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APPENDIX
A
Self-Test Questions
with Answers
This appendix is designed primarily to help you develop a working knowledge of the
concepts and principles of engineering economics. All questions in this appendix are
structured in multiple-choice format as these types of exam questions are tested on the
Fundamentals of Engineering (FE) exam and, increasingly, in introductory engineering
economics courses.

How to Prepare the Fundamentals

of Engineering (FE) Exam
The set of self-study questions in this appendix will also help you prepare the FE exam.
The FE exam consists of 180 multiple-choice questions. During the morning session, all
examinees take a general exam common to all disciplines. During the afternoon session,
examinees can opt to take a general exam or a discipline-specific (Chemical, Civil, Elec-
trical, Environmental, Industrial, or Mechanical) exam.
The general exam tests four questions related to engineering economics in the morn-
ing session and five in the afternoon session. The specific engineering economics topics
covered in the FE exam are
• Annual cost
• Break-even analysis
• Benefit-Cost analysis
• Future Worth or value
• Present worth
• Valuation and depreciation
Some examples of questions provided by the National Council of Examiners for Engi-
neering and Surveying (http://www.ncees.org/exams) are shown below. In working out
each individual test question, you may highlight the critical data provided by each ques-
tion, isolate the question being asked, and outline the correct approach in the solution
under the headings Given, Find and Approach, respectively. This convention is also em-
ployed throughout the text. This guidance is intended to stimulate student curiosity to
look beyond the mechanics of problem solving to explore “what if” issues, alternative so-
lution methods, and the interpretation of the solution.

551
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552 APPENDIX A Self-Test Questions

Sample Test Question 1

If $200 is deposited in a savings account at the beginning of each of 15 years and the ac-
count draws interest at 8% per compounded annually, the value of the account at the end
of 15 years will be nearly:
(a) $6,000
(b) $5,400
(c) $5,900
(d) $6,900

Solution
Given: A = $200, N = 15 years, i = 8%
Find: F
Approach: Note that each deposit is made at the beginning of each year. However, the
equal-payment series compound amount factor (F/A, i, N) is based on the end-of-peri-
od assumption. To adjust for this timing difference, you may still use the (F/A, i, N) fac-
tor, but adjust the resulting F value for the one additional interest-earning period by
multiplying it by 11 + 0.082.

F¿ = $2001F/A, 8%, 152 = $5,430.42

F = $5,430.4211.082 = $5,865

Thus, the correct answer is (c).

Sample Test Question 2

Your county has asked you to analyze the purchase of some dump trucks. Each truck
will cost $45,000 and have an operating and maintenance cost that starts at $15,000 the
first year and increases by $2,000 per year. Assume the salvage value at the end of 5
years is $9,000 and the interest rate is 12%. The equivalent annual cost of each truck is
most nearly
(a) $31,000
(b) $41,200
(c) $26,100
(d) $29,600

Solution
Given: I = $45,000, S = $9,000, O&M cost = $15,000 first year, increasing by
$2,000 per year, N = 5 years, i = 12%
Find: AE(12%)
Approach: Note that there are two kinds of costs: ownership costs (capital costs) and
operating costs. The capital costs can be calculated by using the capital recovery with
return formula whereas the O&M cost needs to be annualized knowing that it takes a
linear gradient series with G = $2,000.
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Self Test Questions—Set No. 1 553

CR112%2 = 1I - S21A/P, i, N2 + iS
= 1$45,000 - $9,00021A/P, 12%, 52 + 10.1221$9,0002
= $11,067
AE112%2O&M = $15,000 + $2,0001A/G, 12%, 52
= $15,000 + $2,00011.77462
= $18,549
AE112%2 = CR112%2 + AE112%2O&M
= $11,067 + $18,549
= $29,616

The correct answer is (d).

Self Test Questions—Set No. 1

1. How much money should be deposited now in an account that pays 10% interest
compounded annually in order to make 5 equal annual withdrawals of $5,000?
(a) $8,052
(b) $9,050
(c) $16,761
(d) $18,954
2. You wish to have $10,000 in an account 10 years from now. How much money
must be deposited in the account now in order to have this amount if the account
pays 8% compounded annually?
(a) $1,490
(b) $3,871
(c) $4,632
(d) $5,584
3. You borrowed $20,000 from your uncle to finance your college education. Your
uncle is very flexible in your repayment plan, but he will charge an 8% interest
compounded annually for any unpaid balance. Suppose your payment plan is as
follows.
Payment 1: $5,000 two years from now
Payment 2: $7,000 three years from now
Payment 3: $X five years from now
How much (X) do you need to come up with in year 5 to ensure you have the nec-
essary funds to pay off the loan?
(a) $10,640
(b) $13,562
(c) $14,923
(d) $15,981
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554 APPENDIX A Self-Test Questions

4. Assume that $500 is deposited today, two years from now, four years from now,
six years from now, and eight years from now. At a 10% interest compounded
annually, determine the future value at the end of year 9?

0 1 2 3 4 5 6 7 8 9 10

$500 $500 $500 $500 $500

(a) $4,174
(b) $3,790
(c) $2,085
(d) $1,895
5. What single payment at the end of year 5 is equivalent to an equal annual series
of payment of $800 beginning at the end of year 3 and ending at the end of year
12? The interest rate is 8% compounded annually.

