Question 24.4: PRESENT VALUE FOR COST COMPARISON Two equally qualified cons...
PRESENT VALUE FOR COST COMPARISON
Two equally qualified consulting engineering firms, A and B, are bidding for a city’s water works project, and both agree to be paid in full after the design project is completed. The engineering firm A can complete the project in 2 years and will charge USD 29,000.
The engineering B firm can complete the project in 1 year and 6 months, and will charge USD 31,000. Which engineering firm’s service charge is cheaper in terms of present values, assuming the city has plenty of time to wait, so the completion time is not a factor, and the steady interest rate is 7%?
The present value of firm A’s service charge:
PV = A/(1 + i)^{n} = 29,000∕(1 + 0.07)² = USD 25,329.
The present value of firm B’s service charge:
PV = 31,000/(1 + 0.07)^{1.5} = USD 28,008.
Assuming the completion time is not a factor, firm A’s service is lower than that of firm B.