Matrix algebra and its application AAUCC, 2010

CHAPTER ONE: MATRIX ALGEBRA AND ITS APPLICATION

INTRODUCTION
Numerical data arranged in a rectangular form referred as matrix is
very common in everyday life. Matrices and the algebra of matrices
are long recognized for their usefulness in almost every branch of
science and engineering. They are assuming an increasingly
important role among the modern techniques used in mathematical
analysis of social, business and economic problems. In this chapter we
will first have a review of matrix algebra learned in previous
mathematics course. After the review, we will introduce technique of
solving system of linear equations, inverting matrices and the
application in solution to input- out put problems. Finally we will have
another application of matrix algebra in concept of Markov chains.

1.1 REVIEW OF MATRIX ALGEBRA

Matrix is a rectangular array of numbers enclosed within brackets.

The numbers in the array are called entries or elements. The following
are examples of matrices.

Example 1

Matrices are represented by capital letters such as, A, B, C …; While

entries are respectively, represented by a ij , bij , cij… The subscripts i
and j on an entry correspond respectively to the row and column in
which the entry is located in the matrix. It is important to note that the
row is always given first. Thus a23 represents the entry in the second
row and third column; and entry a 32 represent the entry located in the
third row and second column.

Example 2 A matrix having m rows and n columns can be written as

follows

A=

Matrices are classified by the number of rows (horizontal) and columns

(vertical) they have. A matrix having m rows and n columns is said to
have size or dimension of m by n also written as m x n.
Example 3 The matrix A= is of size 2 by 3.

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Matrix algebra and its application AAUCC, 2010

is of size3 by 2.

C = (2 7 9 -5) is of size 1 by 4

D = (5) is of size 1 by 1.

A matrix having the same number of rows as columns is called a

square matrix. The entries a11, a12 . . . aii . . . ann are said to form the
main diagonal of a square matrix A of size n by n.

Example 4 A= is a square matrix of size 3 by 3. The

entries on the main diagonal of the matrix are: a 11 = 4, a22 = 8 and a33
=9

A square matrix with only the number 1 as entries on the main

diagonal and 0s as entries in all other positions is called an identity
matrix

Example 5: are identity matrices of size 1x

1, 2x2 and 3x3, respectively.

A matrix with only one column is called a Column matrix, and one
with only one row is called a row matrix. Row and column matrices
are also called vectors.

Example 6 are column matrices of size 3x1 and

4x1 respectively, and

(2 3 -5) and (1 0 1 1) are row matrices of size 1x3 and 1x4,

respectively.

Two matrices A, and B are said to be equal if and only if they have
same size and each entry in matrix A equals the corresponding entry
in matrix B, that is aij = bij for all ij.

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Example 7. Consider the matrix, . Which of the following

matrices is equal to matrix A?

Solution: c.

Addition of matrices

The sum of two matrices A and B of the same size denoted by A+B is a
matrix whose entries are obtained by adding the corresponding entries
of the two matrices A and B. Since entries must correspond addition is
not defined for matrices with different size.

Example 8

Since we add two matrices by adding their corresponding entries, it

follows from the properties of real numbers, if A, B and C are matrices
of same size then,

A+ B= B+A Commutative property

A+ (B+C) = (A+B) + C Associative property

If A is a matrix and k is a real number the scalar multiplication

denoted by KA is a matrix obtained by multiplying each entry of
matrix A by the number k. Using the scalar multiplication we can
define A-B by A-B = A + (-B).

Example 9. If A= then,

2A= , -A =

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Example 10

Note that, the subtraction of matrices can also be obtained by

subtracting corresponding entries of A and B.

The identity and inverse properties for matrix addition require the
matrix with entries that are all zeros called the zero matrix.

Example 11

Using letter O to denote the zero matrix, it is clear that the matrix O
behaves like the number 0 in ordinary arithmetic. So if matrix A and
matrix O, have the same size then,

A+O=A Identity property

A+(-A) = O Inverse property

Application problem

Operating from two plants a manufacturer produces two products:

Product x and product y. Matrix A, B and C, below summarize the
production from the two plants for the first week, second week and
third week, respectively. In each matrix row 1 represents the number
of product x and row 2 represents the number of product y.

Given column 1 in each matrix represents production from plant 1 and

column 2 represents production from plant 2, answer the following
questions.

i) If production of each item from each plant during the fourth week is
twice of the Productions of the first week write a matrix that
describes the total productions for the last four- week periods.

ii) If the plan for the total production for the coming four weeks is, to
increase total production of each type of product from both the
plants by 10% of the total production during the last four weeks,
write the matrix that represents the total production for the
coming four weeks.

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Solution i) the production for the fourth week is 2A. Using scalar
multiplication and addition of matrices the total production for the last
four-week periods is given by the matrix T as follows;

T= A + B + C +2A
= 3A + B + C

ii) Total production of coming four weeks period is expected to

increase by 10% of total production of last four weeks which is
T + 10%T= T + 0.1T= 1.1T. Thus, the total production matrix
is given by,

1.1T =

Multiplication of matrices

We start by defining the dot product of two special matrices, a 1xn

row matrix and an nx1 column matrix which is a real number obtained
as follows:

 b1 
 
 b2 
a 1 a2 a3  an  

b3   a1b1  a 2 b2  a 3b3  . . .  a n bn

 
 
 bn 

Example 12 (2 7 9 -5) = (2x3) + (7x1) + (9x-2) + (-4x-5)

= 6 + 7 + -18 + 20 = 15

If A is an mxp matrix and B is a pxn matrix, then the matrix product

AB is an mxn matrix whose entry in the ith row and jth column is
obtained by the dot product of ith row of matrix A and the jth column
of matrix B.

Note that from the definition of the dot product it is clear that matrix
multiplication is possible only if the number of columns of the first
matrix is equal to the number of rows of the second matrix.

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Example 13

It is important to check whether the multiplication is defined or not,

before starting the multiplication. Size of matrix A is 2x2 and that of B
is 2x3, so the number of columns of matrix A (2) is equal to the
number of rows of matrix B (2). Thus we can find the product AB
which is a 2x3 matrix.

This example shows that if AB=C, entry c 12 (6) is found by the dot
product of 1st row of matrix A and 2nd column of matrix B. We should
also note that BA is impossible. Even if it is possible the commutative
property does not hold in general for matrix multiplication.

Example 14

Both A and B are 2x2 matrices, so both AB and BA are defined.

AB and BA are the same size matrices, but they are not equal that is
AB ¹ BA. Thus we say that matrix multiplication is not commutative,
but it has some properties similar to properties of multiplication of real
numbers, such as identity and inverse property.

The identity element for multiplication of real numbers is the number

1, since for all real number a, 1a= a1= a. We also know that for each

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real number a (except 0) there exist the multiplicative inverse of a

denoted by a-1 such that aa-1= a-1a = 1. Similarly, the identity matrix
denoted by I behaves like the number 1. That is if the product of
matrix A and matrix I is defined then, AI= IA=A.

Example 15.

Hence for a square matrix A of size n by n there is a corresponding

identity matrix I of size n by n such that AI = IA= A. So, the inverse
of a square matrix A, denoted by A -1 if it exists it is a square matrix of
size n by n such that AA-1 = A-1A = I. The method of finding the
inverse of a matrix will be discussed later in section 1.3

In addition to the above identity and inverse properties If all products

and sums are defined for the indicated matrices A, B and C; and k is a
real number then;

1. (AB) C = A (BC) Associative property

2. A (B + C) = AB + AC Left- hand distributive property
3. (B + C) A = BA + CA Right- hand distributive
property
4. k (AB) = (kA) B = A (kB)

Application problem

A certain department store sales three different types of toys; boat,

car, and train. Suppose there are 300 Boats, 200 cars, and 100 trains
in store 1 and 400 boats, 250 cars and 500 trains in store 2.

i) Set up a matrix A where a ij is the inventory in units of toy i in

store j.

ii) If the value of each boat is Birr 40, each car is Birr 35 and each
train is Birr 50.Use matrix multiplication to determine the total
value of inventory at each store

Solution i) In the required matrix A toys should be represented by

rows (toy i) and stores by columns (store j)

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A=

ii) The total value of inventory is obtained by multiplying the number

of each type of toy in each store by the corresponding value of each
toy and adding up the result. Thus, to apply matrix multiplication the
value matrix V is represented by a row matrix as,

The total inventory value at store 1 and store 2 can be computed

using matrix multiplication VA as follows

The total inventory value at store 1 is Birr 24000 and at store 2 is Birr
49750

1.2 GAUSS-JORDAN METHOD OF SOLUTIONS OF SYSTEMS OF

LINEAR EQUATIONS

Using matrix algebra any system of linear equations can be expressed

as, AX= B where A is a coefficient matrix, X is a variable matrix and B
is the constant matrix or constant vector.

Example 1 Express the following system of linear equations using

matrix notation.
3x - 2y = 6
x + 7y = 8

Solution This system of linear equations can be expressed in

matrix form as
= .

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Where the coefficient matrix, A= the variable matrix X=

and the constant vector B = .

In solving systems of linear equations by elimination, the coefficients

of the variables and the constant terms play a central role. So
associated with the system we form the augmented matrix, which
contains these essential parts of the system,

[A | B] =
(The bar is used to separate the constants from the coefficients)

Similarly associated to a given augmented matrix we can form the

system of linear equations.

Example 2. Write the system of linear equations corresponding to

the augmented matrix given by

Solution. The system of linear equations is

x –y + 3z = 8
2x +2y -4z = -13
3x + 6z = 20
Recall that two linear systems are said to be equivalent if they have
exactly the same solution set. Similarly, we say that two augmented
matrices are equivalent, denoted by the symbol ‘~’ placed between
the two matrices, if they are augmented matrices of equivalent
systems of equations. As we do on equations in linear systems, we
can use the following three operations called elementary row
operations on the rows of the augmented matrix. These operations
provide equivalent matrices.

ERO 1: Interchange of two rows, denoted by R i↔ Rj

ERO 2: Multiply (divide) a row by a nonzero constant,

denoted by kRi → Ri

ERO 3: Add (subtract) a nonzero multiple of one row to

another row, denoted by, Ri + kRj → Ri

[ Note: The arrow → means “ replace.” ]

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The Gauss-Jordan Elimination method uses these row operations

to transform the augmented matrix into an equivalent matrix that
represents equivalent systems of equations. The procedures for the
application of the method depend upon the number of equations and
the number of unknowns (variables) in the system.

Case 1: When number of equation is equal to number of

unknown:
In this case the coefficient matrix A is a square matrix. Apply
elementary row operations on the augmented matrix [A|B] to reduce
the coefficient matrix A to an identity matrix. This can be done by
working with one column at a time, first to get a ‘1’ in the proper
position (aii). Then add a multiple of the row which contains this 1 to
the other rows to get ‘0s’ in all other positions within that column.

Example 3 Solve the system

2x + 6y = -10
x - 3y = 7

Solution: First we write the augmented matrix for this system.

Step 1. To get a 1 in row 1 column1, interchange rows 1 and 2,

R1 ↔ R 2 ~

Step 2. Multiply the first row by -2 and add to the second row
to get 0 in row 2 column1

R2 - 2 R1 → R2 ~

Step 3. Multiply row 2 by 1/12, to get a 1 in row 2 column 2,

1/12 R2 → R2 ~

Step 4. Multiply row 2 by 3 and add to row 1, to get 0 in row 2

column 2.