0 5 12

$800

3 12

(a) $5,797
(b) $6,260
(c) $6,762
(d) $6,883
6. Four years ago, you opened a mutual fund account and made three deposits ($200
four years ago, $X three years ago, and $300 a year ago) where you earned varying
interest rates according to the following diagram. Today, your balance shows
$1,000. Determine the amount of deposit made three years ago ($X). See the figure
on the next page.
(a) $215
(b) $237
(c) $244
(d) $259
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Self Test Questions—Set No. 1 555

F ⫽ $1,000

6% 8% 12% 15%
⫺4 ⫺3 ⫺2 ⫺1 0

$200
X
$300

7. You are making $1,000 monthly deposits into a fund that pays interest at a rate of
6% compounded monthly. What would be the balance at the end of 10 years?
(a) $163,879
(b) $158,169
(c) $127,200
(d) $159,423
8. What value of C makes these two cash flows equivalent assuming an interest rate
of 10%?
$85 $85
2C 2C
$50 $50
ⴝ C C

0 1 2 3 4 0 1 2 3 4

(a) $29.65
(b) $35.98
(c) $47.33
(d) $43.96
9. Calculate the future worth of 20 annual $2,000 deposits in a savings account that
earns 9% (compounded annually). Assume all deposits are made at the beginning
of each year.
(a) $126,005
(b) $111,529
(c) $113,529
(d) $92,037
10. You borrow $20,000 from a bank to be repaid in three equal annual installments
at 9% interest compounded annually. What is the portion of interest payment for
the 2nd annual payment?
(a) $1,800
(b) $1,251
(c) $1,089
(d) $549
11. The following two cash flows are said to be economically equivalent at 10% inter-
est. Determine the value of X for the second cash flow series.
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556 APPENDIX A Self-Test Questions

$500 $500 $500 $500 $500 $500

0 1 2 3 4 5

X X

0 1 2 3 4 5

(a) X = $1,505
(b) X = $1,500
(c) X = $1,197
(d) X = $1,192
12. What is the amount of 5 equal annual deposits that can provide five annual with-
drawals, where a first withdrawal of $1,000 is made at the end of year 6 and sub-
sequent withdrawals increase at the rate of 10% year over the previous year’s, if
the interest rate is 10% compounded annually?
(a) $745
(b) $789
(c) $1,000
(d) $1,563
13. You borrowed $4,000 to finance your educational expenses at the beginning of
your junior year of college at an interest rate of 9% compounded annually. You
are required to pay off the loan with five equal annual installments, but the first
payment will be deferred until your graduation. Determine the value of C, the
amount of annual payments.
$4,000

2 3 4 5 6
0 1

C C C C C

(a) C = $891
(b) C = $1,082
(c) C = $1,121
(d) C = $1,222
14. Consider the following cash flow series at varying interest rates. What is the
equivalent present worth of the cash flow series?
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Self Test Questions—Set No. 1 557

$1,500
$1,000 $1,000 $1,000

5% 8% 10% 6%
1 2 3 4

P⫽?

(a) P = $5,068
(b) P = $4,442
(c) P = $4,077
(d) P = $3,833
15. You borrowed $10,000 from a bank at an interest rate of 9%, compounded month-
ly. This loan will be repaid in 48 equal monthly installments over 4 years.
Immediately after your 25th payment, if you want to pay the remainder of the loan
in a single payment, the amount is close to
(a) $5,723
(b) $5,447
(c) $5,239
(d) $5,029
16. You are making semiannual deposits into a fund that pays interest at a rate of 8%
compounded continuously. What is the effective semiannual interest rate?
(a) 4.000%
(b) 4.081%
(c) 4.164%
(d) 4.175%
17. Calculate the future worth of 15 annual $3,000 deposits in a savings account that
earns 9% (compounded annually). Assume all deposits are made at the beginning
of each year.
(a) $96,010
(b) $88,083
(c) $89,345
(d) $92,037
18. You borrow $20,000 from a bank to be repaid in monthly installments for 3 years
at 9% interest compounded monthly. What is the portion of interest payment for
the 18th payment?
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558 APPENDIX A Self-Test Questions

(a) $150
(b) $88.28
(c) $80.04
(d) $84.17
19. Two banks offer the following interest rates on your deposit.
• Bank A: 8% interest compounded quarterly
• Bank B: 7.9% interest compounded continuously
Which of the following statements is not true?
(a) The annual percentage yield (APY) for Bank A is 8.24%.
(b) The effective annual interest rate for Bank B is 8.22%.
(c) Bank B offers a better deal as your money earns interest continuously.
(d) The annual percentage rate (APR) for Bank B is 7.9%.
20. You are considering either buying or leasing a vehicle. The following data have
been compiled:

Buying Leasing
Price of vehicle $22,000 $22,000
Down payment required at year 0 $2,000 0
Value of vehicle at the end of Year 3 S
(unknown)
36 Monthly payments $608 (end of $420 (beginning of
each month) each month)
Documentation Fee (one time, $400 (payable at the
nonrecurring expense, not refundable) beginning of lease)

If your interest rate is 6% compounded monthly, at what value of the vehicle at

the end of 3 years (S) would make the both options economically equivalent?
(a) $7,711
(b) $8,980
(c) $9,228
(d) $9,310

Self-Test Questions—Set No. 2

1. How many years will it take for the dollar’s purchasing power to be one-half what
it is now, if the general inflation rate is expected to continue at the rate of 6% for
an indefinite period?
(a) About 7 years
(b) About 8 years
(c) About 11 years
(d) About 12 years
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Self Test Questions—Set No. 2 559

