Tugas 4_Comparing Alternative and Dealing with Uncertainty Ver 0.pptx

MATA KULIAH MANEJEMEN

PROYEK TEKNIK

Comparing Alternative and Dealing with Uncertainty

Asril Irsadi (1506696425)Charles Abet (1506696470)Hizkia Sandhi R. (1506696615)Agus Indarto (1506776250)Arief Murnandityo (1506776282)

OUR AGENDA

Chapter 6

Chapter 10

Comparing Alternative

Chapter Title Objective

To develop and demonstrate the economic analysis and comparison of mutually exclusive design alternative for an engineering project.

Dealing with UncertaintyTo present and discuss nonprobabilistic methods that are helpful in analyzing the economic consequences of engineering project where uncertainty exists.

Chapter 6-Comparing Alternative-

Most engineering projects can be accomplished by more than one feasible design alternative.

Analysis and comparison of the feasible Alternatives

Selection of the preferred alternative

Step 5

Step 6

A seven-step procedure for accomplishing engineering economy: (Ch 1)

Present Worth (PW)

Five of the basic methods for analyzing cash flow: (Ch 5)

Future Worth (FW)Annual Worth (AW)

Internal Rate of Return (IRR)External Rate of Return (ERR)

The basic policy for the comparison the comparison of mutually exclusive alternative can be demonstrated with two example

Involves an investment project

Alternative A

1

A = $22,000

02 3 4

$60,000

Alternative B Alt B – Alt A

At / year𝑃𝑊 (10%)𝐴=−$60,000+$ 22,000 (𝑃 / 𝐴 ,10% ,4 )=$9,738

1

A = $26,225

02 3 4

$73,000

1

A = $4,225

02 3 4

$13,000

𝑃𝑊 (10%)𝐵=−$ 73,000+$26,225 (𝑃 / 𝐴 ,10% ,4 )=$10,313𝑃𝑊 (10%)𝐷𝑖𝑓𝑓=−$13,000+$ 4,225 (𝑃 / 𝐴 ,10% ,4 )=$ 393Alternative B is preferred to A because it has a greater PW value

Alternative C Alternative D Alt D – Alt C

/ year

Alternative D is preferred to C because it has the less negative PW (minimizes cost).

1 Involves a project situation2

1

$38,100

0 2 3

$380,000

$39,100$40,100

10 2 3

$415,000

A = $27,400

$26,000

1

$10,700

02 3

$35,000

$11,700$38,700

𝑃𝑊 (10%)𝐶=−$ 477,077𝑃𝑊 (10%)𝐷=−$ 463,607𝑃𝑊 (10 %)𝐷𝑖𝑓𝑓=−$13,470

The lowest annual expenses obtained by investing the additional $35,000 of capital in alternative D

Ensuring a comparable basis for their analysis requires that any economic impacts of these differences be included in the estimated cash flows for the alternatives

Operational Performance

Output capacity, speed, thrust, heat dissipation, reliability, fuel efficiency, setup time, and so on.

Quality

The number of defect-free (nondefective) units produced per period of the present of defective units (reject rate).

Useful LifeCapital investment, revenue changes, various annual expenses or cost savings, and so on.

Two rules (Ch 2) for facilitating the correct analysis and comparison of mutually exclusive when the time value money is not a factor (extended for the time value of money)

Rule 1:When revenues and other economic benefits are present and very among the alternatives, choose the alternative that maximizes overall profitability.

Rule 2:When revenues and other economic benefits are not present or are constant among the alternatives, consider only the cost and select the alternative that minimizes the total cost.

The Study (analysis) period, sometimes called the planning horizon, is the selected time period over which mutually exclusive alternative are compared

Case 1Useful lives are the same for all alternatives and equal to the study period.

Case 2Useful lives are different among the alternatives, and at least not match study period.

Two types of assumptions used for these comparison

1. Repeatability assumptions involves two main conditions:a. The study period over which the alternatives are being compared is either indefinitely long or equal

to a common multiple of the lives of the alternatives.b. The economic consequences that are estimated to happen in an alternative’s initial useful life span

will also happen in all succeeding life span (replacement).

