1. Engineering Economic Analysis
Chapter 8
INCREMENTAL ANALYSIS
Partial Coverage
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

2. Incremental Analysis
Required for examining three or more alternatives.
Defined as the examination of differences between alternatives to determine if the increased costs are justified by the increased benefits.
This course: only consider Incremental Rate of Return
High cost alt. - Low cost alt. = Difference between alt.
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

3. Elements of Rate of Return Analysis
Identify all acceptable alternatives that fulfill similar system outcomes.
Arrange the alternatives in ascending order of investment.
Compute the rate of return for each alternative. Discard alternatives where ROR < MARR.
Make a pair-wise analysis of the contender and present selection. For investment:
If ΔROR ≥ MARR select the contender
If ΔROR < MARR keep the present selection
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

4. Choosing an Analysis Method
MARR
Computations*
Explanation PW
Required for calculation
Less
Depends AW
ROR
For comparison
More
*Not an issue when using a spreadsheet.
Do what the Organization requires. Occasionally augment with alternate methods where the method adds beneficial information.
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

5. Engineering Economic Analysis
Chapter 9
OTHER ANALYSIS TECHNIQUES
Selected topics
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

6. Four Topics Future worth analysis - Skip
Benefit-cost ratio analysis - Skip
Payback period - Yes
Sensitivity and breakeven analysis - Skip
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

7. Payback Period Important Points
Approximate economic analysis method
Prior to payback the effect of timing is ignored
After payback all economic consequences are ignored
Will not necessarily produce a recommended alternative consistent with equivalent worth and rate of return methods
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

8. How many years are required to get my money back?
Payback Period
The period of time required for the profit or other benefits of an investment to equal the cost of the investment.
How many years are required to get my money back?
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

9. Example 1 Consider two projects with the flows shown at the left
Compute the cumulative cash flows for each
For example, by the end of Yr 1 for Alt A, the Cumulative amount is = 800
The time at which the cumulative amount equals 0 is the payback period
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.

10. Example 1
We can see the Payback Period is between 2 and 3 years for both options
Graphically, we can easily see that Alt B’s Payback period is smaller than Alt A’s
Engineering Economic Analysis - Ninth Edition Newnan/Eschenbach/Lavelle Copyright 2004 by Oxford University Press, Inc.