2. An engineer’s salary was $55,000 in 2002. The same engineer’s salary in 2007 is
$70,000. If the company’s salary policy dictates that a yearly raise in salaries
reflect the cost of living increase due to inflation, what is the average inflation rate
for the period 2002–2007?
(a) 4.45%
(b) 4.94%
(c) 5.42%
(d) 5.95%
3. Suppose that you borrow $20,000 at 9%, compounded monthly, over 5 years.
Knowing that the 9% represents the market interest rate, the monthly payment in
actual dollars will be $415.17. If the average monthly general inflation rate is
expected to be 0.5%, what is the equivalent equal monthly payment series in con-
stant dollars?
(a) $359
(b) $375
(c) $405
(d) $415
4. A couple wants to save for their daughter’s college expenses. The daughter will
enter college 8 years from now and she will need $40,000, $41,000, $42,000 and
$43,000 in actual dollars for 4 school years. Assume that these college payments
will be made at the beginning of the school year. The future general inflation rate
is estimated to be 6% per year and the annual inflation-free interest rate is 5%.
What is the equal amount, in actual dollars, the couple must save each year until
their daughter goes to college?
(a) $11,838
(b) $11,945
(c) $12,142
(d) $12,538
5. You just signed a business consulting contract with one of your clients. The client
will pay you $30,000 a year for 5 years for the service you will provide over this
period. You anticipate the general inflation rate over this period to be 5%. If your
desired inflation-free interest rate to be 4%, what is the worth of the 5th payment
in today’s dollars? The client will pay the consulting fee at the end of each year.
(a) $23,506
(b) $24,658
(c) $19,498
(d) $19,320
6. You are considering making an $80,000 investment in a process improvement pro-
ject. Revenues are expected to grow from $50,000 in year 1 by $30,000 each year
for next four years, ($50,000 first year, $80,000 second year, $110,000 third year,
and so forth) while costs are expected to increase from $20,000 in year 1 by
$10,000 each year. If there is no salvage value at the end of 5 years, what is the
annual equivalent worth of the project assuming a MARR of 12%?
(a) $65,492
(b) $53,300
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560 APPENDIX A Self-Test Questions

(c) $47,785
(d) $43,300
7. You are considering buying a 30-HP electric motor which has an efficiency rating
of 89%. The motor costs $10,000 and will be used for 10 years. The expected sal-
vage value at that time is $1,000. The cost to run the electric motor is $0.09 per
kWh for 2,000 hours a year. 11 HP = 0.7457 kW2. What is the total equivalent
cost (present worth) of owning and operating the motor for 10 years at an interest
rate of 12%?
(a) $35,242
(b) $25,884
(c) $32,426
(d) $22,425
8. You purchased a drill press machine for $180,000. It is expected to have a useful
life of 10 years. The accounting department tells you that the annual capital cost
is $33,895 at i = 15%. What is the salvage value used in obtaining the annual cap-
ital cost of this machine?
(a) $30,100
(b) $35,300
(c) $39,970
(d) $42,000
9. Consider the following project cash flow series along with project balances. Knowing
the relationship between the project cash flows and their project balances; calculate
the interest rate used net future worth at the project life, and its present worth.

n Cash Flow Project Balance

0 - $1,000 - $1,000
1 $200 - $900
2 $490 - $500
3 $550 $0
4 - $100 - $100
5 $200 $90

(a) 10%, $200, $90

(b) 15%, $90, $44.7
(c) 10%, $90, $55.9
(d) 15%, $200, $90
10. You are considering a project with the following financial data:
• Required initial investment at n = 0: $50M
• Project life: 10 years
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Self Test Questions—Set No. 2 561

• Estimated annual revenue: $X (unknown)

• Estimated annual operating cost: $15M
• Required minimum return: 20%
• Salvage value of the project: 15% of the initial investment
What would be the minimum annual revenue (in $M) that must be generated to
make the project worthwhile?
(a) X = $26.64 M
(b) X = $28.38 M
(c) X = $32.47 M
(d) X = $35.22 M
11. The Google Company went public on August 20, 2004. The initial public offer-
ing price was $108 per share. If the stock trades at $540 on August 20, 2007,
what would the compound annual return on investment be to the investors who
purchased the stock and held it for 3 years?
(a) 500%
(b) 400%
(c) 122%
(d) 71%
12. Consider manufacturing equipment that has an installed cost of $120,000. The
equipment is expected to generate $45,000 of annual energy savings during its
first year of installation. The value of these annual savings is expected to increase
by 5% per year (over previous year) because of increased fuel costs. Assume that
the equipment has a service life of 10 years (or 5,000 operating hours per year)
with $20,000 worth of salvage value. Determine the equivalent dollar savings per
each operating hour at i = 10%.
(a) $6.99 per hour
(b) $7.24 per hour
(c) $4.45 per hour
(d) $4.29 per hour
13. You are considering a CNC machine. This machine will have an estimated service
life of 10 years with a salvage value of 10% of the investment cost. Its annual net
revenues are estimated to be $50,000. To expect a 20% rate of return on invest-
ment, what would be the maximum amount that you are willing to pay for the
machine? (Ignore any tax consideration.)
(a) $213,065
(b) $209,624
(c) $249,998
(d) $276,860
14. Consider the investment project with the net cash flows as shown in the table at
the top of next page. What would be the value of X if the project’s IRR is 23%?
(a) $4,500
(b) $4,750
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562 APPENDIX A Self-Test Questions

End of Year (n) Net Cash Flow

0 - $12,000
1 $2,500
2 $5,500
3 X
4 X

(c) $6,890
(d) $6,500
15. The following investment has a rate of return of 12%.