R1 + 3 R 2 → R 1 ~

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The system of equations corresponding to this final augmented matrix

is,

x + 0y = 1
0x + y = -2

Thus the solution is x = 1 and y = -2 or (1 ,-2)

Example 4. Solve the system

x +y + 2z = -3
3x – y + z = 11
x + 2y -3z = -8

Solution: Apply elementary row operations to the augmented matrix

of the system

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When we write the equation corresponding to this final augmented

matrix we get

x+0y +0z = 2 ↔ x = 2
0x +y +z = -5 ↔ y = -5
0x+0y+ z = 0 ↔ z = 0

Thus the solution is (2, -5, 0)

Example 5: Solve the system,

4x + 6y = 8
6x + 9y = 12

Solution: Apply elementary row operation to the augmented matrix

of the system,

R1 → ¼ R 1 ~

R2 - 6 R1 → R2 ~

At this point we cannot continue the process since all entries in the
last row are 0. The system of equations corresponding to this final
augmented matrix is,

x + 3/2 y = 2
0=0

Which means we really have a single equation, x + 3/2 y = 2. The

graphs of the two original equations coincide and there are unlimited
or infinitely many solutions, if we let value of x = k, then using the
equation x + y = 2 we get y = , thus, (k, 4-2k /3] is a solution
for any real number k. Replacing value of k with a real number
produces a particular solution to the system. For instance if k= -1
then one particular solution is (- 1, 2)

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Example 6: Solve the following system of linear equations

2x + 2y + 4z = 13
x - y + 3z = 8
3x + 3y + 6z = 20

Solution: Apply elementary row operations to the augmented matrix

of the system

When we write the equation corresponding to the last row of this final
augmented matrix we get a false statement 0 = -1/2. Hence, the
system has no solution. Note that a row containing all zeros except in
the last column provides a false statement which indicates the
problem has no solution.

Case 2: When number of equations is not equal to number of

unknowns.
In this case the coefficient matrix A is not a square matrix. However,
working one column at a time we can apply elementary row operations
to the augmented matrix [A | B] to get the number 1 in the
appropriate position (aii). We then add multiple of the row which

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contains this 1 to the other rows to get 0s in all other positions within
that column. Continue this process, until it is not possible to go
further. If at any point in the process we obtain a row that is all zeros
except in the constant column, as example 6 above, we can stop,
since the system has no solution.

Example 7: Solve the following 4 by 3 system of linear equations

x + 3y +z = 16
x+y–z=8
2x + y +2z = 12
3x + 2y +z = 20

Solution: Apply elementary row operation to the augmented matrix

[ A|B] =

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At this point we stop the process. The coefficient matrix has no fourth
column since the system involves only three variables. The linear
system corresponding to this last augmented matrix is;

x + 0y + 0z = 4
0x + y + 0z = 4
0x +0y + z = 0
0x + 0y +0z = 0

Thus the system has a unique solution given by x = 4, y= 4 and z = 0

Example 8: Solve the following 3 by 2 systems of linear equations

2x +3y = 1
3x – y = 7
2x – y = 9

Solution: Apply elementary row operations to the augmented matrix

1
R1  R1 1 3 1 
2 2 2
 
~  3  1 7
2  1 9


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At this point we stop the process. The coefficient matrix has no third
column since the system involves only two variables. The linear
system corresponding to this last augmented matrix is;

x + 0y = 2
0x + y = -1
0=4

0=4 is a false statement. Thus the system has no solution.

Example 9: Solve the following 2 by 3 system of linear equation

x+ y - 2z = 8
2x- y +2z = 7

Solution: Apply elementary row operations to the augmented matrix

of the system

At this point we stop the process. Why? The last matrix corresponds to
the system is,

x=5
y- 2z = 3

Thus we have infinitely many solutions. Solving the first equation in

terms of z we get y= 3+2z. Letting z = k where k is any real number

x = 5,
y = 3 + 2k,
z = k.

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The solution given by (5, 3+2k, k) is called a general solution. We

can have particular solutions for the system by assuming particular
values for k. For instance if k= 4, then

x= 5,
y= 3 + 2(4) = 11
z= 4

That is (5, 11, 4) is one particular solution for the system. Other
particular solutions can be obtained in a similar manner. For instance
if k= -2, we will have another particular solution (5, -1, -2).

Remark: A system of linear equations with more number of

unknowns (variables) than number of equations can’t have a unique
solution.

Application problems

Example 10. A furniture company makes tables, beds and chairs

along with other furniture. Each of which requires skilled labor and to
be processed on a machine. Each table requires 3 hours on the
machine and 1 hour of skilled labor. Each bed requires 2 hours on the
machine and 3 hours of skilled labor and; each chair requires 1 hour
on the machine and 2 hours of skilled labor. Find the number of each
type of furniture to be made if the number of hours available on the
machine is 23 hours; and the skilled labor available is 26 hours.

Solution: First we assign variables to each of the unknown quantities

for which we are required to solve. Thus in our example we let

x = Number of tables to be made

y = Number of beds to be made
z = Number of chairs to be made

Then we write the equations by noting that the number of hours

required on the machine to make x tables is 3x hours, y beds is 2y
hours, and z chairs is z hours; thus 3x + 2y +z must equal the time
available on the machine, which is 23 hours. Similarly x + 3y +2z
must equal the skilled labor hours available, which is 26 hours. Hence,
we have the following 2 by 3 system,

3x + 2y +z = 23
x + 3y + 2z = 26

Apply elementary row operation to the augmented matrix of the

system

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R1↔ R2 ~

R2 -3R1 → R2 ~

-1/ 7 R2 → R2 ~

R1-3R2→ R1 ~

We have an unlimited number of solutions given by

x - z/7 = 17/7 ↔ x = 17/7 + z/7 = 17+z /7

y + 5z/7 = 55/7 ↔ y = 55/7 – 5z /7 = 55-5z /7

If we let z = k then (17+k / 7 55-5k /7 , k) is the general solution.

However we cannot produce a negative number of chairs, tables or
beds. If we also assume we don’t need fractional number of furniture,
then k must be a nonnegative integer.

From the first equation x = 17/7 + k/7 k can assume the values 4, 11,
18, 25. . .
From the second equation k can only assume the values 4 and 11.
Hence the values of k that can satisfy both the equations are 4 and 11.

If k = 4 then x= 3 , y= 5, z = 4
If k= 11 then x = 4, y = 0, z = 11

Thus either 3 tables, 5beds and 4 chairs or 4 tables and 11 chairs but
no beds can be produced at the given available time.

Example 11. A factory produces two types of products: A and B.

Each product must pass through three processing machines M-1, M-2
and M-3. The following table shows the number of hours each product
requires on each machine.

M-1 M-2 M-3

Product A 1 1 3
Product B 1 2 1

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Using the information in the table, determine the number of products

that can be produced, if the number of hours available per day on M-1,
M-2 and M-3 are 8 hours,10 hours, and 20 hours, respectively.

Solution. Since we are required to find the number of products that

can be produced there are only two unknowns.

Let x = the number of product A to be produced

y = the number of product B to be produced

We have to following 3 by 2 system of linear equation representing the

problem,

x+y=8
x + 2y = 10
3x + y = 20

Apply elementary row operation to the augmented matrix of the

system

We have a unique solution x= 2 and y= 6, hence with the available

hours on each machine, 2 product A and 6 product B can be produced
per day.

1.3. INVERSE METHOD OF SOLVING SYSTEM OF LINEAR EQUATIONS

Inverse of a matrix, leads to direct and simple solutions to many

practical problems. In section 1.1 we have discussed about the
inverse of a square matrix A. To find the inverse A -1 we use the idea of
Gauss –Jordan method of transforming an augmented matrix discussed
in section 1.2.

We first form an augmented matrix by writing the given matrix A on

the left and identity matrix on the right: [A | I]. We perform

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elementary row operations to reduce the matrix on the left, A into an

identity matrix. The reduced matrix will be of the form [I | A -1] and the
matrix on the right is then the inverse of the given matrix A:

Example 1. Find the inverse of A=

Solution We start by writing the given matrix at the left and the
identity matrix next to it; thus,

[A| I] =

Then apply elementary row operations to reduce A into an identity

matrix I,

~ ~ ~

We now have identity matrix at the left, hence the matrix at the right
of the vertical line is

A-1 =

In the process of obtaining the inverse of a matrix if we get a row

containing all 0s to the left of the vertical line, the given matrix has no
inverse and it is said to be singular.

Example 2 Find the inverse of A=

Solution We apply elementary row operation to [A| I]

~ ~

We stop the process here since we have only zeros in row two to the
left of the vertical line. There are no possible row operations that will
provide a 1 in the 2nd row 2nd column, and maintain the 0 in the 2 nd row
1st column. Thus, it is not possible to get an identity matrix to the left
of the vertical line; hence matrix A is not invertible. A is a singular
matrix.

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Example 3: Find inverse of A=

Solution Apply elementary row operation to

 3  1  1
1  1 1 1
to obtain A =
-1
2  
  3 1 3 

Now let us see the application of inverse of a matrix in solving system

of linear equations.

The inverse method can be applied only to systems whose coefficient

matrix A is a square matrix. That is when number of equations equals
number of unknowns. If the inverse of A (A -1) exists then the system
will have a unique solution given by X = A-1 B.

AX= B
A-1(AX) = A-1B Why?
(A A)X = A B
-1 -1
Why?
IX = A-1B Why?
X= A B-1
Why?

The advantage of using the inverse method is, in solving systems of

linear equations whose coefficient matrix is the same and the
constants are different. Once the inverse of A is found, it can be used
to solve any new system formed by changing the constant terms. The
following example will illustrate the advantage of the inverse method
for solving system of linear equations.

Example 4. A company produces two models of bicycle, model 201

and model 301. Each Model 201 requires two hours of assembly time
and each model 301 requires one hour of assembly time. The parts
for model 201 cost Birr 250 per bike and the parts for model 301 cost
Birr 150 per bike. The numbers of each model of bicycle to be
produced per day depend on the available assembly time and amount
of money. How many of each bicycle model can be made on a day if
the available hours of assembly time and cost per day, respectively
are:

i) 12 hours and birr 1700

ii) 12 hours and Birr 1500
iii) 18 hours and Birr 2500
Solution Let x = number of model 201 bicycle
y = number of model 301 bicycle

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The number of hours required to assemble x model 201 bicycles is 2x

hours, y model 301 bicycles is y hours, thus 3x + y must equal the
available assembly time. Similarly 250x + 150y must equal the cost
available. The available time and cost can vary from day to day so, we
will write the system of equations for arbitrary time t and cost c.

Thus the system of equations corresponding to the problem is,

2x + y = t
250x + 150y = c

The coefficient matrix A =

Using the procedures discussed above the inverse of this matrix is

A-1 =

Hence, the solution vector is

To find the solution for each available time and cost we substitute the
given values of t and c in questions i, ii and iii.

i)

thus, 2 model 201 bicycles and 8 model 301 bicycles can be produced

ii)

6 model 201 bicycle and no model 301 bicycles.

iii)

4 model 201 bicycles and 10 model 301 bicycles.

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1.4. INPUT-OUTPUT MODEL

Wassily Leontief, a Russian economist was awarded Noble prize in

1973 for the development of input- output model and its application to
important economic problems. In this model we assume an economy
with a number of industries or sectors. Each of these industries uses
input from itself and other industries to produce a product. These
internal demands for each industry’s output are described by the
technology matrix M also called consumption matrix. A
technology matrix M is a square matrix where entry m ij represents the
input from industry i which is required to produce one unit of output of
industry j.

Suppose that we have n industries and each produces x i units, the

total output vector is a column matrix given by

X=

For the internal demands of all n industries the i th industry must

produce outputs

mi1x1+ mi2x2 +. . . +minxn for i=1, 2 . . .n

Hence the consumption by the industries which is referred as internal

demand is MX.
A final demand vector D lists the demand for the external or outside
use. This final demand vector D is a column matrix given by

D=

Where, di shows the demand for the output of industry i.

So given a technology matrix M and a demand vector D we want to

compute the equilibrium levels of production for each industry. These
equilibrium levels are the production levels which will just meet the
internal demands of the industries of the economy plus the final

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demands of each industry. Hence the desired output vector, X must

satisfy, X= MX + D.

