds. alternatives will be equal
A coupon bond has a coupon attached to the bond for each
interest payment that will come due during the life of the
Physical impairment
The existing asset is completely or partially worn out and will
no longer function satisfactorily without extensive repairs.

Inadequacy
The existing asset does not have sufficient capacity to meet
the present demands that are placed on it.

Obsolescence
This may be caused either by lessening in the demand for the
service rendered by the asset or the availability of more
efficient assets that will operate with lower out-of-pocket
costs.

Rental or lease possibilities

It is possible to rent identical or comparable assets or
property, thus freeing capital for other and more profitable
use.

Sunk Cost Due to Unamortized Value

The unamortized value of equipment or property is the
difference between its book value and its resale value when
replaced. The unamortized value should be considered as a
sunk cost or a loss.

The Break-even chart

is a graphical representation of break-even analysis.

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