2. Coterminated assumptions uses a finite and identical study period for all alternatives.

Case 1: Useful Lives Are Equal To The Study Period

Equivalent-Worth Methods

For investment alternatives, the one with the greatest positive equivalent worth is selected.

In the case of cost alternatives, the one with the least negative equivalent worth is selected

Rate of Return Methods

Do not compare the IRRs of mutually exclusive alternatives (or IRRs of the differences between mutually exclusive alternatives) against those of other alternatives

Compare an IRR only against the MARR () in determining the acceptability of an alternative.

Analyzing Investment Alternatives by Using Equivalent Worth

Analyzing Cost-Only Alternatives by Using Equivalent Worth [1/2]

Analyzing Cost-Only Alternatives by Using Equivalent Worth [2/2]

Analyzing Alternatives with Different Reject Rates [1/2]

Analyzing Alternatives with Different Reject Rates [2/2]

The Inconsistent Ranking Problem

Incremental investment Analysis Procedure

MEA : Mutually Exclusive AlternativeLCI : Least Capital Investment

Incremental investment analysis procedure is used to avoid incorrect ranking of mutually exclusive alternatives when using rate of return methods

Incremental Analysis : Investments Alternatives [1/2]

Incremental Analysis : Investments Alternatives [2/2]

Incremental Analysis : Cost-Only Alternatives [1/3]

Incremental Analysis : Cost-Only Alternatives [2/3]

Incremental Analysis : Cost-Only Alternatives [3/3]

Case 2: Useful Lives Are Different Among the Alternatives

Case 2

Rate of Return Analyses

Equivalent-Worth Methods

The imputed Market Value Techniques

Use Repeatability Assumption in their Comparison, if it is not applicable then use Coterminated Assumption

1. (Useful Life) < (Study Period)Cost Alternatives: Because it has to provide the same level of service ever the study period, contracting for the service or leasing the needed equipment for the remaining years may be appropriate.Investment Alternatives : First Assumption, all cash flows will be reinvestd in other opportunities at the Firm. Second Assumption, involves replacing the initial investment with another asset having possible different cash flows remaining life.

2. (Useful Life) < (Study Period)The most common technique is to truncate the alternative at the end of the study period, using an estimated market value. This assumes that the disposable assets will be back sold at the end of the study period at that value.

Useful Lives Study Period : The Repeatability Assumption [1/3]

Useful Lives Study Period : The Repeatability Assumption [2/3]

Useful Lives Study Period : The Repeatability Assumption [3/3]

Useful Lives Study Period : The Coterminated Assumption

AW and Repeatability : Perfect Together! [1/3]

AW and Repeatability : Perfect Together! [2/3]

AW and Repeatability : Perfect Together! [3/3]

We can infer from Chapter 6 that are . . .

1 We can select the best alternative from mutually exclusive set of feasible candidates when using time value of money concepts

2 It has demonstrated the application of profitability analysis methods discussed in Ch 5 to select preferred alternatives.

3 Alternatives with unequal lives and cost-only versus different revenues and costs were considered in deciding how to maximize the productivity of invested capital based on MARR..

4 If a rate-of-return method is being used to analyse mutually exclusive alternatives, each avoidable increment of additional capital must earn at least the MARR to ensure that the best alternative is chosen.

𝐼𝑅𝑅 ≥𝑀𝐴𝑅𝑅

Use to select the alternatives

Use and two types assumptions (Repeatability and Coterminated) to select the alternatives

Chapter 10-Dealing with Uncertainty-

Risk, Uncertainty, and Sensitivity ??

Decision under risk are decisions in which the analyst models the decision problem in terms of assumed possible future outcomes, or scenarios, whose probabilities of occurrence can be estimated.

Decision under uncertainty, by contrast, is a decision problem characterized by several unknown futures for which probabilities of occurrence cannot be estimated.

In dealing with uncertainty, it is often helpful to determine to what degree changes in an estimate would affect a capital investment, that is, how sensitive a given investment is to changes in particular factors that are not known with uncertainty.