This equation can be solved for X as,

X= MX + D
X- MX = D
(I- M) X = D
X= ( I – M)-1 D

If (I -M)-1exists then the solution of the Leontief input- output model is

given by

X= ( I – M)-1 D

Where X= output (total demand) column vector

M= technology (internal requirements) matrix
D = final demand (external demand) column vector

We require here that the matrix I-M be invertible, which might not be
always the case. If, in addition, (I-M)-1 has nonnegative entries, then
the components of the vector X are nonnegative and therefore they
are acceptable as solutions for this model. We say in this case that the
matrix M is productive.

Example 1: Suppose an economy is based on two industries:

manufacturing and transportation. One unit of output from
manufacturing requires 2/5 units of manufacturing products and 1/5
unit of transportation. The production of each unit of transportation
requires 1/5 unit of manufacturing products and 1/ 10 units of
transportation. Find the production level from the two industries that
will balance the economy, if final demand (use of manufacturing
products and transportation by other customers) for manufacturing is
30 million units and for transportation is 10 million units.

Solution: Let = Total number of units of output from manufacturing.

x 2 = Total number of units of output from transportation.

The technology matrix corresponding to the problem is,

Thus, units of manufacturing products require 2/5 units of

manufacturing products and; the production of units of
transportation requires /5 units of manufacturing. Hence the internal
1

24
Matrix algebra and its application AAUCC, 2010

demand for manufacturing products is 2/5 + 1/5 . Similarly the

internal demand for transportation is 1/5 + 1/10 .
The final (external demand) for manufacturing products is 30 million
units and for transportation is 10 million units. Hence the total
demand for
Manufacturing products is: 2/5 + 1/5 + 30, 000,000
Transportation is: 1
/5 + /10
1
+10,000,000

Putting these two together the mathematical model is

x1 = 2/5 + 1/5 + 30, 000,000

x 2 = 1/5 + /10
1
+ 10,000,000

These equations define the problem. Writing the system using

matrices we get:

 x1   52 1
5   x1   30,000,000
 x   1 1   x    10,000,000 
 2  5 10   2  

The matrix equation is X = MX + D, so we will use the solution of the

input-output model given by, X= (I – M)-1 D to solve the problem:

I-M=

Using the method discussed in section 1.3 the inverse is:

(I – M)-1 =

Hence the solution of is given by,

X = (I-M)-1 D

= (I – M)-1 D

= =

= 58 and = 24

Thus, the total output level needed from manufacturing is 58 million

units and 24million units from transportation.

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Matrix algebra and its application AAUCC, 2010

It is now easy to get the new vector of total output as a result of the
change in final demand. For example if the final demand for
manufacturing is increased by 1 million units then,

(I- M)-1 D = =

Observe that the total out put of both the industries has increased.
The total output level needed from manufacturing and transportation
respectively, are 59.8 million and 24.4 million units.

Example 2 An economy is based on two sectors: electricity and water.

A Birr 1 worth of electricity production requires Birr 0.30 worth of
electricity and Birr 0.10 worth of water. A Birr 1 worth of water
production requires Birr 0 .20 worth of electricity and Birr 0 .40 worth
of water. If the external demands are worth Birr 11 million of
electricity and Birr 8 million of water, how many Birr worth of output is
required from each sector to satisfy these needs of final demands?

Solution The technology matrix M corresponding to economy is

And the demand vector is,

We will use the solution of the input-output model given by,

X= (I – M)-1 D to find the solution to the problem:

I-M=

Using the method discussed in section 1.3 the inverse is,

(I - M)-1 =

This gives,

26
Matrix algebra and its application AAUCC, 2010

So, the total output of electricity must be worth Birr 20,500,000, and
the total output of water must be worth Birr 16,750,000.

1.5. MARKOV CHAIN

Suppose two companies: company A and company B are producing

the same product. Because of a promotion campaign, buyers are
switching between the product produced by company A and company
B. Assume that 10 % of those who buy company A’s product buy from
company B next time and 40% of those buying from company B buy
from company A next time. What will be the market share of each
company after a given period of time?

Using Markov chains, we will learn the answer to such question. The
answers to the question will help to study the success of these
companies in terms of their business.

A Markov chain is a sequence of random values whose probabilities

for a next state depend only upon the present state, and not on any
past states. Markov chains are named after the Russian
mathematician A.A. Markov (1856- 1922).

The Markov chain process consists of a finite number of states and

some known probabilities pij, where pij is the probability of moving
from state i to state j. In the example above, we have two states:
buying the product produced by company A and company B. The
number pij represents the probability of moving from buying the
product produced by company i to the product produced by company j
in the next transition state. The matrix P that represents these
transition probabilities is called the transition matrix of the Markov
chain. In this matrix, the states are indicated at the side and the top.
The transition matrix P for the example given above, thus is

A transition matrix has the following features:

1. It is square, since all possible states must be used both as rows and
as columns.
2. All entries are between 0 and 1, inclusive; this is because all entries
represent probabilities.

27
Matrix algebra and its application AAUCC, 2010

3. The sum of the entries in any row must be 1, since the numbers
give the probability of moving from the state at the left to one of
the states indicated across the top.

To answer the question, what will be the market share of each

company at a given period? We need first to define the state vector.
For a Markov Chain, which has k states, the state vector for a certain
observation period is a row vector given by, X = (x1, x2 ,… xk )

Where xi = probability that the system is in the i th state at the time of

observation. The sum of the entries of the state vector has to be one
(x1 + x2 +…+xk = 1). Such type of vector is called a probability
vector. A probability vector is a matrix of only one row, having
nonnegative entries, with the sum of the entries equal to one.

Suppose currently company A has 70% and company B has 30% of the
market for the product hence, the initial state vector is given by,

X = [0.7 0.3]

In the next observation period, say end of the first month, if we wish to
find the market share of each company, the state vector can be found
by multiplying the initial state vector X and the transition matrix P

XP = [0.7 0.3] = [ .75 .25]

At the end of one month period Company A will have 75% of the
market for the product. Note that 90% of the 70% who bought
company A’s product one month will buy it the next month and an
additional 40% of the 30% who bought company B’s product one
month will buy company A’s product next month. This sum can be
found by the dot product
0.7(0.9)+0.3 (0. 4)=0.75= 75%. In the same manner the market
share for company B’s product is 0.7(0.1)+0.3 (0 .6)= 0.25= 25%.

In a similar way, the market share of the two companies after two
months is given by the state vector

This state vector [0.775 0 .225] can also be obtained by multiplying

the initial probability vector and the square of P: XP 2.

If we wish to find a long – range prediction for the market share of

each company, we can continue to compute successive state vectors
forming a chain as illustrated in the following table 1.

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Matrix algebra and its application AAUCC, 2010

Table 1
After n months Company A Company B
0 (initial) [0.7 0.3]
1 [0.75 0.25]
2 [0.775 0.225]
3 [0.7875 0.2125]
4 [0.79375 0.20625]
5 [0.796875 0.203125]
6 [0.7984375 0.2015625
]

Although it takes a little longer, the results seem to be approaching

the state vector [0.8 0.2]. If we multiply this state vector and the
transition vector we would obtain

The market shares of the two companies remain to be the same even
though the transition from buying product of one company to buying
product of the other company continues. Therefore, in the long run
the market shares of company A and company B will be 80 % and 20
%, respectively.

One of many applications of Markov chains is in finding long-range

predictions. Finding the long –range predictions by tabulating
successive state vectors and guessing the numbers from the sequence
of results can be very tedious, and is prone to error. It is not also
possible to make long-range predictions with all transition matrices,
but for a large set of transition matrices long range predictions are
possible. Such predictions are always possible with regular transition
matrices. A transition matrix is said to be regular if some power of
the matrix contains all positive entries.

If a transition matrix P is regular, then there is a unique probability

vector V such that, VP = V. Such probability vector is called the
steady state vector or the fixed probability vector. This Vector V
is unique and gives the long – range trend of the Markov chain. To
find V, solve a system of equation obtained from the matrix equation
VP= V, and from the fact that the sum of the entries of V is 1.

In our example we found vector V to be [0.8 0.2]. Vector V can be

determined by solving:
VP= V
[x y] = [x y]

0.9x + 0.4y = x
0.1x +0.6y = y

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Matrix algebra and its application AAUCC, 2010

Simplify these equations to get,

-0.1x + 0.4y = 0
0.1x - 0.4y = 0

It is clear that both equations are the same. The second equation is
simply the first equation multiplied by -1, so we will drop the second
equation. Recall that V= [x y] is a probability vector, so, x + y = 1.
Hence to find values of x and y substitute y = 1- x in the first equation,

-0.1x + 0.4 (1-x) = 0

Solving this equation for x and then finding value of y we obtain,

x= 0.8 and y= 0.2

Exampl 1. Currently it is known that 15% of the population own a

car and 85 % do not. Based upon past experience every year 1 out of
100 of the non owners will become owners and 1 out of 1000 of the
owners will become non owner.
i) Find the percentage of car owners after two years
ii) What will be the predicted proportion of car owners and non
owners in the long run?

Solution. The transition matrix for the problem is,

And the initial probability vector is

i) To find the proportion after two years we first find the proportion at
the end of one year as,

Then at the end of two years the percentage of car owners and non
owners is given by,

Hence after two years 16.661% of the population will be car owners.

ii) To find the long range prediction we find the steady state vector

30
Matrix algebra and its application AAUCC, 2010

V= [x y] by solving the equation

[x y] = [x y]

Using the procedure discussed above the solution is x = 0.909 and y=

0.091. Hence, in the long run 90.9% of the population will own a car.

To illustrate the concept of Markov chain 2 by 2 transition matrices are

used. Similarly a 2 by 2 technology matrices are used in the input-
output model in section 1.4. However, the same methodologies can
be applied to n by n matrices with more complexity of calculations. In
general most similar problems that you have seen in this chapter
involve large size of matrices and are solved with computers, since
hand methods would be impractical. To work on computers it is still
important for you to know how to formulate problems. You need also
at least to have the ideas discussed in this chapter to understand
how the computers solve the problems.

EXERCISES

1. Let

Find i) A +B ii) BA iii) 2C-B iv) BC

What do you say about BA and BC?

2. Let A= Find: i) 2BA iii) AB

3. Given the following matrices A, B, and C, Find the values of x, y and

w if A+B= 2C.

4. The following matrix M and S describe an automobile dealer’s

inventory on Meskerem1 and the sales for the month of Meskerem,
respectively.

 26 43 52 40
 
M=  31 25 50 46 S=
 35 29 63 41

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Matrix algebra and its application AAUCC, 2010

On Tikemet 1 a new shipment arrives. The numbers in this shipment

are given by the matrix T

T=

Describe the inventory matrix after the Tikemet delivery

5. A decision problem is a problem in which one must choose between

several alternatives. The following is an example of a decision
problem. Ato Abebe wants to have kitfo for his lunch and he has four
places where he can eat his lunch. The first place charges Birr 42 for
Kitfo, Birr 6.50 for a beer and Birr 1.75 for coffee. The second place
charges Birr 41 for Kitfo, Birr 7 for a beer and Birr 2.00 for a coffee.
The third place charges Birr 43 for Kitfo, Birr 6.50 for a beer and Birr
1.50 for a coffee. The fourth place charges Birr 44 for Kitfo, Birr 6.00
for a beer and Birr 2 for a coffee. Express the above information in a
4x3 matrix. If Ato Abebe wishes to have a kitfo, 2 beers and a coffee
for his lunch, use matrix multiplication to find the cost of lunch at each
place. Assuming, that Ato Abebe has no preference for any of the
places; decide where he should eat to spend the least amount of
money.

6. A garment industry sells three styles of shirts in two different stores:

store 1 located at Piassa and store 2 located at Mercato. The
inventory of style A, Style B and style C shirts on hand in store 1 are
56, 42 and 60 ; while in store 2 are 47, 35 and 55 respectively. The
following matrix V shows the whole sale and retail values of each style
of shirt in Birr,

i) Construct matrix A where entry a ij represents the inventory in store i

of style j shirt.

ii) Use matrix multiplication and find the matrix that represents the
wholesale and retail values of inventory at each store.

