Fundamentals of Engineering Economics, 3rd ed.

2012

Chapter 8 Benefit-Cost Analysis

8.1)

PW of initial investment , I = $8, 000

PW of annual benefits, B = 125, 000( P / A,8%,5) = 125, 000 3.9927 = $499, 087.5
PW of annual operating cos t , C = 50, 000( P / A,8%,5) = 50, 000 3.9927 = $199, 635
B 499, 087.5
B - C ratio = = = 2.4 > 1, justifiable.
I + C 8, 000 + 199, 635

8.2)

AW of Initial Investment , I = 1, 000, 000( A / P,5%, 20) - 40, 000( A / F ,5%, 20) = $80, 079.2
AW of B = $220, 000
AW of C = $80, 000
$220, 000
B - C ratio = = 1.374 Ans.
$80, 079.2 + $80, 000

8.3)

(a) BC(i ) analysis:

Design A:

I = $400, 000
C ' = $50, 000( P / A,8%,15) = $427,974
B = $85, 000( P / A,8%,15) = $727,557.5
B
BC(8%) =
I +C'
$727,557.5
=
$400, 000 + $427,974
= 0.88 < 1

Design B:

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I = $300, 000
C ' = $80, 000( P / A,8%,15) = $684, 758
B = $85, 000( P / A,8%,15) = $727,557.5

B
BC(8%) =
I +C'
$727,557.5
=
$300, 000 + $684, 758
= 0.74 < 1

Incremental analysis: Fee collections in the amount of $85,000 will be the same for both
alternatives. Therefore, we will not be able to compute the BC(i ) ratio. If this happens,
we may select the best alternative based on either the least cost ( I + C ') criterion or the
incremental B'C(i ) criterion.

Using theincremental B'C(i ) criterion,

DB - DC '
DB'C(8%) A- B =
DI
0 - ($427,974 - $684, 758)
=
$100, 000
= 2.56 > 1

Select Design A.

(b) Incremental analysis (A-C):

DB - DC '
DB'C(8%) A-C =
DI
0 - ($427, 974 - $556, 366)
=
$50, 000
= 2.57 > 1

Select Design A.

8.4)

Building X:

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BX = $1,960, 000( P / A,10%, 20)

= $16, 686,585
C X = $8, 000, 000 + $240, 000( P / A,10%, 20)
-$4,800, 000( P / F ,10%, 20)
= $9,329, 766
$16, 686,585
BC(10%) X =
$9,329, 766
= 1.79 > 1

Building Y:

BY = $1,320, 000( P / A,10%, 20)

= $11, 237,904
CY = $12, 000, 000 + $180, 000( P / A,10%, 20)
-$7, 200, 000( P / F ,10%, 20)
= $12, 462, 207
$11, 237,904
BC(10%)Y =
$12, 462, 207
= 0.90 < 1

Since Building Y is not desirable at the outset, we dont need an incremental

analysis. Building X becomes the outright choice.

8.5)

Option 1-The long route:

Users annual cost = 22 miles $0.25 per mile 400, 000 cars

= $2, 200, 000

Sponsors annual cost = $21, 000, 000( A / P,10%, 40) +$140, 000

= $2, 287, 448

Option 2-Shortcut:

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Fundamentals of Engineering Economics, 3rd ed. 2012

Users annual cost = 10 miles $0.25 per mile 400, 000 cars

= $1, 000, 000

Sponsors annual cost = $45, 000, 000( A / P,10%, 40) +$165, 000

= $4, 766, 674

Incremental analysis (option 2-option 1):

Incremental users benefit = $2, 200, 000 - $1, 000, 000

= $1, 200, 000

$1, 200, 000
BC(10%) 2-1 =
$4, 766, 674 - $2, 287, 448
= 0.48 < 1

Assuming no do-nothing alternative, select option 1.