$300 $300 $300

X X

0
1 2 3 4 5

$780

If you calculate the annual equivalent value of the investment at i = 12%, the
value should be close to
(a) $217
(b) $47
(c) $0
(d) $11
16. The City of Atlanta is considering adding new buses for its current mass-transit
system that links from the Hartsfield International Airport to major city destina-
tions on non-stop basis. The total investment package is worth $8 million and
expected to last 10 years with a $750,000 salvage value. The annual operating and
maintenance costs for buses would be $2 million. If the system is used for 600,000
trips per year, what would be the fair price to charge per trip? Assume that the City
of Atlanta uses 5% interest rate for any city-sponsored projects.
(a) $3.50 per trip
(b) $4.00 per trip
(c) $4.50 per trip
(d) $5.00 per trip
17. You purchased a stamping machine at $100,000 to produce a new line of products.
The stamping machine will be used for 5 years and the expected salvage value of
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Self Test Questions—Set No. 2 563

the machine is 20% of the initial cost. The annual operating and maintenance
costs amount to $30,000. If each part stamped generates $12 revenue, how many
parts should be stamped each year to just break? Assume that you require a 15%
return on your investment.
(a) 5,000
(b) 4,739
(c) 4,488
(d) 2,238
18. Consider the following two mutually exclusive investment alternatives:

Net Cash Flow

End of Year Machine A Machine B

0 -$2,000 -$1,000
1 -$600 -$900
2 -$700 -$1,000 + $200
3 - $800 + $500

Suppose that your firm needs either machine for only 2 years. The net proceeds
from the sale of machine B are estimated to be $200. What should be the required
net proceeds from the sale of machine A so that both machines could be consid-
ered economically indifferent at an interest rate of 10%?
(a) $750
(b) $780
(c) $800
(d) $850
19. Find the capitalized equivalent worth for the project cash flow series with repeat-
ing cycles at an interest rate of 10%.

$500 $500
$400 $400
$300 $300
$200 $200

0
1 2 3 4 5 6 7 8 9

CE(10%) ⫽ ?
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564 APPENDIX A Self-Test Questions

(a) $1,147
(b) $1,679
(c) $3,619
(d) $6,381
20. Consider the following the projects cash flows:

End of Year (n) Project A Project B Project C Project D

0 - $1,000 - $3,000 $2,000 - $4,000

1 $200 $2,000 - $600 - $1,000
2 $500 $2,000 - $600 $6,000
3 $600 - $1,500 - $600 0
4 $400 $2,000 - $600 $2,000

Which of the following statements is correct?

(a) Project A is the only simple investment.
(b) Project A and D are the only projects that will have a unique positive rate of
return.
(c) Project B is the only nonsimple investment.
(d) None of the above.

Self-Test Questions—Set No. 3

1. At what annual interest rate will $1,000 invested today be worth $2,000 in 10
years?
(a) 6.5%
(b) 7.2%
(c) 9.3%
(d) 5.8%
2. If you borrow $20,000 at an interest rate of 8%, compounded annually, with the
repayment schedule as follows, what is the amount A? (Note that there is a missing
payment in year 5.)

$20,000

0 1 2 3 4 5 6 7 8 9 Year

A A A A A A A A
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Self Test Questions—Set No. 3 565

(a) A = $2,393
(b) A = $2,793
(c) A = $3,193
(d) A = $3,593
3. Compute the future worth% (F) for the cash flows with the different interest rates
specified. The cash flows occur at the end of each year over 4 years.

F⫽?
8% Compounded 6% Compounded
annually monthly

0 1 2 3 4
Year

$150

$450 $450

(a) F = $1,210
(b) F = $1,050
(c) F = $1,390
(d) None of them
4. If $400 is deposited in a savings account at the beginning of each of 15 years and
the account draws interest at 8% compounded annually, the value of the account
at the end of 15 years will be nearly:
(a) $12,000
(b) $10,860
(c) $11,730
(d) $13,800
5. Suppose you purchased a corporate bond with a 10-year maturity, a $1,000 par
value, a 10% coupon rate, and semiannual interest payments. What all this means
that you receive $50 interest payment at the end of each six-month period for 10
years (20 times). Then, when the bond matures, you will receive the principal
amount (the face value) in lump sum. Three years after the bonds were purchased;
the going rate of interest (coupon rate) on new bonds fell to 6% (or 6% com-
pounded semiannually). What is the current market value (P) of the bond (3 years
after the purchase)?
(a) P = $1,371
(b) P = $1,226
(c) P = $1,436
(d) P = $1,790
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566 APPENDIXA Self-Test Questions

6. You borrowed $100,000 agreeing to pay the balance in 10 equal annual install-
ments at 8% annual interest. Determine the remaining loan balance right after the
5th payment.
(a) $74,515
(b) $68,894
(c) $59,503
(d) $49,360
7. Suppose that you borrow $20,000 at 12%, compounded monthly, over 5 years.
Knowing that the 12% represents the market interest rate, the monthly payment in
actual dollars will be $444.90. If the average monthly general inflation rate is
expected to be 0.3%, what is the equivalent equal monthly payment series in con-
stant dollars?
(a) $409
(b) $445
(c) $364
(d) $345
8. A company is considering an investment with the following expected cash flows
in constant dollars over 3 years. If the company’s MARR (inflation-adjusted) is
known to be 15% and the expected general inflation rate 1f2 is 6% during this
project period, determine the equivalent present worth of the project at period 0.

Year 0 1 2 3
Cash flow ($) -30,000 15,000 15,000 15,000

(a) $ 4,248
(b) $ 3,567
(c) $10,095
(d) $ 8,317
9. Consider the following project balance profiles for proposed investment projects.