7. A company packs two types of items, A and B, in three boxes of

different sizes: small, medium and large. The small size box can
contain 1 unit of item A and 2 units of item B. Each medium size box
can contain 3 units of item A and 1 unit of item B. While the large size
box can contain 2 units of item A and 4 units of item B. If a company
has 30 units of item A and 25 units of item B find the possible number
of each size of boxes required to pack the items.

32
Matrix algebra and its application AAUCC, 2010

8. A second hand car dealer orders 8 large cars, 26 intermediate cars,

and 36 small cars. There are three types of cars that can be used to
transport the cars from the port to the city. Trucks of type A carry 2
large cars, 2 intermediate cars, and 2 small cars. Trucks of type B
carry 6 intermediate cars. Trucks of type C carry 7 small cars. How
many type A trucks, type B trucks, and type C trucks will be needed to
transport the ordered cars.

9. A farmer raising corn finds it necessary to add 900 grams of

phosphorus, 750 grams of nitrogen, and 700 grams of potassium to
the field in order to maximize crop production. Cow manure and three
types of fertilizers are available. A 100 kg of cow manure contains 30
grams of phosphorus, 50 grams of nitrogen and 30 grams of
potassium. 100 kg of fertilizer A contains 30 grams of phosphorus, 75
grams of nitrogen and 20 grams of potassium. 100 kg of fertilizer B
contains 30 grams of phosphorus, 25 grams of nitrogen and 20 grams
of potassium. 100 kg of fertilizer C contains 60 grams of phosphorus,
25 grams of nitrogen and 50 grams of potassium. How much of each
type of fertilizer should be added to the field?

10. 4. A furniture company produces two models of desks: model I

and model II. Each Model I desk requires 1 unit of metal, 4 units of
wood and 2 hours of work on a machine; while each model II requires
1 unit of metal 3 units of wood and 1 hour of work on a machine. How
many units of each model of desk can be produced if the available
resources per day are 18 units of metal, 56 units of wood and 20 hours
of work on the machine?

11. A grocery supplies three different types of Wine: Gudar, Axumite

and Crystal. A retailer wants to purchase a total of 600 bottles. The
number of Gudar bottles he wishes to purchase is equal to the sum of
the number of bottles of Axumite and Crystal. And the number of
bottles of Axumite is twice the number of bottles of Crystal. Determine
how many bottles of each type of Wine he would buy.

12. A factory produces tow alloys, A and B. Each ton of alloy A requires 4
units of metal 1 and 4 units of metal 2 Each ton of alloy B requires 7
units of metal 1 and 3 units of metal 2. How many tons of each alloy
can be produced in a day if the factory obtains and uses;

i) 60 units of metal 1 and 40 units of metal 2

ii) 44 units of metal 1 and 36 units of metal 2.
(Use inverse method)

13. A company manufactures three different types of calculators and

classifies them as small, medium, and large according to their
calculating capacity. The following table gives the production
requirements for each type of calculators.

33
Matrix algebra and its application AAUCC, 2010

Small MediumLarge
Assembly time 1 hr. 3 hrs. 4 hrs.
Electronic 5 units 7 units 8 units
components

If the company has 30 hours of labor and 90 units of electronic

components how many of each type of calculators can be produced?

14. To produce two different items three types of raw materials are
needed for each item. The number of units of raw materials needed to
produce one unit of each of the two items is given below

Type 1 Type 2 Type 3

Item A 3 1 2
Item B 2 1 1

How many units of each item can be produced if the numbers of units of
raw materials available are 56 of type 1, 22 of type 2 and 34 units of type
3.

15. The following matrix represents the technology matrix of an

economy based on two sectors, agriculture (A) and manufacturing (M).

i) Find the number of units required from Agriculture to produce an

output of 10 thousands units of agriculture and 6 thousands units of
manufacturing.

ii) Find the total output for each sector that is needed to satisfy a final
demand of 4 million units of Agriculture and 1 million units of
Manufacturing.

iii) Find the internal demand given the final demand in ii above.

16. Suppose an economy is based on two sectors agricultural and

minerals. Production of a unit of agriculture requires an input of 0.4
units from agriculture and 0.2 units form minerals; Production of 100
units of minerals requires an input of 20 units from agriculture and 10
units from minerals. Find the total output necessary to satisfy a final
consumer demand of

i) 5 millions units of agriculture and 10 thousands units of mineral

ii) 20 million units of agriculture and 5 thousands unit of mineral.

34
Matrix algebra and its application AAUCC, 2010

17. Suppose three companies: A, B and C dominate the market for a

certain product and are competing against each other for a large share
of the market. Currently company A has 2/9 of the market, company B
has 4/9of the market and Company C has 1/3 of the market. The
market survey indicates that every 6 months Company A retains ¾ of
its customer and loss 1/6 to company B and 1/12 to company C.
Company B retains ½ of its customer and loss 1/3 to company A and
1/6 to company C. Company C retains 3/8 of its customer and loss ¼
to company A and 3/8 to company B. Find the share of the market that
each company will have i) one year later ii) in the long run

18. Currently 1% of the populations in a certain city are smokers.

Based on a survey conducted each year 2 out of 100 non-smokers
become smokers; and 1 out of 10 smokers become non-smokers. How
many percent of the population will become smokers after two years?

35
Linear mathematical models AAUCC, 2010

CHAPTER TWO: LINEAR MATHEMATICAL MODELS

INTRODUCTION
The procedure of using numbers and mathematical statements to
represent underlying structures in a situation, real or hypothesized, is
termed mathematical model building. One issue of paramount
interest to management is the impact of costs and volume on profits.
If mathematical model could be established among costs, volume, and
profits, it would help decision-makers to figure out the right volume of
output with the right cost to achieve a desired profit objective.
The Break-even model is a tool widely used by management in the
analysis of cost-volume-profit relationship. Given estimates on fixed
and variable costs and on price per unit of output, one can determine
the profitability of each alternative using break-even analysis. The
main advantage of break-even analysis is that it can be extended to
show how changes in fixed cost, variable cost, commodity prices, or in
revenues, will affect profit levels and break-even points.

In this chapter we deal with the linear assumption to present a

simplified view of the real world. The discussion in section one about
linear function and its graph will help to explain a relationship among
costs volume and profit which can be expressed using a linear
mathematical model.

2.1. LINEAR FUNCTION

A linear function is a function which can be expressed in the form

f(x) = ax + b where a≠0. If a =0, the function f(x) = b is called a
constant function. The standard form of a linear function is given
by Ax + By = C where A and B are not both zero.

The graph of a linear function y=ax +b or the equation AX +By=C is a

straight line. There is one and only one straight line passing through
any two given points. Thus, to graph a linear function a minimum of
two points are required, a third point is useful for checking purpose.
While any two numbers may be used to obtain the two points needed
for drawing the straight line, one easy way to obtain the two points is
to compute the intercepts. These are the points where the line crosses
the coordinate axes. The y-intercept is the y-value where the line
intersects the y-axis. This value is determined by setting x=0 and
solving for y. The x-intercept is the x-value where the line intersects
the x-axis and can be determined by setting y=0 in the equation and
solving for x. The line passing through the origin (0, 0) has y- intercept
and x-intercept 0. For such type of line you have to select any other
value of x to determine a second point.
Linear mathematical models AAUCC, 2010

Example 1 Consider the function 6x + 5y = 15

To find x-intercept substitute y=0 and to find y-intercept substitute

x=0
6x + 5(0) = 15 6(0) + 5y = 15
6x= 15 5y =15
x= 2.5 y=3

The graph of the line passing through the two points (2.5, 0) and (0, 3)
is shown in figure 2-1. The set of points on the line represents all
ordered pairs (x, y) that are solutions for the equation 6x + 5y= 15.

Figure 2.1. The graph of the line 6x+5y=15

The graph of a constant function y = k is a horizontal line parallel to

the x-axis which crosses the y- axis at (0, k). Similarly the graph of x=
k is a vertical line which crosses x-axis at (k, 0) and parallel to y-axis.

Figure 2-2 Graph of horizontal and vertical lines

Linear mathematical models AAUCC, 2010

The slope of the line passing through two points and is

given by

Slope = where

The Greek symbol ∆, read “delta” is used to denote the difference

between the two values. The slope is defined as the change in the
value of y relative to a one unit change in the value of x.
For any straight line, the slope is constant. The slope between any
two points on the line is the same as between any other pair of points
on the line.

Figure 2-3 The slope of a straight line passing through (x 1, y1)

and (x2 ,y2)

Note that the slope of a horizontal line is 0 and vertical line has no
slope.

Different forms of equation of a line

Any linear relationship between two variables can be expressed using

different forms of equation of a line.

Two points form: The equation of the line passing through two
different points and is given by:

Example 2: A certain printing press charges Birr 1400 for printing 50

copies of a report and Birr 2800 for printing 120 copies. If the
Linear mathematical models AAUCC, 2010

relationship between number of copies printed and amount charged is

linear write the relationship between amounts charged (y) and number
of copies printed (x).

Solution: The information available about the linear relationship

between number of copies printed (x) and amount charged (y) provide
the two points to find the equation of the line that represents the
linear function. The points (50, 1400) and (120, 2800) then are
substituted into the two-point form of equation of a line yielding

Point- Slope form: In the above two points form if we rewrite the
linear equation replacing, the slope, by m, we obtain the
following point- slope form of equation of a line.

This expression is used when the two pieces of information available

about a linear relationship between two variables are the slope m of
the line and a point through which the line passes.

Example 3: A sales man earns a monthly salary plus a sales

commission of 10% of his total monthly sales. When his monthly sales
total to Birr 10000, his total salary for the month is birr 1700. Derive
the linear function describing the relationship between total salary and
amount of sales per month.

Solution: in this problem we represent the total salary by y and

amount of total monthly sales by x. Since total salary increases by
Birr 0.1 for each Birr 1 increase in sales, the slope of the line m is 10%
= 0.1. We also have the information that when monthly sales x=
10000, the total salary y = 1700. Substituting m= 0.1 and these
values of x and y in the point-slope form we obtain

y- 1700 = 0.1 (x- 10000)

y = 0.1x + 700 or f(x) = 0.1x + 700
Slope- intercept form in the above point- slope form if one of the
point given is the y intercept b then the line passing through the point
(0, b) with slope m is given by the following slope- intercept form
Linear mathematical models AAUCC, 2010

y = mx +
b

Example 4: a sales man has a fixed salary of Birr 700 a month. In

addition, he receives a sales commission that is 10% of his total
volume of monthly sales. Write the relationship between the
salesman’s total monthly salary and his sales per month.

Solution: The information given specifies that the y-intercept is Birr

700; salary is Birr 700 when the sales volume is zero. The slope is 0.1;
hence using the slope- intercept form the relationship can be given by
y= 0.1x + 700 or f(x)= 0.1x +700

A market equilibrium model. In economics you may deal with the

relationships between the selling price of a product and the quantities
of product demanded and supplied in the marketplace. The demand
function for a commodity describes the relationship between different
prices at which the commodity might be offered for sale and the
number of units that could be sold at these various prices. While the
supply function for a commodity describes the relationship between
the prices a supplier is able to secure for its good and the number of
units of product it is willing to offer for sale at those various prices.

Demand and supply functions are typically curvilinear functions;

however in some special cases we will make the assumption of linear
relationship between prices and quantity demanded and supplied.

Example 5: When the price of an item is Birr 10 per unit, retailers

buy 125 units but when the price is Birr 15 per unit they buy only 100
units. On the other hand when the selling price is Birr 8 per unit
wholesalers are willing to supply only 75 units but at a price of Birr 20
they are willing to supply 195 units. Given that the demand and supply
functions are linear write the functions and find the market equilibrium
point.

