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Engineering Economy Terminology Amortization As applied to a capital asset, the distribution of the initial cost by periodic charges to operations as in depreciation. Most property applies with indefinite life The reduction of a debt by either periodic or irregular payments A plan to pay off a financial obligation according to some prearranged program. Annual Equivalent In time value of money, a uniform annual amount for a prescribed number of years that is equivalent in value to the present worth of any sequence of financial events for a given interest rate. One of a sequence of equal end-of-year payment which would have the same financial effect when interest is considered as another payment or sequence of payments which are not necessarily equal in amount or equally spaced in time. Annuity An amount of money payable to a beneficiary at regular intervals for a prescribed period of time out of a fund reserved for that purpose. A series of equal payments occurring at equal period of time. Annuity Fund A fund that is reserved for payment of annuities. The present worth of funds required to support future annuity payments. Asset An accounting term for capital owned by a company. Book Value The recorded current value of an asset. First cost less accumulated depreciation, amortization, or depletion. Original cost of an asset less the accumulated depreciation The worth of a property as shown on the accounting records of a company. It is ordinarily taken to mean the original cost of operations less the amounts that have been charged as depreciation expense. Breakeven Chart A graphical representation of the relation between total income and total costs for various levels of production and sales indicating areas of profit and loss. Breakeven point In business operations, the rate of operations, output, or sales at which income is sufficient to equal operating cost, or operating cost plus additional obligations that may be specified. The operating condition, such as output, at which two alternatives are equal in economy. The percentage of capacity operation of a manufacturing plant at which income will just cover expenses. Capacity Factor The ratio of average load to maximum capacity The ratio between average load and the total capacity of the apparatus, which is the optimum load. The ratio of the average actual use to the available capacity. Capital The financial resources involved in establishing and sustaining an enterprise or project. A term describing wealth that may be utilized to economic advantage. The form of this wealth takes may be as cash, land, equipment, patents, raw materials, finished products, etc. Capital Recovery Charging periodically to operations amounts that will ultimately equal the amount of capital expenditures. The replacement of the original cost of an asset plus interest. The process of regaining the net investment in a project by means of revenue in excess of the cost from the project. (Usually implies amortization of principal plus interest on the diminishing un- recovered balance.) Capital Recovery Factor A factor used to calculate the sum of money required at the end of each of a series of periods to regain the net investment of a project plus the compounded interest on the unrecovered balance. Capitalized Cost The present worth of a uniform series of periodic costs that continue for an indefinitely long time (hypothetically infinite). Not to be confused with a capitalized expenditure. The value of the purchase date of the first life of the asset of all expenditures to be made in reference to this asset over an infinite period of time. This cost can also be regarded as the sum of capital which, if investment in a fund earning a stipulated interest rate, will be sufficient to provide for all payments required to maintain the asset in perpetual service. Cash Flow The flow back pf profit plus depreciation from a given project. The actual dollars passing into and out of the treasury of a financial venture. Common Costs Costs that cannot be identified with a given output of products, operations, or services. Compound Amount The future worth of a sum invested (or loaned) at compound interest. Combined Interest Rate The cost of capital, expressed as an effective rate (percent) per interest period, including, a market adjustment for the anticipated general price inflation rate in the economy. Thus, it represents the time value change in future cash flows and takes into account both the potential real earning power of money and the estimated general price inflation in the economy. Compound Amount Factor The function of interest rate and time that determines the compound amount from a stated initial sum. A factor which when multiplied by the single sum or uniform series of payments will give the future worth at compound interest of such single sum or series. Compound Interest The type of interest that is periodically added to the amount of investment (or loan) so that subsequent interest is based on the cumulative amount. The interest charges under the condition that interest is charged on any previous interest earned in any time period, as well as on the principal. Compounding, Continuous A compound interest situation in which the compounding period is zero and the number of periods infinitely great. A mathematical concept that is practical for dealing with frequent compounding and small interest rates. A mathematic procedure for evaluating compound interest factors based on a continuous