Project Balances
N Project A Project B Project C
0 - $600 - $500 - $200
1 200 300 0
2 300 650 150
NPW — $416.00 —
Rate used 15% ? —

Statement 1—For Project A, the cash flow at the end of year 2 is $100
Statement 2—For Project C, its net future worth at the end of year 2 is $150
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Self Test Questions—Set No. 3 567

Statement 3—For Project B, the interest rate used is 25%

Statement 4—For Project A, the rate of return should be greater than 15%
Which of the statement(s) above is (are) correct?
(a) Just Statements 1 and 2
(b) Just Statements 2 and 3
(c) Just Statements 1 and 3
(d) Just Statements 2, 3 and 4
10. You are considering purchasing a dump truck. The truck will cost $45,000 and
have an operating and maintenance cost that starts at $15,000 the first year and
increases by $2,000 per year thereafter. Assume that the salvage value at the end
of 5 years is $9,000 and interest rate is 12%. The equivalent annual cost of own-
ing and operating the truck is most nearly
(a) $31,400
(b) $41,210
(c) $26,100
(d) $29,615
11. You have purchased an equipment costing $20,000. The equipment will be
used for 2 years, and at the end of 2 years, the salvage value of the machine is
expected to be $10,000. The machine will be used 6,000 hours during the first
year and 8,000 hours during the second year. The expected annual net savings
will be $30,000 during the first year and $40,000 during the second year. If
your interest rate is 10%, what would be the equivalent net savings per machine
hour?
(a) $3.03/hour
(b) $4.03/hour
(c) $5.03/hour
(d) $6.03/hour
12. You are considering a luxury apartment building project that requires an invest-
ment of $12,500,000. The building has 50 units. You expect the maintenance cost
for the apartment building to be $250,000 in the first year, $300,000 in the second
year, and will continue to increase by $50,000 in subsequent years. The cost to
hire a manager for the building is estimated to be $80,000 per year. After five
years of operation the apartment building can be sold for $14,000,000. What is the
annual rent per apartment unit that will provide a return on investment of 15%?
Assume the building will remain fully occupied during the five years. (Ignore any
tax consideration.)
(a) $36,445
(b) $38,567
(c) $41,373
(d) $44,980
13. A machine, costing $25,000 to buy and $3,000 per year to operate, will save main-
ly labor expenses in packaging over 6 years. The anticipated salvage value of the
machine at the end of 6 years is $5,000. To desire a 10% return on investment (rate
of return), what is the minimum required annual savings in labor from this
machine?
PARKAPPAff.qxd 12/1/07 10:33 PM Page 568

568 APPENDIX A Self-Test Questions

(a) $6,283
(b) $5,092
(c) $8,740
(d) $8,092
14. You are evaluating five investment projects. You already calculated the rate of
return for each alternative investment and incremental rate of return between the
two alternatives as well. In calculating the incremental rate of return, a lower cost
investment project is subtracted from the higher cost investment project. All rate
of return figures are rounded to the nearest integers.

Initial Rate of Rate of Return on Incremental Investment

Investment
Investment Return (%)
Alternative
($) (%) When Compared with Alternative
A B C D E
A 35,000 12 28 20 36 27

B 45,000 15 12 40 22

C 50,000 13 42 25

D 65,000 20 -5

E 80,000 18

If all investment alternatives are mutually exclusive and the MARR is 12%, which
alternative should be chosen?
(a) Select D
(b) Select E
(c) Select B
(d) Do nothing
15. Consider a 5-year MACRS asset, which can be purchased at $80,000. The salvage
value of this asset is expected to be $42,000 at the end of 3 years. What is the gain
or loss amount when the asset is disposed of at the end of 3 years?
(a) Gain $11,280
(b) Gain $9,860
(c) Loss $9,860
(d) Gain $18,960
16. A municipal government is considering two mutually exclusive proposals for a
new softball complex on a city-owned lot.

Annual Annual
Alternative Design Seating Capacity Required Investment
Benefits Costs

A1 3,000 $194,000 $87,500 $800,000

A2 4,000 224,000 105,000 1,000,000
PARKAPPAff.qxd 12/1/07 10:33 PM Page 569

Self Test Questions—Set No. 3 569

The complex will be useful for 30 years and has no appreciable salvage value
(regardless of seating capacity). Assuming an 8% discount rate, which of the fol-
lowing statements is incorrect?
(a) Select A1 because it has the largest B/C ratio.
(b) Select A1 because it has the most benefits per seating capacity
(c) Select A1 because it has the largest PW
(d) Select A1 because the incremental benefits generated from A2 are not large
enough to offset the additional investment ($200,000 over A1)
17. A special purpose machine tool set would cost $20,000. The tool set will be
financed by a $10,000 bank loan repayable in two equal annual installments at
10% compounded annually. The tool is expected to provide annual savings
(material) of $30,000 for 2 years and is to be depreciated by the 3-year MACRS
method. And this special machine tool will require annual O&M costs in the
amount of $5,000. The salvage value at the end of two years is expected to be
$8,000. Assuming a marginal tax rate of 40% and MARR of 15%, what is the
net present worth of this project? (You may use the following worksheet in your
calculation.)

Cash Flow Statement 0 1 2

Operating Activities
Net Income $10,400 $12,019

Depreciation $6,666 $4,445

Investment Activities
Investment -$20,000

Salvage $8,000
Gains Tax (40%)
Financial Activities
Borrowed Funds $10,000
Principal Repayment 0
Net Cash Flow - $10,000

(a) $15,506
(b) $14,968
(c) $23,607
(d) $18,562
18. Which of the following statements is correct under an inflationary economy?
(a) Generally you will pay less tax in real dollars if you have depreciable assets
(b) Debt financing is always a preferred option because you are paying back with
cheaper dollars
PARKAPPAff.qxd 12/1/07 10:33 PM Page 570

570 APPENDIX A Self-Test Questions

(c) Government will collect less tax in short-run, but end up collecting more in the
long-run
(d) Actual dollar analysis is always preferred when the effects of income taxes
must be considered
19. For a certain investment project, the net present worth can be expressed as
functions of sales price (X) and variable production cost Y, say
NPW = 20,00013X - 2Y2 + 6,000. The base values for X and Y are $24 and
$13, respectively. If the sales price is increased by 20% over the base price, how
much change (%) in NPW can be expected?
(a) 20%
(b) 25%
(c) 31%
(d) 35%
20. A manufacturing company is considering a capacity expansion investment at the cost
of $250,000. The expansion would enable the company to produce up to 100,000
more parts and the useful life of the additional capacity is 7 years. Each part would
generate $2 net profit and annual operating and maintenance costs are estimated at
$25,000 per year. If the MARR of the firm is 10%, what is the minimum yearly pro-
duction rate to make this investment justifiable? Assume a salvage value of 0.
(a) Less than 37,000
(b) Between 37,000 and 39,000
(c) Between 39,000 and 42,000
(d) Greater than 42,000