8.6)

Incremental BC(i ) analysis:

Proposals Incremental

Present worth A1 A2 A3 A3-A1 A2-A1

I $100 $300 $200 $100 $200

B $400 $700 $500 $100 $300

C $100 $200 $150 $50 $100

B'C(i) 3 1.7 1.75 0.50 1

Select either A1 or A2.

8.7)

Incremental BC analysis:

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Equivalent Present Worth

Design Incremental

Design A Design B Design C C-B A-B

B $7,824 $7,070 $5,656 -$1,414 $754

I $2,440 $880 $1,600 $720 $1,560

C $3,865 $3,394 $2,922 -$472 $471

BC(10%) 1.24 1.65 1.25 -5.7 0.37

Select Design B.

8.8)

(a) The benefit-cost ratio for each alternative:

Alternative A:
B = ($1, 000, 000 + $250, 000 + $350, 000
+$100, 000)( P / A,10%,50)
= $16,855,185
C = $8, 000, 000 + $200, 000( P / A,10%,50)
= $9,982,963
BC(10%) A = 1.69 > 1

Alternative B:
B = ($1, 200, 000 + $350, 000 + $450, 000
+$200, 000)( P / A,10%,50)
= $21,812,592

C = $10, 000, 000 + $250, 000( P / A,10%,50)

= $12, 478, 704
BC(10%) B = 1.75 > 1

Alternative C:

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Fundamentals of Engineering Economics, 3rd ed. 2012

B = ($1,800, 000 + $500, 000 + $600, 000

+$350, 000)( P / A,10%,50)
= $32, 223,147
C = $15, 000, 000 + $350, 000( P / A,10%,50)
= $18, 470,185
BC(10%)C = 1.74 > 1

(b) Select the best alternative based on BC(i ) :

$21,812,592 - $16,855,185
BC(10%) B - A =
$12, 478, 704 - $9,982,963
= 1.99 (Select B.)

$32, 223,147 - $21,812,592

BC(10%)C - B =
$18, 470,185 - $12, 478, 704
= 1.74 (Select C.)

Select C.

Comments: You could select the best alternative based on PI(i ) :

A B C

I $8,000,000 $10,000,000 $15,000,000

C $1,982,963 $2,478,704 $3,470,185

PI(10%) 1.86 1.93 1.92

($21,812,592 - $16,855,185) - (2, 478, 704 - 1, 982, 963)

PI(10%) B - A =
$10, 000, 000 - $8, 000, 000
= 2.23 (Select B.)

($32, 223,147 - $21,812,592) - ($3, 470,185 - $2, 478, 704)

PI(10%)C - B =
$15, 000, 000 - $10, 000, 000
= 1.88 (Select C.)

8.9)

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Fundamentals of Engineering Economics, 3rd ed. 2012

P1 versus P2:

11,350 - 14,350
BC(i) 2-1 = = -7.41 < 1
1,835 - 1, 430

Since the ratio is less than one, we prefer P1 over P2. Therefore, P1 becomes the current best
alternative.

P1 versus P3:

35, 000 - 14,350

BC(i)3-1 = = 1.14
19,500 - 1, 430

Since the ratio is greater than one, we prefer P3 over P1. Therefore, P3 becomes the current
best alternative.

P3 versus P4:

42, 000 - 35, 000

BC(i) 4-3 = = 1.56
24, 000 - 19,500

Since the ratio is greater than one, we prefer P4 over P3. With no further projects to
consider, P4 becomes the ultimate choice.

8.10)

Multiple alternatives:

PW of PW of Net B/C

Projects Benefits Costs PW ratio

A1 $40 $85 -$45 0.47

A2 $150 $110 $40 1.36

A3 $70 $25 $45 2.80

A4 $120 $73 $47 1.64

Since the BC ratio for project A1 is less than 1, we eliminate it from our comparison.
Incremental Analysis: ordering (A3, A4, A2)

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Fundamentals of Engineering Economics, 3rd ed. 2012

A3 versus A4:
$120 - $70
BC(i ) A 4- A3 =
$73 - $25
= 1.04 > 1

Select A4.

