MEM Engineering Economics 3 — Questions and Answers
Question 1: A machine costs $80,000 and has a useful life of 5 years with a salvage value of $10,000. Using straight-line depreciation, what is the annual depreciation charge?
- $16,000
- $14,000 (Correct answer)
- $18,000
- $12,000
Correct answer: $14,000
SL depreciation = (Cost − Salvage) / Life = ($80,000 − $10,000) / 5 = $14,000 per year.
Question 2: The concept of 'sunk cost' in engineering economics means that past expenditures should be:
- Included in future cost estimates as overhead
- Recovered through future project revenues before proceeding
- Ignored when making current and future decisions (Correct answer)
- Depreciated over the remaining project life
Correct answer: Ignored when making current and future decisions
Sunk costs are unrecoverable past expenditures that are irrelevant to future decision-making because they cannot be changed.
Question 3: If the nominal interest rate is 12% compounded monthly, what is the effective annual interest rate?
- 12.00%
- 12.36%
- 12.68% (Correct answer)
- 12.48%
Correct answer: 12.68%
EAR = (1 + 0.12/12)^12 − 1 = (1.01)^12 − 1 ≈ 0.1268 or 12.68%.
Question 4: A perpetuity pays $5,000 per year indefinitely. If the discount rate is 8%, what is the present value of the perpetuity?
- $40,000
- $62,500 (Correct answer)
- $50,000
- $55,000
Correct answer: $62,500
PV of perpetuity = Annual payment / Discount rate = $5,000 / 0.08 = $62,500.
Question 5: Which capital budgeting method explicitly accounts for the time value of money AND provides a dollar measure of value added to the firm?
- Payback period
- Accounting rate of return
- Net present value (Correct answer)
- Internal rate of return
Correct answer: Net present value
NPV discounts all cash flows to the present and expresses value creation in dollars, making it the most theoretically sound capital budgeting method.
Question 6: An asset purchased for $50,000 is sold after 4 years for $35,000. If accumulated depreciation at that time was $20,000, what is the book value gain or loss on disposal?
- $5,000 gain (Correct answer)
- $5,000 loss
- $15,000 gain
- $15,000 loss
Correct answer: $5,000 gain
Book value at disposal = $50,000 − $20,000 = $30,000; Sale price $35,000 − Book value $30,000 = $5,000 gain.
Question 7: In the context of engineering economics, what is 'opportunity cost'?
- The total cost of implementing a chosen project
- The cost of materials and labor for an engineering project
- The foregone return from the best alternative use of resources (Correct answer)
- The cost of delaying a project by one period
Correct answer: The foregone return from the best alternative use of resources
Opportunity cost is the value of the best alternative foregone when resources are committed to a particular project or decision.
MEM Engineering Economics 3
A machine costs $80,000 and has a useful life of 5 years with a salvage value of $10,000.
Using straight-line depreciation, what is the annual depreciation charge?