Both risk and uncertainty in

decision making activities are

caused by lack of precise

knowledge regarding future

conditions, technological

developments, synergies

among funded projects, and

so on.

There are four major sources of uncertainty, however, that are nearly always present in engineering economy studies.

Possible inaccuracy of the cash flow estimates used in the study.

Type of business involved in relation to the future health of economy.

Type of physical plant and equipment involved.

The length of study used in the analysis.

32

1

4

Several techniques are usually included in a discussion of sensitivity analysis in engineering economy. We will discuss the topic in term of the following three techniques:

Break Even Analysis

Combination of Factors

Sensitivity Graph (Spiderplot)

This techniques is commonly used when the selection among the project alternatives or the economic acceptability of an engineering project is heavily dependent upon a single factor, such as capacity utilization, which is uncertain.

This approach is used when two or more project factors are of concern and understanding of the sensitivity of the economic measure of merit to changes in the value of each factor is needed.

When the combined effects of uncertainty in two or more project factors need to examined, this analysis approach may be used.

When the selection between two engineering project alternatives is heavily dependent on a single factor, we can solve for the value (Break-even point) of that factor at which the conclusion is a standoff

Indifference between alternatives

: Solve for

𝐸𝑊 𝐵= 𝑓 (𝑧 )=0Economic acceptability of engineering project

The value of ‘‘ is the value at which we would be indifferent between accepting or rejecting the project

Example of Break-Even Analysis [1/3]

Suppose that there are two alternative electric motors that provide 100 hp output. An Alpha

motor can be purchased for $12,500 and has an efficiency of 74%, an estimated life of 10 years,

and estimated maintenance cost of $500 per year. A Beta motor will cost $16,000 and has an

efficiency of 92%, a life of 10 years, and annual maintenance costs of $250. Annual taxes and

insurance costs on either motor will be 1-1/2% of the investment. If the minimum attractive rate

of return is 15%, how many hours per year would the motors have to be operated at full load for

the annual costs to be equal? Assume that salvage values for both motors are negligible and that

electricity costs $0.05 per kilowatt-hour.

Example of Break-Even Analysis [2/3] Decision Criterion: Minimize Equivalent Uniform Annual Cost (AC)

Alpha Beta

Purchase Price $12,500 $16,000

Maintenance Cost/yr 500 250

Annual Taxes & Insurance 12,500(0.015) 16,000(0.015)

Efficiency 74% 92%

Useful Life (yrs) 10 10

Note: Electrical Efficiency = power output , and 1 hp = 0.746 kW

Example of Break-Even Analysis [3/3]

At breakeven, $

Solving for X, we find

The Sensitivity Graph (Spiderplot) technique is an analysis tool applicable when break-even analysis does not “fit” the project situation.

Makes explicit the impact of uncertainty in the estimates of each factor of concern on the economic measure of merit.

Example

A machine for which most likely cash flow estimates are given in the following list is being considered for immediate installation. Because of the new technology built into this machine, it is desired to investigate its PW over a range of 40% in: (a) initial investment, (b) annual net cash flow, (c) salvage value, and (d) useful lifeBased on these estimates, how much can the initial investment increase without making the machine an unattractive venture?Draw a diagram that summarizes the sensitivity of present worth to changes in each separate parameter when the per year

Solution for the Example of Sensitivity Graph [1/2]

𝑃𝑊=−11,500+3,000 [𝑃∨𝐴 ,10% ,6(1±𝑛% /100)]+1,000 [𝑃∨𝐹 ,10% ,6(1±𝑛% /100)]

𝑃𝑊 (10%)=−11,500+3,000(𝑃∨𝐴 ,10% ,6)+1,000(𝑃∨𝐹 ,10% ,6)=$ 2,130a) When the Initial Investment varies by ±p%

𝑃𝑊=(1±𝑝%  /100)(−11,500 )+3,000(𝑃∨𝐴 ,10% ,6)+1,000(𝑃∨𝐹 ,10% ,6)b) When Net Annual Cash Flow varies by ±a%