A2 versus A4:
$150 - $120
BC(i) A 2- A 4 =
$110 - $73
= 0.81 < 1

Select A4.

8.11)

(a)

Project A1:

Year CF PV@6% PV

1 $400,00 0.9434
0 $377,360

2 $340,00 0.8900
0 $302,600

3 $300,00 0.8396
0 $256,880

4 $240,00 0.7921
0 $190,104

5 $200,00 0.7473
0 $149,460

6 $150,00 0.7050
0 $105,750

Total present value $1,377,154

Investment $900,000

NPV $477,154

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$1,377,154
PI(6%) A1 = = 1.53
$900,000

Project A2:

Year CF PV@6% PV

1 $200,00 0.9434
0 $188,680

2 $300,00 0.8900
0 $267,000

3 $350,00 0.8396
0 $293,860

4 $440,00 0.7921
0 $348,524

5 $400,00 0.7473
0 $298,920

6 $350,00 0.7050
0 $246,750

Total present value $1, 643, 734

Investment $1,200,000

NPV $443,734

$1, 643, 734

PI(6%) A 2 = = 1.37
$1, 200, 000

(b)

(1) Since both profitability indexes are greater than one, we may accept both projects if
we have enough money to undertake. (2) If we could only take one due to a budget limit,
we need to conduct an incremental analysis:

($1, 643, 734 - $1,377,154)

PI(6%) A2- A1 = = 0.89 < 1
($1, 200, 000 - $900, 000)

So, we select A1.

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Fundamentals of Engineering Economics, 3rd ed. 2012

8.12)

(a)

Project A1:

Year CF PV@7% PV

1 $100,00 0.935
0 $93,500

2 $100,00 0.873
0 $87,300

3 $100,00 0.816
0 $81,600

4 $240,00 0.763
0 $183,120

5 $200,00 0.713
0 $142,600

6 $180,00 0.666
0 $119,880

7 $180,00 0.623
0 $112,140

8 $180,00 0.582
0 $104,760

9 $180,00 0.544
0 $97,920

10 $180,00 0.508
0 $91,440

Total present value 1,114,26

0

Investment 750,000

NPV 364,260

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1,114, 260
PI(7%) A1 = = 1.49
750, 000

Project A2:

Year CF PV@7% PV

1 $200,00 0.935
0 $187,000

2 $200,00 0.873
0 $174,600

3 $200,00 0.816
0 $163,200

4 $300,00 0.763
0 $228,900

5 $300,00 0.713
0 $213,900

6 $250,00 0.666
0 $166,500

7 $250,00 0.623
0 $155,750

8 $150,00 0.582
0 $87,300

9 $100,00 0.544
0 $54,400

10 $50,000 0.508 $25,400

Total present value 1,456,950

Investment 1,000,00
0

NPV 456,950

1, 456,950
PI(7%) A2 = = 1.46
1, 000, 000

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Project A1 has higher profitability index.

(b)

($1, 456,950 - $1,114, 260)

PI(7%) A 2- A1 = = 1.37 > 1
($1, 000, 000 - $750, 000)

Investment A2 should be chosen over investment A1.

8.13)

Given i = 8%, g = 10%, garbage amount/day = 300 tons

(a) The operating cost of the current system in terms of $/ton of solid waste:

Annual garbage collection required (assuming 365 days):

Total amount of garbage = 300 tons 365 days

= 109,500 tons/year

Equivalent annual operating and maintenance cost:

PW(8%) = -$905, 400( P / A1 ,10%,8%, 20)

= -$20, 071,500
AEC(8%) = $20, 071,500( A / P,8%, 20)
= $2, 044,300

Operating cost per ton:

$2, 044,300
=
cost per ton 109,500

= $18.67 ton

(b) The economics of each solid-waste disposal alternative in terms of $/ton of solid waste:

Site 1:

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Fundamentals of Engineering Economics, 3rd ed. 2012

AEC(8%)1 = $4, 053, 000( A / P,8%, 20)