Solution: In most economic literature, price (p) is treated as the

dependent variable and shown on the y-axis while quantity (q)is
treated as the independent variable and shown on the x-axis. Thus,
based on the information given on demand and price we apply the
points (125, 10) and (100, 15) to write the demand function.

p- 10 = -1/5 (q-125)
p = -1/5q + 25 +10
p = -1/5q + 35 or f(q) = -1/5q + 35
Similarly we substitute the two points (75, 8) and (195, 20) to find the
supply function.
Linear mathematical models AAUCC, 2010

p – 8 = 3/5 (q –75)
p = 3/5q – 45 + 8
p = 3/5q – 37 or f (q) = 3/5q –37

The market equilibrium is the price which equates the quantity of a

product demanded and the quantity supplied. Graphically, this is the
point where the demand function and the supply function intersect.
Thus the equilibrium quantity (q) can be found by solving,

Quantity demanded = Quantity supplied

-1/5q + 35 = 3/5q – 37
q = 90 units

Then, market-equilibrium price p can be found by substituting q=90 in

the demand or supply function

p = -1/5(90) +35 = Birr 17 or, p = 3/5 (90) – 37 = Birr 17 per unit

2.2. COST-VOLUME- PROFIT RELATIONSHIPS

Costs are classified as fixed costs and variable costs. Fixed costs
are those costs which remain constant over a period of time regardless
of the levels or volume of output. Examples of costs in this category
are rent, insurance, property tax, depreciation etc. The variable
costs are costs that fluctuate in total amount as volume fluctuates.
Examples of variable costs are, direct labor, raw materials sales
commissions, etc. The variable cost per unit is constant. The total
variable cost would, then, be the variable cost per unit time volume.
Total cost is thus the sum of the fixed cost and the total variable cost.

If we let b to represent fixed cost per period and a variable cost per
unit per period then the total cost of producing x units of a product
C(x) is given by
Total cost = total variable cost + fixed cost

C(x) = ax +
b
Fixed costs are not constant across all levels of output but tend to
change in a step- like manner. Per unit variable costs are not also
always constant but are influenced by economies of scale. However,
for purpose of an uncomplicated introductory analysis, the
assumptions made serve a useful purpose.

Figure 2-4 Graph of Cost function C(x)= ax + b

Linear mathematical models AAUCC, 2010

C(x)

Fixed costs are constant in total, but they vary per unit of output.
They decrease per unit of output as volume increases and increase per
unit of output as volume decreases. Thus the average cost per unit;
the costs per unit of an item when x units are produced decreases as
the volume increases. This average cost per unit denoted by is
defined as total cost divided by number of units produced.

Example 1: A firm manufactures a product where variable cost per

unit is Birr 8 and fixed cost per period is Birr 1200. The cost function is
given by

C(x) = 8x + 1200.

The average cost per unit of producing 100 units is

Birr 20 per unit

But the average cost per unit of producing 150 units is

Birr 16 per unit.

This reduction in average cost per unit as the number of units

produced increased from 100 to 150 units is due to the spreading of
fixed cost over a large number of units.

The cost of producing one additional unit at any level of output is

called the marginal cost of that item. Once the firm has invested the
fixed cost the additional cost per unit of the product is C(x +1) – C(x).
The marginal cost varies with the level of out put, however, in a
linear cost function the marginal cost will be the same at all levels of
output which is the same as the variable cost per unit.
Linear mathematical models AAUCC, 2010

C(x+1) – C(x) = [(a(x +1) + b) – (ax +b)] =a

Note that a is the variable cost per unit.

Example 2. In the above example 6 find the marginal cost at a

production level of 50 and 100 units.

Solution. The marginal cost at a level of 50 units is,

C(51) – C(50) = 1608- 1600 = Birr 8 and
at a level of 100 units is C( 101)-C(100) = 2008- 2000 = Birr 8

The marginal cost at the two different levels of out put is the same Birr
8 and it is the same as the variable cost per unit. It costs an additional
Birr 8 to produce one more unit at all production level.

Revenue is amount of money collected from sales of the output.

Total revenue is the product of selling price per unit and the number of
units x sold. Assuming the revenue per unit; that is the selling price
per unit p is constant then the revenue function denoted by R(x) is
given by

R(x) =
px

Figure 2-5 Graph of Revenue function R(X) = px

R(x)

Example 3: In example 6 if price per unit of the items sold is Birr 12

then revenue function,
R(x) = 12x

Profit is generally defined as total revenue minus total cost. The profit
function then is given by

P(x) = R(x) –
Linear mathematical models AAUCC, 2010

C(x)

If P(x) is positive we say profit is made and if it is negative we say a

loss is incurred. The profit is also expressed as percentage of cost
called mark up or as percentage of revenue called mark down
respectively given by,

Markup = profit/cost Markdown= profit/revenue

Example 4: A firm manufactures and markets a product that sells

for Birr 65 per unit. Fixed costs associated with the activity that
produces the product total Birr 8000 per month. While variable cost
per unit is Birr 45. Write the profit function and find the profit if 500
units are sold.

Solution: Let x represents the volume of output

The cost function is C(x) = 45x + 8000
The revenue function is R(x) = 65x
Hence the profit function P(x) = 20x – 8000

Profit realized from sales of 500 units is

P(500) = 20(500)- 8000= Birr 2000

This profit is 6.56% (2000/30500) of the cost price and 6.15%

(2000/32500) of revenue.

In the discussion about average cost per unit we have seen that the
costs per unit of an item when x units are produced decreases as the
volume increases. This same idea is reflected on the average profit
per unit. As the volume of out put x increases the average profit per
unit increases. The average profit per unit denoted by is the total
profit divided by number of units produced and sold.

Example 5: In example 8 above the average profit per unit when 500
units are sold is

The average profit per unit when 600 units are sold is
Linear mathematical models AAUCC, 2010

Observe that when the number of units sold increased from 500 to 600
the average profit per unit also increased from Birr 4.00 to Birr 6.67,
respectively. This is due to a decrease in average cost per unit
resulting to an increase of average profit per unit

Example 6. ABC Company is interested in developing a new product

that would be priced at Birr75 and would have variable costs of Birr35
per unit. The investment would require new fixed costs of Birr 5,000
per month. ABC expects sales of 2600 units this year. The
management is also considering the purchase of a new machine at the
beginning of next year that will reduce variable costs but increase
fixed cost by Birr 2250 per month. If the company assumes sales of
2700 units next year, what should be the variable cost per unit to
maintain the current level of profit ?

Solution: First we determine the current level of profit this year at a

fixed cost per year 5000 x12= 60000 , variable cost per unit Birr 35
and 2600units of expected sales.

Total revenue Birr 195000 (75x 2600)

Total cost - 151000 (35x2600 +60000)
Profit Birr 44,000

Then we determine the required variable cost per unit due to the
purchase of the new machine next year and sales of 2700 units.

Fixed cost of the year= 12 (5000 +2250) = 87000

Total Revenue = 75x2700= 202500

Let the variable cost per unit be a then total variable cost is 2700 a
Total revenue -Total cost = Profit
202500 – (2700a + 87000) = 44000
2700a = 71500
a = Birr 26.48

The increase in the fixed cost with a higher output level reduced the
variable cost per unit from Birr 35 to Birr 26.48 to maintain the level of
profit this year. A switch to a more advanced technology or larger
plant size at higher output volumes requires higher fixed costs as a
trade –off for lower unit variable cost.

2.3. BREAK-EVEN ANALYSIS

Linear mathematical models AAUCC, 2010

Break- even analysis is a technique widely used by management in the

analysis of cost-volume- profit relationships. The break-even approach
focuses on the profitability of the business and is specifically
concerned with identifying the level of output at which the business
break even, that is neither makes a profit nor incurs a loss. This will
be the level of output where profit is zero or revenue equals cost
which is known as the break-even point (BEP). Thus the break even
output volume can be obtained by solving the equation R(x) = C(x) or
using the formula

BEP =

The break even point can also be determined from a graphical

representation of costs and revenues at various levels of output shown
on the same axis. The point at which the two lines intersect is the
BEP. The graph is known as the break-even chart and it indicates
the BEP, the profit and loss regions as shown on figure 2-6 below.

Figure 2-6. Break-even chart

In the diagram, the horizontal axis represents the volume of output

and the vertical axis the value of revenue and cost at varying volume
of output. At volume of output to the left of the break even output x 0
(x<x0), costs are greater than revenue that indicates loss. While at
levels of output to the right of the break even output x 0 (x>x0) revenue
Linear mathematical models AAUCC, 2010

is greater than costs that indicate profit. At the point of intersection

P(x0, y0) costs are exactly equal to revenue, and hence neither a profit
is made nor is a loss incurred.

Example 1: Engineering estimates indicate the variable cost of

manufacturing a new product will be Birr 50 per unit. Based on Market
research, the selling price of the product is to be Birr 120 per unit.
The fixed costs applicable to the new product are estimated to be Birr
2800 and capacity of production per period is 80 units. Perform the
break-even analysis and draw the break- even chart.

Solution: Let the volume in units be x

Cost function C(x) = 50x + 2800
Revenue function is R(x) = 120x

To determine the break-even point we need to solve R(x) = C (x)

120x = 50x + 2800

120x-50x = 2800
70x= 2800
x= 40 units

Or, using the formula units

The production of the new product is profitable since the break even
output level 40 units is less than the maximum capacity of production.
The break-even volume is 50% of capacity (40/80 = 0.5).

Figure 2-7. The break even chart

Linear mathematical models AAUCC, 2010

If 40 units of the new product are produced and sold total costs
amount to Birr 4800 (50(40) +2800) which is exactly equal to revenue
of Birr 4800 (120x40) generated by the activity at which the firm will
break-even. If less than 40 units are produced and sold, costs will be
greater than revenue and the activity will operate at a loss; if more
than 40 units are produced and sold, revenue will be greater than
costs and the activity will operate at a profit.

If the break-even volume is greater than the maximum capacity of

production, there are three ways to lower your break-even volume.

i) Different pricing policies have effect on profit. Assuming that

fixed and the variable cost per unit to remain the same, a rise
in price will increase profit, which lowers the total volume you
will require to break even. Figure 2-8 shows the effect on
break even out put from xo to xo' as price per unit increases
from Birr p to Birr p'

Figure 2-8. The effect on break- even output due to a rise in

price

ii) Reducing variable cost through reduction in direct labors,

material use and the like will result with a shift of the total
cost line and yields a lower break-even. Figure 2-9 shows the
effect on break-even output as variables cost per unit Birr a
decreases to Birr a' per unit.
Linear mathematical models AAUCC, 2010

Figure 2-9. Effect on break- even output due to a reduction in

variable cost per unit

iii) Lowering of the total fixed costs such as through the exercise
of cost controls on fixed expenses, will shift down the total
cost line. This in turn raises the profit and yields a lower
break-even output. Figure 2.10 shows the effect on the break-
even output level as the fixed cost per period decreases from
Birr b to Birr b'

Figure 2.10. Effect on break-even out due to lowering fixed

cost
Linear mathematical models AAUCC, 2010

Example 2: Consider a firm which has a fixed cost of Birr 200 and a
variable cost of Birr 10 per unit. Find the break even output level at
each of the following three selling prices.

a) Birr 12. 5 per unit b) Birr 15 per unit c) Birr 20 per unit

Solution: The total cost function is the same but each of the three
prices would yield different total revenue functions, hence the break
even output at each price is different. Using the formula,

At selling price of Birr 12.50 per unit, units

At selling price of Birr 15 per unit, units

At selling price of Birr 20 per unit, units

Notice that as price rises, the break-even level of output decreases

from 80 (at price of Birr 12.50) to 40 (at price of Birr 15) and finally to
20 (at price of Birr 20).

