CONCEPTS: INTERNAL RATE OF RETURN (IRR)

- The IRR is the discount rate that makes the net present value of all
UNEVEN PAYMENT SERIES
cash flows equal to zero. It’s used to determine the profitability of an
- A series of cash flows (either inflows or outflows) where the
investment.
amounts vary from period to period.
- Unlike annuities, where payments are equal and regularly spaced,
COMMON MISTAKES IN HANDLING UNEVEN-PAYMENT
uneven-payment series involve varying amounts at different times.
SERIES:
1. Forgetting to discount each individual cash flow: Always adjust
APPLICATIONS OF UNEVEN-PAYMENT SERIES:
each payment to the correct period using the appropriate discount
* Investment Projects: Cash inflows from investments may fluctuate
rate.
due to changing revenues or costs over time.
2. Incorrectly identifying the time period: Make sure that the
* Loans with Variable Payments: Some loans may have different
period number \( t \) corresponds to when the cash flow occurs.
payment amounts depending on interest rates or other financial
3. Using the wrong discount or interest rate: Ensure that you are
factors.
using the correct rate based on the problem's context (compounding
* Cost Analysis: Many projects incur costs that fluctuate due to
annually, quarterly, etc.).
changes in material prices, labor, or operational expenses.
ADVANTAGES OF UNDERSTANDING UNEVEN-PAYMENT
KEY POINTS:
SERIES:
- Uneven payments are non-uniform in size.
1. Flexibility in Real-World Applications: Most cash flows in real-
- Payments can be one-time, recurring, or occur at irregular
world projects are uneven, so mastering these calculations is
intervals.
essential for accurate financial assessments.
- Often analyzed using Present Value (PV) or Future Value (FV) to
2. Improved Decision-Making: By correctly calculating present and
compare or evaluate financial alternatives.
future values of uneven cash flows, businesses and engineers can
make better decisions regarding investments, projects, and loans.
PRESENT VALUE (PV) OF UNEVEN CASH FLOWS:
3. Accurate Project Valuation: Uneven-payment analysis is critical
- Present Value is the sum of all individual cash flows adjusted to a
for determining whether a project or investment will generate the
single point in time (usually today).
expected returns or whether other alternatives are more profitable.

EVEN-PAYMENT SERIES
- Even-Payment Series refers to a series of equal cash flows
(payments or receipts) that occur at regular intervals.
- Each payment is the same in amount and happens at the same
point in each period (e.g., monthly, annually).

TWO COMMON TYPES OF EVEN-PAYMENT SERIES:

1. Ordinary Annuity: Payments are made at the end of each period.
FUTURE VALUE (FV) OF UNEVEN CASH FLOWS: 2. Annuity Due: Payments are made at the beginning of each
- Future Value aggregates all cash flows to a specific point in the period.
future. Each cash flow is compounded forward to the future period.
KEY CHARACTERISTICS:
* Consistency: The amount of the payment and the timing must be
consistent throughout the series.
* Regular Intervals: Payments must occur at equal intervals (e.g.,
monthly, yearly).

IMPORTANCE IN ENGINEERING PROJECTS:

* Loan Repayments: Engineers use even-payment series to
calculate equal payments over time for repaying loans.
* Capital Recovery: When investing in equipment or machinery,
NET PRESENT VALUE (NPV): engineers use this concept to recover costs through periodic revenue
- NPV is commonly used to evaluate the profitability of projects or
or fees.
investments. It sums all present values of future cash flows and
* Investment Growth: Predicting future values of investments that
subtracts the initial investment. are made periodically.
FUTURE VALUE OF EVEN-PAYMENT SERIES (F): GRADIENT SERIES
- This formula calculates the future value of a series of equal - A Gradient Series refers to a sequence of cash flows that increase
payments, assuming that each payment earns interest over time. or decrease by a fixed amount each period.
- The change in the amount is consistent across each time interval,
but the actual payments or receipts grow or decline over time.

TWO COMMON TYPES OF GRADIENT SERIES:

1. Arithmetic Gradient: Cash flows increase or decrease by a fixed
amount each period.
2. Geometric Gradient: Cash flows increase or decrease by a fixed
percentage each period (not covered in detail here).

KEY CHARACTERISTICS:
* Consistency in Gradient: The increase or decrease is the same in
PRESENT VALUE OF EVEN-PAYMENT SERIES (P): every period (for an arithmetic gradient).
- This formula calculates the current value of a series of future equal * Incremental Change: The cash flows change by a fixed amount
payments. from one period to the next.

IMPORTANCE IN ENGINEERING PROJECTS:

1. Model Increasing Costs: Gradually rising operational or
maintenance costs for equipment over time.
2. Plan for Revenue Growth: Companies may anticipate growing
revenues each year due to market expansion or price increases.
3. Depreciation and Declining Values: Engineering assets like
machinery may lose value over time, and a gradient series can
represent declining cash inflows.

PRESENT VALUE OF AN ARITHMETIC GRADIENT (PG):

- This formula calculates the present value of cash flows that
AMOUNT OF EACH PAYMENT (A): increase by a fixed amount G each period.
- This formula calculates the amount of each periodic payment when
you know the present value or future value of the series.

FUTURE VALUE OF AN ARITHMETIC GRADIENT (FG):

- This formula calculates the future value of a gradient series where
APPLICATIONS IN ENGINEERING: payments increase by a fixed amount $G$ each period.
1. Loan Repayment: Engineers often need to calculate equal
payments for loans used to fund projects.
- By using the Amount of Each Payment (A) formula, they can
determine how much needs to be paid each period to fully repay the
loan over time.
2. Capital Recovery: Suppose a company invests in a piece of
equipment. They can use the Present Value (P) formula to calculate
how much they need to charge in periodic fees to recover the cost of
the equipment over a set period.
3. Investment Planning: For engineers managing a financial
portfolio, they use the Future Value (F) formula to estimate how
much periodic investments will be worth in the future, given a fixed
interest rate.
AMOUNT OF EACH PAYMENT IN A GRADIENT SERIES:
- In a gradient series, each payment can be expressed as:
• First Payment: A1
• Second Payment: A1 + G
• Third Payment: A1 + 2G
• And so on, increasing by G each period.

CONVERSION TO UNIFORM SERIES (for gradient series with

increasing payments):
- When a gradient series starts with zero and increases by G per
period, it can be converted to an equivalent uniform series:

* This formula allows combining a uniform and a gradient series for

cash flow analysis.

APPLICATIONS IN ENGINEERING:
1. Maintenance Costs: For machines that require more frequent
maintenance as they age, costs tend to rise each year by a fixed
amount. A gradient series can model this increasing cost.
2. Salary or Labor Cost Increases: In projects where wages
increase annually due to inflation or contractual obligations, a
gradient series can help engineers estimate future labor costs.
3. Revenue Projections: A company may expect revenues to
increase each year by a fixed amount due to growth. A gradient
series helps in calculating the present and future value of these
revenues.

TIME VALUE OF MONEY AND GRADIENT SERIES:

As with all financial series, understanding the Time Value of Money
(TVM) is essential for analyzing gradient series. The TVM concept
reminds us that a dollar today is worth more than a dollar in the
future due to its potential to earn interest. Gradient series
incorporate this principle by factoring in interest rates, which allow us
to calculate the present and future values of increasing or decreasing
payments.