Download Case Study 1 Understanding Economic Equivalence

ISE 211 Engineering Economy
Fall 2009
Case Study # 1
Due Date: 11/24/09
Understanding Economic “Equivalence”
Enrico Suarez just graduated with a B.S. in engineering and landed a new job with a starting
salary of $48,000. There are a number of things that he would like to do with his newfound
“wealth”. For starters, he needs to begin repaying his student loans (totaling $20,000) and he’d
like to reduce some outstanding balances on credit cards (totaling $5,000). Enrico needs to
purchase a car to get to work and would like to put some money aside to purchase a condo in the
future. Last, but not least, he wants to put some money aside for eventual retirement.
Our recent graduate needs to do some financial planning for which he has selected a 10-year
time frame. At the end of 10 years, he’d like to have paid off his current student loan and credit
card debt, as well as have accumulated $40,000 for a down payment on a condo. If possible,
Enrico would like to put aside 10% of his take home salary for retirement. He has gathered the
following information to assist him in his planning:
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Student loans are typically repaid in equal monthly installments over a period of 10 years.
The interest rate on Enrico’s loan is 8% compounded monthly.
Credit cards vary greatly in the interest rate charged. Typical APR rates are close to 17%
and monthly minimum payments are usually computed using a 10-year repayment
period. The interest rate on Enrico’s credit card is 18% compounded monthly.
Car loans are usually repaid over 3, 4, or 5 years. The APR on a car loan can be as low as
2.9% (if the timing is right) or as high as 12%. As a first-time car buyer, Enrico can
secure a $15,000 car loan at 9% compounded monthly to be repaid over 60 months.
A 30-year, fixed rate mortgage is currently going for 5.75%-6.0% per year. If Enrico can
save enough to make a 20% down payment on the purchase of his condo, he can avoid
private mortgage insurance (PMI) that can cost as much as $60 per month.
Investment opportunities can provide variable returns. “Safe” investments can guarantee
7% per year, while “risky” investments could return 30% or more per year.
Enrico’s parents and older siblings have reminded him that his monthly take home pay
will be reduced by income taxes and benefit deductions. He should not count on being
able to spend more than 80% of his gross salary.
You have been asked to review his financial plans. How reasonable are his goals? [Hint: Since
all repayments are done on a monthly basis, it makes sense to adopt the month as Enrico’s unit
of time. Also, it is best if you follow a “divide and concur” approach, where you analyze his cash
flows in terms of separate categories (i.e., segmenting model).]
Instructions:
 As part of your analysis, results, and conclusions, you are asked to provide your friend
Enrico with a table that summarizes his monthly financial plan (including income and
expenses). You should clearly state your assumptions, if any. Think of this as a realistic
problem, where all aspects should be taken into account (think outside the box!).
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Students are strongly encouraged to use MS Excel, whenever appropriate, but that’s not
necessary. If Excel is used, however, please attach the results to your report, as
appropriate (and submit an electronic copy of the Excel Sheet).
Students should clearly explain and show their work regardless of the approach chosen.
This case study is to be completed in teams of two and only one report (hard copy) is
required. Please provide a cover page for your report. The report should be submitted no
later than 6:00PM on Tuesday, November 24, 2009.