Example 3. In example 2 above if the expected sales at the three

alternative prices are:

Price Quantity
Birr 20 25 units
15 60
12.5 110

Which of these three prices would bring the highest profit in terms of
expected sales?

Solution. The BEP calculation doesn’t take account of the expected

number of sales. However in section 1 of this chapter we have
discussed the relationship between prices and quantity demanded. As
a result the profit depends upon the price as well as the expected
number of sales.

At a price of Birr 12.5 and expected sales of 110 units,

Profit=(12.5x 110) – (10 (110)+200)=Birr 75
Similarly, at a price of Birr 15 and expected sales of 60 units,
Profit =900-800 = Birr 100
At a price of Birr 20 and expected sales of 25 units,
Profit = 500- 450 = Birr 50

Thus, the price of Birr 15 should be selected if the objective is to

maximize profit.
Linear mathematical models AAUCC, 2010

EXERCISES

1. A firm’s production during the year 2000 was 4000 units. It has a
plan of producing 10000 units during the year 2010. Assuming
increase in production from year to year is approximately linear,
estimate the production level during the year 2004

2. Weekly sales of boots are given by q =-0.4p+ 160, where p is price

in Birr and q is number of boots sold. On the other hand the company
controls the supply according the formula, q= 0.6p -90.

i) Find the equilibrium price and quantity.

ii) Find quantity demanded when price of each boot is

a) Birr 200 b) Birr 300

iii) What happens if the price is set lower or higher than

equilibrium
price?

3. A company is planning to manufacture and market a new toaster.

After conducting extensive market surveys, the research department
provides the following estimates; a weekly demand of 200 toasters at
a price of $16 per toaster and weekly demand of 300 toasters at a
price of $14 per toaster. Assuming the relation between price and
demand is linear, find the demand equation.

4. A company receives Birr 45 for each unit of output sold. It has a

variable cost of Birr25 per item and a fixed cost of Birr 1600.

i) Find level of outputs to break-even.

ii) Determine the break- even point when

a) fixed costs increase to Birr 2400
b) price of each item is increased by Birr 61

5. Write the cost functions for each of the following.

i) Fixed cost Birr 400: 10 items cost Birr 650 to produce

ii) Variable cost per unit Birr 50, 80 items cost Birr 4500

6. A publisher is planning to produce a new text book. The fixed costs

are Birr 240 and variable costs are Birr 20 per book, the selling price
will be Birr 35 per book. Draw the break even chart indicating the
break even point, loss and profit regions.

7. ABC Company is contemplating manufacturing a product which can

be sold for Birr10 per unit on the market. There are two production
processes, between which the company has to choose one, and only
Linear mathematical models AAUCC, 2010

one. The following data on total variable cost (TVC) and total fixed
costs (TFC)have been collected for 150,000 units.

TVC TFC

Process 1 800,000 400,000

Process 2 950,000 250,000

Calculate the break-even point for each process.

8. A manufacturer has a fixed cost of $200 and a variable cost of $ 10

per unit produced. Selling price per unit is $ 30. Find

i) The marginal cost and the average cost per unit at a level of
production of a) 20 units b) 80 units and interpret the results

ii) Find the average profit per unit at a level of a) 20 units b) 80 units
Linear programming AAUCC, 2010

CHAPTER THREE: LINEAR PROGRAMMING

INTRODUCTION
Linear programming is a mathematical technique which aids managers
in making decision for the optimal allocation of scarce resources, such
as money, material, labor, machinery, space, etc. These limited
resources have to be allocated to various alternative uses to the
achievement of some objectives like maximizing profits or minimizing
costs. The objective to be optimized and all interrelating restrictions
and constraints are linear.

Section one deals with the introduction of basic concepts in linear

programming problems using an example. The two methods of
solving linear programming problems: the graphical and simplex
methods respectively, are dealt in section 2 and section 3.

3.1. BASIC CONCEPTS

As it happens, however, with every modeling effort, the effective

application of Linear Programming requires good understanding of the
underlying modeling assumptions, and a pertinent interpretation of
the obtained analytical solutions. Therefore, in this section we discuss
the details of the LP modeling and its underlying assumptions, based
on the following example.

Suppose a furniture manufacturing company produces tables and

chairs. Each table requires 8 labor-hours in the assembly department
and 2 labor- hours in the finishing department. Each chair requires 2
labor- hours in the assembly department and 1 labor- hour in the
finishing department. The company has limited labor – hours available
at each department. A maximum of 400 labor- hours are available per
day in the assembly department and a maximum of 120 labor- hours
per day in the finishing department. If the company makes a profit of
Birr 90 on each table and Birr 25 on each chair, how many tables and
chairs should be manufactured each day to realize a maximum profit?
What is the maximum profit?

Notice that this problem is an optimization problem. The objective is to

maximize the company's profit, which under the problem assumptions,
is equivalent to maximizing the company's daily profit. We need first
to summarize the relevant information in table form.

Labor- hours per

Departments unit Maximum labor-
hours available
Table Chair per day
Linear programming AAUCC, 2010

Assembly 8 2 400

Finishing 2 1 120

Profit per unit Birr 90 Birr 25

We are going to maximize the company’s profit by adjusting the levels

of the daily production for the two items; tables and chairs keeping in
mind the available 400 and 120 labor-hours in the departments.
Therefore, these daily production levels are the control/decision
factors, the values of which we are required to determine. Let us
approach the construction of the model by defining the decision
variables as:

= the number of tables to produce each day

= the number of chairs to produce each day

Each table contributes Birr 90 to profit; represents the number of

tables produced; thus Birr 90 is the total profit contribution from the
tables. Similarly Birr 25 is the total profit contribution from the
chairs. The objective of the company is to maximize the total profit
contribution realized from the tables and chairs. Hence the objective
function can be expressed as

Maximize

Furthermore, any decision regarding the daily production levels for

tables and chairs must take account of the restrictions of the time
available at each department. These restrictions are called
constraints. Hence, our next step in the problem formulation seeks
to introduce these operational constraints.

Regarding the constraint which expresses the available labor- hours in

the assembly department, only 400 labor- hours are available each
day. Each table produced requires 8 labors –hours, and each chair
requires 2 labor- hours. The total labor- hours required each day in
the assembly department is, thus . The assembly department
constraint should not exceed the 400 labor- hours is expressed by:

(Assembly department constraint)

Following the same line of reasoning, the constraint expressing the

available labor- hours in the finishing department is expressed by:

(Finishing department constraint)

Finally, to the above constraints we must add the requirement that

any value for variables must be nonnegative. That is the number of
Linear programming AAUCC, 2010

each product that can be produced can’t be a negative value. This

fact is represented by the inequalities

. and (Non- negative constraints )

Combining all the above algebraic expressions the problem is now

stated as;

Maximize

Subject to these limiting constraints:

(Assembly department constraint)
(Finishing department constraint)
(Non- negative constraints)

The model stated above is a specific model for the example of the
furniture manufacturing company. A standard form of a linear
programming maximization model can be expressed as

In a standard form of minimization linear programming model the

objective function is to be minimized and all constraints are to be
greater than or equal to (≥) form.

The standard forms of linear programming models are either

maximization problems with only less-than- or equal to constraints or
minimization problems with only greater –than- or equal to constraints.
However, most linear programming problems are composed of a
combination of constraints types.
Linear programming AAUCC, 2010

Any satisfying the constraints is called a feasible

solution. The feasible solution that provides the maximum (or the
minimum) value of the objective function is called an optimal
solution and the corresponding maximum or minimum value of z is
referred as the optimal value. The variables are called
decision variables.

There are two methods of solving linear programming problems;

Graphical and simplex method.

3.2. THE GRAPHICAL METHOD APPROACH

Graphical methods provide a simple means of solving two- variable

linear programming problems. Unfortunately, graphs are restricted to
two (or, at the very most, three) dimensions but most real- world
linear programming models involve many more variables.
Nevertheless, graphs can be used very effectively in simplified
situation like, the furniture company example, for providing a
conceptual understanding of the linear programming procedure.

(A) Preliminary consideration

This part will illustrate the graphs of objective function and each of the
constraints. In each of the graphs the variable X 1 representing the
number of tables produced each day, labels the horizontal axis, while
the variable X2, representing the number of chairs produced each day,
labels the vertical axis.

i) The non-negative constraints

The region for which both conditions and as shown in figure
3.1 is the first quadrant. This is true for all linear programming
problems.

Figure 3.1. The graph of non-negative constraints

Linear programming AAUCC, 2010

ii) Graphical representation of the objective function

The objective function may be represented for various profit levels by
assuming specific values of profit. For instance if profit = Birr 1350
the specific objective function becomes =1350 and then use
the intercepts to obtain the two points needed for drawing the line

The line AB on figure 3.2 joining the two points represents all
combinations for which the profit is Birr 1350

Figure 3.2. Graphical representation of the objective function

In a similar manner additional lines are drawn for any convenient profit
such as profit=Birr 2250 (line CD); Profit= Birr 3375 (line EF) and
profit= Birr 4500 (line GH). Due to the non-negative constraints
Linear programming AAUCC, 2010

shown in figure 3.1 above the lines are drawn in the first quadrant and
not extended across the two axes.

The various combinations that satisfy the equation of a

particular profit will be points on the line and produce the same
amount of profit. For this reason such lines are referred as iso- profit
lines. They have the same slope and run parallel to each other. The
parallel nature of the iso-profit lines and the increase in profit with the
increase in distance from the origin is of crucial importance in locating
the optimal graphically.

iii) Graphical representations of the operational constraints

Each constraint involves an inequality which, when graphed,
represents a region referred to as the area of feasibility for the
resource represented by the inequality. Each area of feasibility is
displayed graphically in figure 3.3.

Each inequality can be graphed by first graphing the associated

equality and testing for the region. For the assembly department
constraint , first graph the line using the two
points

Choose a convenient test point above or below the line. The origin (0,
0) requires the least computation. So, substituting and into
the inequality, we get that 8(0) + 2(0)  400. Hence, the graph of the
inequality is the region below the line AB. Considering the non-
negative requirements the combinations that are feasible are
represented by the points inside and on the boundary of the triangle
OAB.

Figure 3.3. Graphical representation of the constraints

i) Assembly department constraint ii) Finishing department

constraint
Linear programming AAUCC, 2010

The line represented by the straight line CD through the

points (0, 120) and (60, 0) is for the finishing department constraint
.

Substituting the origin into the inequality, we see that 2(0) + 1(0)
120. Hence the graph of the inequality together with the non
negativity requirements is the region OCD as shown on Fig.3.3 (ii).

(B) Graphing the area of feasible region.

Both the operational constraints are pictured in one graph in figure

3.4. The shaded region representing the collection of all points that
satisfy both the linear inequality constraints along with the non-
negativity requirements is termed the region of feasible solutions.
All points within the region OABC or on the boundary lines represent
the feasible solutions.

Figure 3.4
Graph of the region of feasible solution

(C) Locating the optimal solution

Once the area of feasibility has been determined the optimal point-
the point which yields the maximum profit needs to be located.
This is done by introducing the series of iso- profit lines by the method
previously explained.
Linear programming AAUCC, 2010

The region of feasible solution of the furniture company problem is

pictured again in figure 3.5. In this figure a series of iso-profit lines has
been superimposed over the region.

Figure 3.5. Iso-profit lines to locate the optimal solution

As long as a profit line passes through the area of feasible region

OABC and is farther away from the origin, it will generate a profit
higher than that which is obtainable from a profit line closer to the
origin. However for profit lines which don’t pass through the area of
feasible solution (see the line z=5400 on figure3.5), any combination
which represents a point on such a line doesn’t satisfy all the
constraints and is thus not attainable. Hence, the profit line which will
generate the maximum profit is the line which is located farthest away
from the origin such that at least one point on the line is still within the
area of feasible region OABC- that point will always be a corner point
of the region of feasible solutions.

