1011quiz2_rev

1011quiz2_rev - 1.011 Project Evaluation C.D Martland...

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1.011 Project Evaluation C.D. Martland Review for Quiz 2 1 Money-Time Relationships 1.1 MARR The MARR is the minimal attractive rate of return that is acceptable for a project, which depends upon the risks associated with the project, the market for capital, and the opportunity costs of the owner. The MARR will be higher for riskier projects; rising interest rates will increase the MARR; a higher number of attractive competing projects will increase the MARR. Risk/return: the required return can ber graphed as an increasing function of the perceived risk of an investment. In general, the MARR should exceed the return available from the market for investments with similar risks (ranging from treasury bonds to blue chip stocks to risky, growth stocks); it must exceed the company, organization, or agency's cost of capital; and it must exceed the hurdle limit for investments if there is a capital budgeting constraint. Companies are often interested in the after-tax return: After Tax MARR = (1-effective tax rate)*Before Tax MARR Effective Tax Rate = State rate + (1 - State rate)(Federal Rate) The federal rate in the US is 34% for large, profitable companies; the state tax rate typically is 6 to 12%. A typical effective tax rate is 40%. 1.2 Monetary Criteria for Accepting a Project If all costs and benefits can be converted to monetary terms, then various engineering economic relationships can be used to determine if a project is worth pursuing. 1.2.1 Net Present Value A project is acceptable if the NPV of all costs and benefits at the MARR is greater than 0. 1.2.2 Future Value A project is acceptable if the future value of all costs and benefits at the MARR is greater than 0. 1.2.3 Annual Worth A project is acceptable if the AW at the MARR is greater than 0. 1.2.4 Capitalized Worth
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If a project requires an investment I and produces an infinite revenue stream of A per year and the MARR is i, then the project is worthwhile if A/i is greater than I. Note that this is an extremely useful relationship to use for estimating the value of annuities that will be received for long periods or time (e.g. 20 years or more) 1.2.5 Internal Rate of Return A project is acceptable if the IRR is greater than the MARR. This approach may overstate benefits, since it assume that all intermediate net cash flows can be reinvested at the IRR, which may not be feasible. 1.2.6 External Rate of Return This approach first discounts all negative cash flows to the present using the MARR, then converts all negative cash flows to the end of the project using the MARR. The ERR is then calculated as the interest rate required for the NPV of the costs to equal the Future Value of the benefits at the end of the period. A project is acceptable if the ERR is greater than the MARR. 1.2.7 Benefit/Cost Analysis
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This note was uploaded on 11/29/2011 for the course CIVIL 1.00 taught by Professor Georgekocur during the Spring '05 term at MIT.

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1011quiz2_rev - 1.011 Project Evaluation C.D Martland...

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