interest function rather than discrete interest period. Compound Period The time interval between dates at which interest is paid and added to the amount of an investment or loan. Designates frequency of compounding. Decision Period A program of action undertaken as a result of established policy to influence the final decision. Decisions Under Certainty Simple decisions that assume complete information and no uncertainty connected with the analysis of the decisions. Decisions Under Risk A decision problem in which the analyst elects to consider several possible futures, the probabilities of which can be estimated. Decisions Under Uncertainty A decision for which the analyst elects to consider several possible futures, the probabilities of which cannot be estimated. Declining Balance Depreciation, also known as percent on diminishing value A method of computing depreciation in which that annual charge is fixed percentage of the depreciated book value at the beginning of the year to which the depreciation applies. Demand Factor The ratio of the maximum instantaneous production rate to the production rate for which the equipment was designed. The ratio between the maximum power demand and the total connected load of the system. Depletion A form of capital recovery applicable to extractive property (example, mines). Can be a unit-of- output basis the same as straight-line depreciation related to original or current appraisal of extent and value of deposit (known as cost depletion). Can also be a percentage of income received from extractions (known as percentage depletion). A lessening of the value of an asset due to a decrease in the quantity available. It is similar to depreciation except that it refers to such natural resources as coal, oil, and timber in forests. Depreciated Book Value The first cost of the capitalized asset minus the accumulation of annual depreciation cost charges. Depreciation Decline in value of a capitalized asset A form of capital recovery applicable to a property with two or more years’ life span, in which an appropriate portion of the asset’s value is periodically charged to current operations. The loss of value of obsolescence or due to attrition. In accounting, depreciation is the allocation of this loss of value according to some plan. Differential Price Inflation Rate The percentage increment of price change (in the unit price, or cost for fixed amount), above or below the general price inflation rate, during a time period for goods or services. Discounted Cash flow The present worth of a sequence in time of sums of money when the sequence is considered as a flow of cash into and/or out of an economic unit. An investment analysis that compares the present worth of projected receipts and disbursements occurring at designated future times in order to estimate the rate of return from the investment or project. Earning Value The present worth of an income producer’s probable future net earnings, as prognosticated on the basis of recent and present expense and earnings and the business outlook. Economic good Anything that is useful, transferable, and not abundant. Economic Model A mathematical expression or tabular relation that expresses the interaction of technical and economic variables applying to a specific problem. Economic Return The profit derived from a project or business enterprise without consideration of obligations to financial contributors and claims of other based on profit. Economy The cost or profit situation regarding a practical enterprise or project, as in economy study, engineering economy, engineering economic analysis. Effective Interest The true value of interest rate computed by equations for compound interest for 1-year period. Endowment A fund established for the support of some project or succession of donations or financial obligations. Engineering economy The application of engineering or mathematical analysis and synthesis to economic decisions A body of knowledge and techniques concerned with the evaluation of the worth of commodities and services relative to their cost The economic analysis or engineering alternatives. Estimate The true magnitude as closely as it can be determined by the exercise of sound judgment based on approximate computations; not to be confused with offhand approximations that are little better than outright guesses. Expected return The profit participated from a venture. Expected Yield The ratio expected return/investment, usually expressed as a percentage on an annual basis. Expense Synonymous with cost for purposes of these terminologies. First Cost The initial cost of a capitalized property, including transportation, installation, preparation for service, and other related initial expenditures. Future Worth The equivalent value at a designated future date based on time value of money The monetary sum, at a given future time, which is equivalent to one or more sums at given earlier times when interest is compounded at a given rate. General Price Inflation Rate A general measure of the change in the purchasing power of dollar or peso during a specified period of time. The general price inflation rate is defined by selected , and broadly based, index of market price changes. Going Concern Value The difference between the value of a property as it stands possessed of its going elements and the value of the property alone as it would stand at completion of construction as a bare or inert assembly or physical parts. Incremental Cost The additional cost that will be incurred as the