We see in figure 3.5 that the profit line farthest from the origin which
still passes through the area of region of feasible solution OABC is the
line drawn through the point B. Hence the point B is optimal point
representing the combination (x1, x2) for which the profit is the
maximum, yielding a profit contribution of Birr 4600. The point B is the
intersection of the lines representing the assembly department and
the line representing the finishing department constraint. Solving
simultaneously the equations that these lines represent, we find the
coordinates of this point are (40, 40). Thus optimal production is 40
tables and 40 chairs each day, with a maximum profit contribution of
Birr 4600.
Linear programming AAUCC, 2010

Our analysis of the region of feasible solutions and of the slope of the
objective function of the linear programming problem leads to the
following theorem, which is of fundamental importance in linear
programming problem.

Corner-Point Theorem. In a linear programming problem, the

optimal solution, if one exists, will always include a corner
point of the region of feasible solutions.

We see, therefore that a solution of a linear programming problem

does occur at one of the finite number of corner points on the
boundary of region of feasible solution. However, in the case where
two corners have the same optimal value, the optimum occurs at
every point on the line segment joining the respective corners leading
to infinitely many optimal solutions. This case occurs when the slope
of the objective function is identical to the slope of one of the linear
constraints.

Applying this theorem the solution procedure for any linear

programming problem involving just two decision variables may be
summarized as follows:

Graphical method

The graphical method for solving linear programming

problems in two unknowns is as follows.

1. Graph the constraints and outline the boundary of feasible

solutions.

2. Determine the coordinates of all the corner points on the

boundary of region of feasible solutions either from the graph
or by solving simultaneously the equations of the lines
intersecting at the particular corner point.

3. Substitute the coordinates of the corner points into the

objective function and calculate the value of the objective
function. Then identify the corner point which gives the
optimal value. The largest value is the optimal value for a
maximization problem and the smallest value is the optimal
value for a minimization problem. The coordinates of the
corner points yielding the optimal value is the optimal
solution.

Note that optimal solutions always exist when the feasible region is
bounded, but may or may not exist when the feasible region is
unbounded. The following theorem provides some conditions that will
ensure that a linear programming problem has a solution.
Linear programming AAUCC, 2010

Existence of Solutions
Given a linear programming problem with feasible region S and
objective function :

1. If the feasible region S is bounded, then the objective function

z has both maximum and minimum value on S. That is both
maximization and minimization problems have solutions.

2. If the feasible region S is unbounded and > 0 and > 0,

then z has a minimum value over S, but no maximum value of
z over S. That is, the minimization problem has a solution
and the maximization has no solution.

3. If S is empty set (that is, there are no points that satisfy all
the constraints), then the objective function z has neither a
maximum nor a minimum value over S.

Example 1: Suppose in the furniture company problem example if

the marketing department of the company has decided that the
number of chairs produced should be at least four times the
number of tables produced find the solution satisfying this
constraint as well as the assembly and finishing departments
constraints.

The inequality 4 ≤ represents the marketing department

decision which is equivalent to 4 - ≤ 0

The complete linear programming problem is

Applying the graphical method the solution can be obtained

graphically as follows:

Step 1: The intersection of the graphs of the three inequalities

provides the region of feasible solutions, as shown below.
Linear programming AAUCC, 2010

Step 2: The corner points are: O, A, and B

Coordinates of O (0, 0); at the intersection of the lines X 1= 0 and X2 =

0

Coordinates of A (0, 120); at the intersection of the lines X 1= 0 and

.

Coordinates of B from the graph are (20, 80) which can also be
obtained by solving the system

4 - =0 to obtain (20, 80)

Step 3: The value of the objective function z at each corner point

Corner point Profit

( 0, 0) 0

( 0, 120) 3000

(20, 80) 3800 maximum

Corner point (20, 80) represents the optimal solution. This optimal
solution suggests production of 20 tables and production of 80 chairs
with expected maximum profit of Birr 3800.

Example 2: A Company own two different mines; Mine X and Mine Y

that produce an ore which, after being crushed, is graded into three
Linear programming AAUCC, 2010

classes: high, medium and low-grade. The company has contracted to

provide a smelting plant with 60 tons of high-grade, 48 tons of
medium-grade and 55 tons of low-grade ore. Mine x can produce 1 ton
per day of high grade ore, 2 tons per day of medium grade ore and 3
tons per day of low grade ore. Mine Y can produce 2 ton per day of
high grade ore, 1 ton per day of medium grade ore and 1 tons per day
of low grade ore. Determine the number of days the company should
operate each mine in order to meet the terms of the contract with the
smelting plant most economically. The cost of operation of Mine X per
day is $ 250 and Mine Y is $ 100 per day. What is the minimum cost?

Solution: First we summarize the data in a table

Production (tons/day) cost per day

High Medium Low

Mine X 1 2 3 $250
Mine Y 2 1 1 $100

Amount required 60 48 55

Let the decision variables be

x = number of days Mine X is operated

y = number of days Mine Y is operated

We formulate the linear programming problem as follows:

Minimize cost C= 250x + 100y

Subject to x + 2y ≥ 60 (requirement for High- grade)

2x + y ≥ 48 (requirement for Medium-
grade)
3x +y ≥ 55 (requirement for low- grade)
x, y ≥ 0 (non-negative constraint)

Note we have an inequality here rather than equality. This implies that
we may produce more of some grade of ore than we need. In fact we
have the general rule: given a choice between equality and an
inequality choose the inequality.

For example, if we choose an equality for the ore production

constraints we have the three equations x+2y =60, 2x+y =48 and
3x+y=55 and there are no values of x and y which satisfy all three
equations. The reason for this general rule is that choosing an
inequality rather than an equality gives us more flexibility in deciding
values for the decision variables that optimize(maximize or minimize)
the objective function..
Linear programming AAUCC, 2010

Step 1: The intersection of the graphs of the three inequalities

provides the region of feasible solutions, as shown in the figure below.

Notice that the region of feasible solution is unbounded.

Step 2: The corner points are: A, B, C, and D

Coordinates of A (0, 55); the intersection of the lines x= 0 and 3x + y=

55

Coordinates of B (7, 34); the solution of the system

2x + y = 48
3x + y = 55

Coordinates of C (12, 24); solution of the system

2x + y = 48
x +2y = 60

Coordinates of D (24, 0); the intersection of the lines y= 0 and 2x+y

=48

Step 3: The value of the objective function z at each corner point

Corner point Cost

Linear programming AAUCC, 2010

(x, y) C =250x+100y

(0,55) 5500

(7, 34) 5150 minimum

(12, 24) 5400

(24, 0) 6000

Corner point (7, 34) represents the optimal solution. This optimal
solution suggests Mine X to be operated for 7days and Mine Y to be
operated for 34 days with a minimum cost of $ 5150.

Most linear programming are composed of a combination of ‘≤’ and

‘≥’constrains types, instead of the standard form as illustrated by the
following examples.

Example 3: A company must transport items produced from its two

plants located at different places to its warehouse. At least 200 items
are needed to be transported to the warehouse. It costs Birr 100 to
transport an item from plant 1to the warehouse, while it costs Birr 60
to transport an item from plant 2 to the warehouse. Plant 1 can supply
at most 150 units, and Plant 2 can supply at most 100 items. How
should the company plan its transportation schedule to minimize cost?

Solution: Let the decision variable

x: number of items transported from plant 1to the

warehouse.
y: number of items transported from plant 2 to the
warehouse.

The linear programming problem is

Minimize cost C = 100x + 60y

Subject to x + y ≥ 200
x ≤ 150
y ≤ 100
x, y ≥ 0

Step 1: The intersection of the graphs of the three inequalities

provides the region of feasible solutions, as shown in the graph below.
Linear programming AAUCC, 2010

Step 2: The corner points are: A, B, and C.

Coordinates of A (100,100); intersection of the lines y=100 and x+ y

=200

Coordinates of B (150, 100); intersection of the lines x=150 and y

=100

Coordinates of C (150, 50); intersection of the lines x=150 and x+ y

=200

Step 3: The value of the objective function z at each corner point

Corner point Cost

(x, y) C=100x+60y

(100,100) 16000 minimum

(150,100) 21000

(150, 50) 18000

Corner point (100, 100) represents the optimal solution. This optimal
solution suggests 100 items to be transported from plant 1 and 100
Linear programming AAUCC, 2010

items from plant 2 with a minimum cost of transportation of Birr

16000.

Example 4: A farmer can use two types of fertilizer to plant wheat,

Brand A and Brand B. The amounts (in pounds) of nitrogen,
phosphoric acid, and chlorine in a bag of each brand are given in the
accompanying table. Tests indicate that the plant needs at least
1,000 pounds of phosphoric acid and at most 400 pounds of chlorine.

i) If the grower wants to maximize the amount of nitrogen added to

the grove, how many bags of each brand of fertilizer should be used?
How much nitrogen will be added?

ii) If the grower wants to minimize the amount of nitrogen added to

the grove, how many bags of each brand of fertilizer should be used? How
much nitrogen will be added?

Pounds per bag

Brand A Brand B

Nitrogen 8 3

Phosphoric 4 4
acid

Chlorine 2 1

Solution: Let the decision variables

x: number of bags of brand A fertilizer to be used

y: number of bags of brand B fertilizer to be used

The amount of nitrogen added is z= 8x + 3y in part i of the question it

is required to maximize and in part ii of the question to minimize this
amount. Hence the linear programming problems for questions i and ii
are as follows

i) Maximize N = 8x + 3y ii) Minimize N = 8x + 3y

Subject to, 4x + 4y ≥ 1000 Subject to, 4x + 4y ≥
1000
2x + y ≤ 400 2x +y ≤ 400
x, y ≥ 0 x, y ≥ 0

Since the constraints are similar we can write the linear programming
problem as
Linear programming AAUCC, 2010

Maximize and Minimize z = 8x + 3y

Subject to 4x + 4y ≥ 1000
2x + y ≤ 400
x, y ≥ 0

and use only one graph to identify the feasible region as well as the
corner points.

Step 1: The intersection of the graphs of the two inequalities

provides the region of feasible solutions, as shown in the following
graph.

Step 2: The corner points are: A, B, and C.

Coordinates of A (0, 250); intersection of the lines x= 0 and 4x +4y

=1000

Coordinates of B (0, 400); intersection of the lines x=0 and 2x + y =

400

Coordinates of C (150, 100); the solution of the system

4x + 4y = 1000
2x + y = 400

Step 3: The value of the objective function z at each corner point

Corner point Amount of Nitrogen

Linear programming AAUCC, 2010

(x, y) N= 8x + 3y

(0, 250) 750 minimum

(0, 400) 1200

(150, 100) 1500 maximum

Corner point (150, 100) is the optimal solution to part (i) of the
question. This optimal solution suggests 150 bags Brand A and 100
bags Brand B fertilizer to be added to the grove to provide the
maximum amount of 1500 pounds of nitrogen.

Corner point (0, 250) is the optimal solution to part (ii) of the question.
This solution suggests only 250 bags of Brand B to be added to the
grove to provide a minimum of 750 pounds of nitrogen.

3.3. THE SIMPLEX METHOD APPROACH

The simplex method is a mathematical search procedure for finding

the optimal solution. The algorithm starts with an initial basic feasible
solution and tests its optimality. If some optimality condition is
verified, then the algorithm terminates. Otherwise, the algorithm
identifies an adjacent basic feasible solution, with a better objective
value. The optimality of this new solution is tested again, and the
entire scheme is repeated, until an optimal basic feasible solution is
found. Every time a new basic feasible solution is identified the
objective value is improved or remains same. Since the set of basic
feasible solutions is finite, the algorithm will terminate in a finite
number of steps (iterations).

In the terminology of linear programming, a basic feasible solution

is a solution to the system of m equations and n variables that is
obtained by setting at least the n-m variables equal to 0 and solving
the m equations for the values of the remaining variables. The n-m
variables which are assigned zero values are called nonbasic
variables, while the m remaining variables are termed basic
variables or simply basis.