Solution to Set No. 1

1. P = $5,0001P>A, 10%, 52
= $18,954

2. P = $10,0001P>F, 8%, 102

= $4,632

3. $20,000 = $5,0001P>F, 8%, 22 + $7,0001P>F, 8%, 32 + X1P>F, 8%, 52

= $4,286.70 + $5,556.83 + 0.6806X
X = $14,923
4. Method 1:
F = $5001F>P, 10%, 92 + $5001F>P, 10%, 72
+ $5001F>P, 10%, 52 + $5001F>P, 10%, 32
+ $5001F>P, 10%, 12
= $4,174

Method 2:
F = $5001F>A, 21%, 521F>P, 10%, 12
= $4,174
PARKAPPAff.qxd 12/1/07 10:33 PM Page 571

Solution to Set No. 1 571

Method 3:
F = 3$500 + $5001P>A, 21%, 4241F>P, 10%, 92
= $4,174

5. Method 1:
V5 = $8001F>A, 8%, 32 + $8001P>A, 8%, 72
= $6,762

Method 2:
V5 = $8001P>A, 8%, 1021F>P, 8%, 32
= $6,762
6. B-3 = $20011.062 + X = $212 + X
B-2 = B-311.082 = 1$212 + X211.082 = $228.96 + 1.08X
B-1 = B-211.122 + $300 = 1$228.96 + 1.08X211.122 + $300
= $556.44 + 1.2096X
B0 = B-111.152 = 1$556.44 + 1.2096X211.152 = $639.91 + 1.391X
$1,000 = $639.91 + 1.391X
X = $258.87

6%
7. F = $1,000aF/A, , 120b = $163,879
12
8. Select the base period at n = 4:
$501F>A, 10%, 42 + $351F>A, 10%, 22 = C1F>A, 10%, 42 + C1F>P, 10%, 22
+ C1F>P, 10%, 12
$305.55 = 6.95C
C = $43.96
9. If all deposits were made at the end of each year:
F = $2,0001F>A, 9%, 202
= $102,320.24

If all deposits were made at the beginning of each year:

F = $102,320.2411.092
= $111,529.06

10. A = $20,0001A>P, 9%, 32

= $7,901.10
B1 = $7,901.101P>A, 9%, 22 = $13,898.91
I2 = $13,898.9110.092 = $1,250.90
PARKAPPAff.qxd 12/1/07 10:33 PM Page 572

572 APPENDIX A Self-Test Questions

11. $500 + $5001P>A, 10%, 52 = X1P>F, 10%, 12 + X1P>F, 10%, 42

$2,395.39 = 1.5921X
X = $1,504.55

12. C1F>A, 10%, 52 = $1,0001P>A 1 , 10%, 10%, 52

b = $4,545.45
5
6.1051C = $1,000a
1 + 0.10
C = $744.53
13. $4,000 = C1P>A, 9%, 521P>F, 9%, 12
= 3.5685C
C = $1,120.92
14. Balance at the end of each period (n):
n = 3 : $1,0001P>F, 6%, 12 + $1,000 = $1,943.40
n = 2 : $1,943.401P>F, 10%, 12 + $1,500 = $3,266.72
n = 1 : $3,266.721P>F, 8%, 12 + $1,000 = $4,024.74
n = 0 : $4,024.741P>F, 5%, 12 = $3,833.09

9%
15. A = $10,000a A/P, , 48b = $248.85
12

, 23 b = $5,239.12
9%
B25 = $248.85a P>A,
12

16. i = e0.08>2 - 1 = 4.081%

17. F = $3,0001F>A, 9%, 152 = $88,082.75

F = $88,082.7511.092 = $96,010.20

9%
18. A = $20,000aA>P, , 36b = $635.99
12
9%
B17 = $635.99a P>A, , 19b = $11,223.36
12
I18 = $11,223.3610.00752 = $84.17

19. Bank A: APR = 8%

0.08 4
APY = ia = a1 + b - 1 = 8.24%
4
Bank B: APR = 7.9%
APY = ia = e0.079 - 1 = 8.22%
Select (c).
PARKAPPAff.qxd 12/1/07 10:33 PM Page 573

Solution to Set No. 2 573

20. Cost of buying:

6% 6%
PBuy = - $2,000 - $608a P>A, , 36b + Sa P>F, , 36b
12 12
= - $21,985.58 + 0.8356S

Cost of leasing:

PLease = - $400 - $420 - $420 aP>A,

6%
, 35b
12
= - $14,274.86

Let PBuy = PLease and solve for S:

- $21,985.58 + 0.8356S = - $14,274.86

S = $9,227.76

Solution to Set No. 2

1. Use the Rule of 72:
72
N L = 12 years
6
Use the interest formula:

a b 1F2 = F1P>F, 6%, N2

1
2
1
11.062N
0.5 =

N = 12 years

2. $70,000 = $55,0001F>P, f, 52
= $55,00011 + f25
f = 4.94%
3. i = i¿ + f + i¿f
i - f 0.0075 - 0.005
i¿ = = = 0.002487
1 + f 1 + 0.005
A = $20,0001A>P, 0.2487%, 602
= $359.24
4. Market interest rate:
i = i¿ + f + i¿f
= 0.05 + 0.06 + 0.05 * 0.06 = 11.3%
PARKAPPAff.qxd 12/1/07 10:33 PM Page 574