result of increasing the output one more unit. Conversely, it can be defined as the cost that will not be incurred if the output is reduced one unit. More technically, it is the variation in the output resulting from a unit change in input. It is known as the marginal cost. Incremental Revenue The additional revenue resulting from the sale of one more item. In-Place Value A value of physical property – market value plus costs of transportation to site and installation. Intangibles In engineering economy studies, conditions or economy factors that cannot be readily evaluated in quantitative terms as in money. In accounting, the assets that cannot be reliably evaluated. Interest Financial share in a project or enterprise Periodic compensation for the lending of money In economy study, synonymous with required return, expected profit, or charge for the use of capital. The cost for the use of capital. Sometimes referred to as the time value of money. Interest Rate The ratio of the interest payment to the principal for a given unit of time; usually expressed as a percentage of the principal. Interest Rate, Effective. An interest rate for a stated period (per year unless otherwise specified) that is the equivalent of a smaller rate of interest that is more frequently compounded. Interest Rate, Nominal. The customary type of interest rate designation on an annual basis without consideration of compounding periodic interest payments. Investment As applied to an enterprise as a whole, the cost (or present value) of all the properties and funds necessary to establish and maintain the enterprise as a going concern. The capital tied up in the enterprise or project. Any expenditure that has substantial and enduring value (at least years’ anticipated life) and is therefore capitalized. Investors’ Method See discounted cash flow Irreducible A term that may used for the class of intangible conditions or economy factors that can only be qualitatively appraised Matter that cannot readily be reduced to estimated money receipts and expenses Life Economic: that period of time after which a machine or facility should be discarded or replaced because of its excessive costs or reduced profitability. The economic impairment may be absolute or relative. Physical: that period of time after which a machine or facility can no longer be repaired in order to perform its design function properly. Service: the period of time that a machine or facility will satisfactorily perform its function without major overhaul. Life Cycle The time span that begins with the identification of the economic need or want (the requirement) for a product, structure, system, or service, and ends with retirement and disposal activities. Life Cycle Cost A summation of all the costs, both recurring and nonrecurring, related to a product, structure, system, or service during its life span. Load Factor A ratio that applies to physical plant or equipment: average load/maximum demand, usually expressed as a percentage. Equivalent to percent of capacity operation of facilities just accommodate the maximum demand. The ration of average load to maximum load. Marginal analysis An economic concept concerned with those elements of costs and revenue associated directly with a specific course of action, normally using available current costs and revenue as a base, and usually independent of traditional accounting allocation procedures. Marginal Cost The cost of one additional unit of production, activity, or service The rate of change of cost with production or output. Matheson Formula A little for the formula used for declining balance depreciation. Nominal Interest The number employed to describe the annual percentage rate on a loan. Obsolescence The condition of being out of date. A loss of value occasioned by new development that places the older property at a competitive disadvantage. A factor in depreciation A decrease in the value of an asset brought about by the development of new and more economical methods, processes, and or machinery The loss of usefulness or worth of a product or facility as a result of the appearance of better and or more economical products, methods, or facilities. Pay off Period Regarding an investment, the number of years (or months) required for the related profit or savings in operating cost to equal the amount of said investment The period of time at which a machine, facility, or other investment has produced sufficient net revenue to recover its investment costs. Perpetual Endowment An endowment with hypothetically infinite life. Present Worth The equivalent value at the present, based on time value of money The monetary sum equivalent to a future sum(s) when interest is compounded at a given rate The discounted value of future sum Present Worth Factor A mathematical expression also known as the present value of annuity of one. One of a set of mathematical formulas used to facilitate calculation of present worth in economic analyses involving compound interest. Profitability Index The rate of return in an economy study or investment decision when calculated by discounted cash flow method or an investors’ method. Rate of Return The interest rate at which the present worth of the cash flows on a project is zero The interest rate earned by an investment. Real Interest Rate The cost of capital, expressed as an effective rate (percent) per interest period, not including a market adjustment for the anticipated general price inflation rate in the economy. It represents the time value change in