𝑃𝑊=−11,500+(1±𝑎% /100)(3,000)(𝑃∨𝐴 ,10% ,6)+1,000(𝑃∨𝐹 ,10% ,6)c) When Salvage Value varies by ±s%𝑃𝑊=−11,500+3,000 (𝑃∨𝐴 ,10% ,6)+(1±𝑠%  /100)(1,000)(𝑃∨𝐹 ,10% ,6)

d) When the Useful Life varies by ±n%

Solution for the Example of Sensitivity Graph [2/2]

-% DeviationChanges in Factor Estimate

+%Deviation Changes in Factor Estimate

PW (10%)

- 40 -30 -20 -10 +10 +20 +30 +400

-1000-2000-3000

-4000

1000

3000

4000

5000

6000

7000

$2130

Annual Net C

ash Flow, A

Useful Life, N

Market Value, MV

Capital Investment

2000

We’re often concerned about the combined effects of uncertainty in two or more project factors on the economic measure of merit. When this situation occurs, the following approach should be used in developing additional information to assist decision making:

Develop a sensitivity graph for the project.

Select the most sensitive project factors based on the information in the sensitivity graph.

Also, for the most sensitive factors, try to develop improved estimates and reduce the range of uncertainty before proceeding further with the analysis

Analyze the combined effects of these factors on the project’s economic measure of merit by(a) Using an additional graphical technique to make the combined impact of the two most

sensitive factors more explisit(b) Determining the impact of selected combinatins of three or more factors..

Example from Combinations of Factors [1/2]

Project Factor (Variable) Deviation Range Best Estimate

Range Estimate

Minimum Maximum

Capital Investment, I

Annual net cash flow, A

7,000

5,000

3,000

1,0000

-1,000

-3,000

-5,000

1,000 2,000 3,000 3,750

Maximum $6,547

𝑰𝑴𝑰𝑵=−$𝟏𝟎 ,𝟑𝟓𝟎

1,800

MaNimum -$4,820

𝑰𝑴𝑨𝑿=−$𝟏𝟑 ,𝟐𝟐𝟓

Example from Combinations of Factors [2/2]

Risk-adjusted Minimum Attractive Rates of Return (MARR)

A widely used industrial practice for including some consideration of uncertainty is to increase the MARR

Example

End of Year, k AlternativeP Q

01234

The firm’s MARR for its risk-free investments is 10% per year. Because of the technical considerations involved, Alternative P is thought to be more uncertain than Alternative Q. Therefore, according to the Atlas Corporation’s engineering handbook, the risk-adjusted MARR applied to P will be 20% per year and risk-adjusted MARR for Q has been set at 17% per year. Which alternative should be recommended?

Atlas Corporation

Example from risk-adjusted MARR

At the risk-free MARRR of 10%, both alternatives have the same PW of $39,659. Alternative Q would be chosen because it is less uncertain than alternative P.

When considering economic uncertainty (i.e., MARRR of 10%), and based on technical considerations, the selection was seen to be Alternative Q.But when alternative P is “penalized” due to the technical considerations by applying a higher risk-adjusted MARR to compute its PW, the comparison of alternatives favors alternative P.

Reduction of Useful Life

By dropping from consideration those revenues (savings) and expenses that may occur after a reduced study period, heavy emphasis is placed on rapid recovery of capital in early years of a project’s life.

This method is closely related to the discounted payback technique and suffers from most of the same deficiencies.

ExampleSuppose that the Atlas Corporation referred, that example decided not to utilize risk-adjusted

interest rates as a means of recognizing uncertainty in their engineering economy studies.

Instead, they have decide to truncate the study period at 75% of the most likely estimate of

useful life. Hence, all cash flows past the third year would be ignored the analysis of alternatives.

By using this method, should Alternative P or Q be selected when MARR=10% per year?

Example of reduction of Useful Life

Based on the PW criterion, it is apparent that neither alternative would be the choice with this procedure for recognizing uncertainty:

We can infer from Chapter 10 that are . . .

Sensitivity Analysis

Risk-adjusted MARR

Reduction In useful life

We have used nonprobabilistic techniques to deal with the realization that the realization that the consequences (cash flows, useful lives, etc) of engineering projects can never be known with absolute certainty.

(Decision Making under the Uncertainty)