574 APPENDIX A Self-Test Questions

Equivalent lump sum amount of college expenses at n = 8:

V8 = $40,000 + $41,0001P>F, 11.3%, 12 + $42,0001P>F, 11.3%, 22
+ $43,0001P>F, 11.3%, 32
= $141,929.67
Total savings required at n = 8:

V8 = C1F>A, 11.3%, 82
= 11.9897C
Required annual savings:

11.9897C = $141,929.67
C = $11,837.63
5. i = i¿ + f + i¿f
= 0.04 + 0.05 + 0.04 * 0.05 = 9.2%
P = $30,0001P>F, 9.2%, 52
= $19,320.04
6. Capital cost:
CR112%2 = $80,0001A>P, 12%, 52
= $22,192.78
Equivalent annual revenue:
AE112%2Revenue = $50,000 + $30,0001A>G, 12%, 52
= $103,237.83
Equivalent annual O&M cost:
AE112%2O&M = $20,000 + $10,0001A>G, 12%, 52
= $37,745.94
Equivalent annual worth:
AE112%2 = $103,237.83 - $22,192.78 - $37,745.94
= $43,299.11
7. Capital cost:

CR112%2 = 1$10,000 - $1,00021A>P, 12%, 102 + 0.121$1,0002

= $1,712.86
Energy cost:

O & M112%2 = a b 12,000 hrs/yr21$0.09/kWh2

30 HP * 0.7457 kW/HP
0.89
= $4,524.47/yr
PARKAPPAff.qxd 12/1/07 10:33 PM Page 575

Solution to Set No. 2 575

Total equivalent cost in present worth:

AEC112%2 = $1,712.86 + $4,524.47
= $6,237.33
PW112%2 = $6,237.331P>A, 12%, 102
= $35,242.30

8. CR115%2 = 1$180,000 - S21A>P, 15%, 102 + 0.15S

$33,895 = $35,865.37 - 0.1993S + 0.15S
S = $39,967

9. Interest rate used:

PB1i21 = PB1i2011 + i2 + A 1
= - $1,00011 + i2 + $200 = - $800 - 1000i
= - $900
- $900 = - $800 - 1000i
i = 10%

Net future worth:

FW110%2 = PB1i25 = $90
Net present worth:
PW110%2 = $901P>F, 10%, 52
= $55.9

10. $50M = 1X - 15M21P>A, 20%, 102 + 10.152150M21P>F, 20%, 102

= 4.1925X - 62.89M + 1.21M
4.1925X = $111.68M
X = $26.64M

11. $540 = $10811 + i23

i = 71%

12. Capital cost:

CR110%2 = 1$120,000 - $20,00021A>P, 10%, 102 + 0.11$20,0002
= $18,274.53

Equivalent annual energy savings:

$334,791.40 0.16275
$'''''%'''''& $''%''&
$45,0001P>A 1 , 5%, 10%, 1021A>P, 10%, 102
AE110%2Energy Savings =

= $54,485.75
PARKAPPAff.qxd 12/1/07 10:33 PM Page 576

576 APPENDIX A Self-Test Questions

Net annual savings:

$54,485.75 - $18,274.53 = $36,211.22
Savings per operating hour:
$36,211.22
= $7.24/hr
5,000
13. I = $50,0001P>A, 20%, 102 + 0.10I1P>F, 20%, 102
I - 0.01615I = $209,623.60
0.98385I = $209,623.60
I = $213,065

14. 0 = - $12,000 + $2,5001P>F, 23%, 12 + $5,5001P>F, 23%, 22

+ X1P>F, 23%, 32 + X1P>F, 23%, 42
= - $6,332.07 + 0.9742X
X = $6,499.76

15. Recall that PW1i*2 = FW1i*2 = AE1i*2 = 0, so the answer is (c).

16. Capital cost:
CR15%2 = 1$8,000,000 - $750,00021A>P, 5%, 102 + 0.051$750,0002
= $976,409
Equivalent annual O&M cost: $2,000,000
Total annual equivalent cost:
AEC15%2 = $976,409 + $2,000,000 = $2,976,409
Cost per trip:
$2,976,409
= $4.96/trip
600,000

17. 0 = - $100,000 + 112X - $30,00021P>A, 15%, 52 + $20,0001P>F, 15%, 52

= - $100,000 + 40.22586X - $100,564.65 + $9,943.53

= - $190,621.12 + 40.22586X
X = $4,738.77
18. PW110%2A = - $2,000 - $6001P>F, 10%, 12 + 1S - $70021P>F, 10%, 22
= - $3,123.96 + 0.8264S
PW110%2B = - $1,000 - $9001P>F, 10%, 12 - $8001P>F, 10%, 22
= - $2,479.33

Let PW110%2A = PW110%2B and solve for S.

- $3,123.96 + 0.8264S = - $2,479.33
S = $780
PARKAPPAff.qxd 12/1/07 10:33 PM Page 577

Solution to Set No. 3 577

19. AE110%2First Cycle = $500 - $1001A>G, 10%, 42 = $361.88

$361.88
CE110%2 = = $3,618.80
0.10
20. The correct answer is (c).