future cash flows based only on the potential real earning power of money. Replacement Policy A set of decision rules (usually optimal) for the replacement of facilities that wear out, deteriorate, or fail over period of time. Replacement models are generally concerned with weighting the increasing operating costs (and possibly decreasing revenues) associated with aging equipment against the net proceeds from alternatives equipment. Replacement Study An economic analysis involving the comparison of an existing facility and a facility proposed to supplant the existing facility. Required Return The minimum return or profit necessary to justify an investment. Often termed interest, expected return or profit, or charge for the use of capital. It is the minimum acceptable percentage, no more and no less. Required Yield. The ratio of required return over amount of investment, usually expressed as a percentage on annual basis. Retirement of Debt The termination of a debt obligation by appropriate settlement with lender – understood to be in full amount unless partial settlement is specified Salvage Value The cost recovered or which could be recovered from a used property when removed, sold, or scrapped. A factor in appraisal of property value and in computing depreciation. The market value of a machine or facility at any point in time. Normally, an estimate of an asset’s net market value at the end of its estimated life. Sensitivity The relative magnitude of the change in one or more elements of an engineering economy problem that will reverse a decision among alternative. Simple Interest Interest that is not compounded – is not added to the income-producing investment or loan The interest charges under the condition that interest at any time is charged only on the principal. Sinking Fund A fund accumulated by periodic deposits and reserved exclusively for a specific purpose, such as retirement of a debt or replacement of a property A fund created by making periodic deposits (usually equal) at compound interest in order to accumulate a given sum at a given future time for some specific purpose. Sinking Fund Depreciation A method of computing depreciation in which the periodic amount is presumed to be deposited in a sinking fund that earns interest at a specified rate. Sinking fund may be real but is usually hypothetical. A method of depreciation where a fixed sum of money is regularly deposited at compound interest in a real or imaginary fund in order to accumulate an amount equal to the depreciation in any year equals the sinking fund deposit plus interest in the sinking fund balance. Sinking Fund Factor The function of interest rate and time that determines the cumulative amount of a sinking fund resulting from specified periodic deposits. Future worth per unit of uniform amounts The mathematical formulas used to facilitate sinking fund calculations. Straight-line Depreciation Method of depreciation whereby the amount to be recovered (written off) is spread uniformly over the estimated life of asset in terms of time periods or units of output. Study Period In economy study, the length of time that is presumed to be covered in the study of events and appraisal of results. Often the anticipated life of the project under consideration, but a shorter time may be more appropriate for decision making. Sum-of-Digits Method, also known as sum-of-the years’-digits method A method of computing depreciation in which the amount for any year is based on the ratio of (years of remaining life) to (1 + 2 + 3 +….+ N), the total anticipated life. Sunk Cost The un-recovered balance of an investment. It is a cost, already paid, that is not relevant to the decision concerning the future that is being made. Capital already invested that for some reason cannot be retrieved. A past cost that has no relevance with respect to future receipts and disbursements of a facility undergoing an engineering economy study. This concept implies that since a past outlay is the same regardless of the alternative selected, it should not influence the choice between alternatives. Tangibles Things that can be quantitatively measured or valued, such as items of cost and physical assets. Time Value of Money The cumulative effect of elapsed time on the money value of an event, based on the earning power equivalent invested funds. The expected interest rate that capital should or will earn. Total Price Escalation Rate The total rate (%) of price change (in unit price, or cost for a fixed amount) during a time period for good or service. The total price escalation rate for a good or service includes the effects of both the general price inflation rate and the differential price inflation on price changes. The rate is projected for a future time interval and usually expressed as an effective annual rate. Traceable Costs Costs which ca be identified with a given product, operation, or service. Unrecovered Investment Balance The investment amount outstanding in a venture, allowing for profits generated and including the time value of money. Valuation or Appraisal The art of estimating the fair-exchange value of specific properties. Working Capital That portion of investment represented by current assets (assets that are not capitalized) less the current liabilities. The capital necessary to sustain operations. Those funds that are required to make the enterprise or project a going concern. The ratio of return or profit over the associated investment, expressed as a percentage of decimal, usually on annual basis.