+$342, 000( P / A1 ,10%,8%, 20)( A / P,8%, 20)
-($13, 200 + $87, 600)
= $1, 084, 773.719

Cost per ton = $1, 084, 773.719 /109,500

= $9.91 per ton

Site 2:
AEC(8%) 2 = $4,384, 000( A / P,8%, 20)
+$480, 000( P / A1 ,10%,8%, 20)( A / P,8%, 20)
-($14, 700 + $99,300)
= $1, 417, 042.61

Cost per ton = $1, 417, 042.61/ 109,500

= $12.94 per ton

Site 3:
AEC(8%)3 = $4, 764, 000( A / P,8%, 20)
+$414, 000( P / A1 ,10%,8%, 20)( A / P,8%, 20)
-($15,300 + $103,500)
= $1,301,871.57

Cost per ton = $1,301,871.57 / 109,500

= $11.89 per ton

Site 4:

AEC(8%) 4 = $5, 454, 000( A / P,8%, 20)

+$408, 000( P / A1 ,10%,8%, 20)( A / P,8%, 20)
-($17,100 + $119, 400)
= $1,340,928.66

Cost per ton = $1,340,928.66 /109,500

= $12.25 per ton

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Fundamentals of Engineering Economics, 3rd ed. 2012

Site 1 is the most economical choice.

(c) Incremental BC analysis:

Present
Site1 Site2 Site3 Site4
System

B 0 $989.67 $1,119.26 $1,166.39 $1,340.17

I 0 $4,053.0 $4,384.0 $4,764.0 $5,454.0

C' $20,071.48 $7,581.68 $10,640.95 $9,177.82 $9,044.81

Reduction in C
over the present $12,489.80 $9,430.53 $10,893.66 $11,026.67
system

Site 1 vs. Site 2:

($1,119.26 + $9, 430.53) - ($989.67 + $12, 489.80)

DBC(8%) 2-1 =
$4,384 - $4, 053
-$2,929.68
=
331
= -8.85 < 1
Select Site 1.

Site 1 vs. Site 3:

($1,166.39 + $10,893.66) - ($989.67 + $12, 489.80)
DBC(8%)3-1 =
$4, 764 - $4, 053
-$1, 419.42
=
711
= -1.996 < 1
Select Site 1.

Site 1 vs. Site 4

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Fundamentals of Engineering Economics, 3rd ed. 2012

($1,340.17 + $11, 026.67) - ($989.67 + $12, 489.80)

DBC(8%) 4-1 =
$5, 454 - $4, 053
-$1,112.63
=
$1, 401
= -0.7942 < 1
Select Site 1.

The ultimate choice: Site 1.

8.14)

Suggestions: Ask students to visit the AtlantaAirport website (http://www.atlanta-airport.com) to

obtain the current and projected airport operational statistics such as number of aircraft
landings/takeoffs and passengers. If we just focus on some of the primary benefits and
costs, we may identify the following elements:

Sponsors costs: (1) Required capital investments in airport expansion, (2)

Additional O&M costs associated with the expanded airport operation.
Sponsors Revenue: (1) Incremental landing/takeoff fees due to additional traffic
volumes, and (2) Increased parking and concession revenues due to additional
passenger traffics.
Users Benefits: (1) Savings due to reduced waiting costs (value of travel time) (2)
Savings on fuel costs for airliners due to reduced taxiing, landing and departure
times, (3) Reduced air and noise pollution
Users Disbenefits: (1) Relocation of residents and commercial buildings due to
airport expansion

Once these values are quantified, we compute the following for each option:

Step 1: Users net benefits = Users benefits-Users disbenefits.

Step 2: Sponsors net costs = Sponsors costs-Sponsors revenue.

Then, identify the option(s) with Users net benefits exceeding the sponsors net cost.
Select the option with the largest differential net benefits. If the initial analysis based on
the primary benefits and costs does not lead to any clear-cut choice, the analysis may be
broadened to include the secondary benefits such as the regional economic impact
studies.

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