Solution to Set No. 3

1. Rule of 72:
72
= 10 years Q i = 7.2%
i
Exact Solution:
$2,000 = $1,00011 + i210
2 = 11 + i210
ln 2 = 10 ln11 + i2
0.06931 = ln11 + i2
e0.06931 = 1 + i
i = 7.18%

2. $20,000 = A1P>A, 8%, 92 - A1P>F, 8%, 52

= 6.2469A - 0.6806A
= 5.5663A
A = $3,593.05
3. B0 = $450
B2 = $4501F>P, 8%, 22 + $150 = $674.88
6%
B4 = $674.88aF>P, , 24b + $450
12
= $1,210.70

4. F = $4001F>A, 8%, 15211.082

= 1$19,860.85211.082
= $11,729.71
5. P = $501P>A, 3%, 142 + $1,0001P>F, 3%, 142
= $1,225.92
6. A = $100,0001A>P, 8%, 102
= $14,902.95
B5 = $14,902.951P>A, 8%, 52
= $59,503.16
PARKAPPAff.qxd 12/1/07 10:33 PM Page 578

578 APPENDIX A Self-Test Questions

7. A = $20,0001A>P, 1%, 602

= $444.90
0.01 - 0.003
i¿ = = 0.6979%
1 + 0.003
A¿ = $20,0001A>P, 0.6979%, 602
= $409.12

0.15 - 0.06
8. i¿ = = 8.4906%
1 + 0.06
PW18.4906%2 = - $30,000 + $15,0001P>A, 8.4906%, 32
= $8,316.79

9. Statement 1: $20011 + 0.152 + A 1 = $300 Q A 1 = $70, not true

Statement 2: FW1i2 = PB1i22 = $150, true
Statement 3: $65011 + i2-2 = $416 Q i = 25%, true
Statement 4: Since PB115%22 = $300 : PW115%2 7 0, i* 7 15%, true
The correct answer is (d).

10. CR112%2 = 1$45,000 - $9,00021A>P, 12%, 52 + 10.1221$9,0002

= $11,066.76
AEC112%2O&M = $15,000 + $2,0001A>G, 12%, 52
= $18,549.18
AEC112%2 = $11,066.76 + $18,549.18
= $29,615.94

11. CR110%2 = 1$20,000 - $10,00021A>P, 10%, 22 + 10.1021$10,0002

= $6,761.90
AE110%2Savings = 1$30,0001P>F, 10%, 12 + $40,0001P>F, 10%, 2221A>P, 10%, 22
= $34,761.90
AE110%2 = $34,761.90 - $6,761.90
= $28,000
$28,000 = 16,000X1P>F, 10%, 12 + 8,000X1P>F, 10%, 2221A>P, 10%, 22
= 6,952.38X
X = $4.03 per hour
12.
CR115%2 = 1$12,500,000 - $14,000,00021A>P, 15%, 52 + 10.1521$14,000,0002
= $1,652,526
AEC115%2O&M = $250,000 + $50,0001A>G, 15%, 52 + $80,000
= $416,141
AEC115%2 = $1,652,526 + $416,141
= $2,068,667
PARKAPPAff.qxd 12/1/07 10:33 PM Page 579

Solution to Set No. 3 579

$2,068,667
= $41,373 per unit
50
13.
PW110%2 = 0 = - $25,000 + 1X - $3,00021P>A, 10%, 62 + $5,0001P>F,10%, 62
= $35,243.41 - 4.3553X
X = $8,092

14. Then correct answer is (a).

b = $49,280
0.192
Total depreciation = $80,000a0.20 + 0.32 +
2
15.
(''')'''*
0.616

Book value = $80,000 - $49,280 = $30,720

Taxable gains = $42,000 - $30,720 = $11,280
16. We must use incremental investment approach in comparing alternatives. To apply
incremental analysis, we compute the incremental differences for each term
1B, I, C¿2 and take the B/C ratio based on these differences.

Alternative I C¿ B B/C Ratio PW(8%)

A1 $800,000 $985,056 $2,184,010 1.22 $398,954

A2 $1,000,000 $1,182,067 $2,521,744 1.16 $339,677

A2–A1 $200,00 $197,011 $337,734 0.85 - $59,277

Clearly, A1 is a better choice. Even the B/C ratio for A1 happens to exceed that of
A2; we should not select the project based on the magnitude of B/C ratio alone.
We should apply the incremental analysis to select the correct alternative. Since
BC18%2A2 - A1 = 0.85 6 1, A1 is a better alternative. The answer is (a), because
A1 is selected with a wrong reason.
17. Gains tax (loss credit):
Total depreciation: $6,666 + $4,445 = $11,111
BV = $20,000 - $11,111 = $8,889
Taxable gains 1losses2 = $8,000 - $8,889 = 1$8892
Loss credit = $889 * 0.40 = $356
Loan repayment schedule: A = $10,0001A>P, 10%, 22 = $5,761.90
PW115%2 = - $10,000 + $12,3041P>F, 15%, 12 + $19,5821P>F, 15%, 22
= $15,506
PARKAPPAff.qxd 12/1/07 10:33 PM Page 580

580 APPENDIX A Self-Test Questions

0 1 2

Beginning Balance - $10,000 - $5,238.10

Interest - $1,000 - $523.80

Payment - $10,000 + $5,761.90 + $5,761.90

Ending Balance - $10,000 - $5,238.10 0

Principal payment 0 $4,762 $5,238

Cash Flow Statement 0 1 2

Operating Activities

Net Income $10,400 $12,019

Depreciation $6,666 $4,445

Investment Activities

Investment - 20,000

Salvage $8,000

Gains Tax (40%) $356

Financial Activities

Borrowed Funds $10,000

Principal Repayment 0 -$4,762 -$5,238

Net Cash Flow - $10,000 $12,304 $19,582

18. The correct statement is (d).

19. NPWBase = $20,00013 * 24 - 2 * 132 + $6,000
= $926,000
NPWNew = $20,00013 * 28.80 - 2 * 132 + $6,000
= $1,214,000
$1,214,000 - $926,000
¢ = = 31%
$926,000
20. PW110%2 = - $250,000 + 12X - $25,00021P>A, 10%, 72
= - $250,000 + 9.7368X - $121,710
= 0
9.7368X = $371,710
X = $38,175