An Algebraic introduction to the simplex method

In this section we restrict our attention to standard maximization
problem where the problem constraints are of the ‘≤’ form with
nonnegative constants on the right. The algebraic procedure is
illustrated first by applying on the example of the furniture company
problem at the beginning of this chapter. Recall that we formulated
the linear programming problem as:
Linear programming AAUCC, 2010

Subject to (Assembly department constraint)

(Finishing department constraint)
(Non- negative constraints)

Step 1: converting inequalities to equations

The optimal solution to a linear programming problem, if one exists,
always occurs at a corner point of the region of feasible solutions.
Corner points occur where lines cross or intersect. These lines are
represented by equations rather than inequalities. Thus, the first step
in preparing the model for manipulation by the simplex algorithm is to
convert the linear inequalities into equations by introducing one new
variable for each constraint.

A non-negative quantity should be added to the left side of the

assembly department constraint to increase its value to
400. Let us represent this unknown quantity by the variable then
we write the equation as,

Remembering that the inequality at hand is the assembly department

constraints represents the unused labor- hour in the assembly
department. This unused time is called slack.

In a similar manner, we convert the finishing department constraint

inequality into an equation by adding another new variable where,
represents unused time in the finishing department and the
equation is

Variables such as and which are added to less than or equal to

inequalities in order to transform them into equalities are called slack
variables.

Thus, the equation form of the linear programming problem is,

Subject to

Excluding the objective function the problem now has two equations
with four variables ( ). Given a system of m equations with n
variables, however a unique solution may exist if at least n-m of the
variables are set equal to 0, (here, n-m = 4-2 = 2). Hence an optimal
Linear programming AAUCC, 2010

solution, if one exists, will always be found among the set of basic
feasible solutions, and it is upon these solutions that we focus our
attention.

Step 2: The initial simplex tableau

The search procedure for an optimal solution resembles very closely to
the application of elementary row operations to an augmented matrix
for solving system of linear equations. An initial matrix referred as
initial simplex tableaus is set up by copying the coefficient matrix A
and the constant column B in an orderly array, as

Where –c is the negative coefficients of the objective function z which

is obtained by rewriting the objective function

as

An obvious basic feasible solution can be obtained by choosing and

as basic variables and setting the non basic variables and equal
to 0. In fact the vertex (0, 0) is one of the corner points on the
boundary of the region of the feasible solution exhibited on figure 3.4.
The initial basic feasible solution thus is =0; =0; = 400; =
120 and the value of the objective function z = 0.

The initial simplex tableau shown in Table 3-1 is associated to the

following system of equations labeled by (1),

(1)

Table 3-1. Initial simplex tableau

Basic z b
Variable
s
0 8 2 1 0 400
0 2 1 0 1 120
Z 1 -90 -25 0 0 0

The basic variables and their values may always be read directly from
the row labels and the B-vector. Variables not labeling rows are
nonbasic variables that have zero values. The letter z is commonly
used to represent the dependent variable of the objective function and
Linear programming AAUCC, 2010

serves to label the bottom row of any simplex tableau. Although the
values on this row will be altered from one tableau to the next, the row
label z is not changed. The numbers on this row are sometimes
referred as the indicators and the row as the indicator row. The last
entry of the bottom row at the rightmost cell will always show the
value of the objective function.

The initial tableau always represent the do nothing strategy. In the

furniture company case, the initial basic feasible solution is to make
zero tables and zero chairs. Thus the assembly department has =
400 labor –hours of unused time (slack time) and finishing
department has =120 labor- hours of slack. No product is made, so
the profit z=0. In the next steps we will see how we can choose an
adjacent corner point of the region of feasible solution. Two corner
points are said to be adjacent if they have in common m-1 basic
variables.

Step 3: Moving to another basic feasible solution.

To move to an adjacent basic feasible solution we need to replace only
one of the basic variables with another variable that will provide with a
larger profit. The tableau must be manipulated so that one of the
nonbasic variables referred as incoming variable becomes a basic
variable (assumes a nonzero value) and one of the basic variables
referred as outgoing variable becomes nonbasic (assumes a zero
value).

We first decide which nonbasic variable or will become basic.

Referring to the objective function we note that if we
increase from its zero value, then each unit increase in increases
the profit by Birr 90 while each unit increase in increases the profit
only by Birr 25. Because a table provides more profit than a chair, it is
reasonable to choose to bring in all the tables we can, leaving the
number of chairs at zero. Thus we select as the incoming variable.

The column that contains the nonbasic variable that is coming to a

basic variable is known as the pivot column. Thus, the column is
the pivot column for this pivoting of the tableau shown on Table 3-2.

Next we should decide the basic variable which will become nonbasic.
Referring to equation form (1) of the problem in step 1 we should
increase by holding = 0 and without causing or to become
nonnegative.

To see how much can be increased, we rewrite the two equations

with =0 to obtain
Linear programming AAUCC, 2010

We can increase in the first equation to 50 with out causing to

become negative and, to 60 in the second equation without causing
to become negative. Thus, cannot be increased to more than 50
without causing any of the variables or become negative. The
maximum number of tables that can be made is 50. If this action is
taken all available 400 labor hours in the assembly department will be
used and will assume a zero value. Hence is the existing variable.

The row which contains the basic variable that is going out is known as
the pivot row. The number 8 at the intersection of the pivot row
and the pivot column is known as the pivot element.

Table 3-2

Basic z b
variable
s
0 8 2 1 0 400 ← pivot row
0 2 1 0 1 120
z 1 -90 -25 0 0 0
↑
pivot
column

To determine the new solution we solve the first equation in the

system of equations (1) for basic variable to obtain;

Then, we solve the second equation for the other basic variable in
terms of the nonbasic variables and

Also substitute value of in the objective function to solve z.

Linear programming AAUCC, 2010

The value of z is already expressed in terms of and .Thus, the new

equivalent system of equations (2) is

(2)

Assigning the new nonbasic variables and zero values we obtain

the new basic feasible solution

= 50; =0; = 0; = 20 with z= 4500

The new simplex tableau Table 3.3 representing the new equivalent
system of equations (2) is shown below.

Table 3-3

Basis z b
0 1 ¼ ⅛ 0 50
0 0 ½ -¼ 1 20
z 1 0 -5/2 45/4 0 4500

The new basic feasible solution suggests only 50 tables should be

made that increased the profit to Birr 4500. But is this the maximum
profit that we can achieve? Rewriting the objective function in (2) in
the form

We see that z can be increased still further if we can increase which

has a positive coefficient. Since the coefficient of is negative we
shouldn’t increase from its current value zero because to do so will
decrease the value of the objective function. Thus we select as the
incoming variable. To select the outgoing varible we need to see how
far we can increase keeping zero without making and
negative. If we rewrite the first two equations in (2) with = 0 in the
form
Linear programming AAUCC, 2010

Then we see from the first equation must not be increased to more
than 200, because if it is, will become negative and not more than
40 from the second equation, so that will not become negative.
Therefore must not be increased not more than 40 so that both
and will not be negative. Thus, the outgoing variable is . That is
will become nonbasic variable and will assume a zero value. The
column is the pivot column, the row is the pivot row and the pivot
element is ½.

Table 3-4

Basis z B
0 1 ¼ ⅛ 0 50
0 0 ½ -¼ 1 20 ← pivot
row
z 1 0 -5/2 45/4 0 4500
↑
pivot
colum
n

Now in the new solution and are nonbasic variables and assume 0
values. We solve the second equation in (2) for to obtain;

Then we solve the first equation in (2) for the other basic variable in
terms of the nonbasic variables and .

Also substitute value of in the objective function that is the third

equation in (2) to solve z

The new equivalent system of equation is

Linear programming AAUCC, 2010

(3)

Substituting and zero values in this system of equations (3) we

obtain the basic feasible solution

= 40; =40; = 0; = 0 with z= 4600

The simplex tableau Table 3-5 below represents this new basic
feasible solution

Table 3-5

Basis z B
0 0 1 -½ 2 40
0 1 0 ¼ -½ 40
z 1 0 0 10 5 4600

The profit has improved further from Birr 4500 to Birr 4600. Have we
found the production schedule that maximizes profit? To find out, we
write the objective function in (3) in the form

Note that the coefficients of both and are negative; any increase in
value of these variables will decrease the value of z. There is no other
way that we can increase value of z so the current solution is the
optimal solution. As we found the solution using graphical method 40
tables and 40 chairs should be produced to maximize profit. Since
and are both zero, there are no labor- hours (slack) left in both the
assembly and finishing departments.

The algebraic process started with the initial basic feasible solution of
no production of both items, the origin, and moved to another basic
feasible solution, improving z each time until the optimal solution is
reached. Comparing the results with the corners of the feasible region
discussed using graphical method (Figure 3.4); we see that the
algebraic process moved from one corner point of the feasible region
to the next without skipping over corner points. This process of
moving from one basic feasible solution to another is called pivot
operation or pivoting.

The simplex procedure

Linear programming AAUCC, 2010

Based on the discussion of the algebraic process we have the following

procedures for simplex method.

Choosing the incoming variable. To select the incoming variable

we consider the pivot column to be the one that has the most negative
value in the indicator row (z-row). We saw that we should bring into
the solution since a unit increase of would add Birr 90, whereas a
unit increase in would add only birr 25 to z. In the initial tableau of
table 3.1 these coefficients of 90 and 25 have become -90 and -25.

Choosing the outgoing variable. To select the outgoing variable

consider the pivot row to be the one which corresponds to the smallest
nonnegative ratio of the entries in the B-vector to the corresponding
pivot column. Note that in table 3-1 if we divide the coefficients in the
pivot column into the corresponding b- column values in the last
column, we get
-row: 400/8 = 50
-row: 120/2 = 60

These ratios, then, represent the maximum value that assumes, and
we obviously choose the minimum value so that any of the variables
or will not become negative, thus, the row is the pivot row.

In a maximizing linear programming problem when determining which

row will become the pivot row, only positive values in the pivot column
are used to determine ratios. We ignore negative ratios since a
negative ratio indicates no limiting values.

Determining the new solution. In both simplex tableau table 3-3

and table 3-5, we simply used elementary row operations associated
with matrices to transform the pivot element to 1 and all other entries
in the pivot column to 0 as follows:

1. Multiply the pivot row by the reciprocal of the pivot element

to transform the pivot element into a 1.

2. Add multiples of the new pivot row to other rows in the

tableau to transform all other nonzero elements in the pivot
column into 0’s.
In the simplex tableau Table 3.3 the new pivot row ( -row) entries are
obtained by multiplying the pivot row in table 3-2 by the reciprocal of
the pivot entry ⅛
⅛ ( -row) = ⅛ [0 8 2 1 0 400]
= [ 0 1 ¼ ⅛ 0 50]

We then transform all other new entries in the pivot column to 0. To

do this, we need to add -2 times new -row entries (see Table 3-3) to
Linear programming AAUCC, 2010

row 2, and 90 times new -row to row 3 entries in Table 3-2 to get the
completed simplex tableau shown in Table 3-3.

a) the new second row ( -row) is computed as follows:

[0 2 1 0 1 120] – 2 [ 0 1 ¼ ⅛ 0 50] = [ 0 0 ½ -¼ 1 20]

b) the new third row the indicator row(z-row) is computed as follows:

[1 -90 -25 0 0 0] + 90 [ 0 1 ¼ ⅛ 0 50] = [ 1 0 /2

-5
/4 0 4500]
45

Note that from any simplex tableau, we can read the current feasible
solution. The basic variables and their values may always be read
directly for the row labels and the B-vector. Variables not labeling
rows are nonbasic variables that have zero values.

In the third simplex tableau (Table 3-3) the values of basic variables
are = 50 and =20, the nonbasic variables that are not labeled in a
row and have 0 values are and . The value of z is 4500. This
solution is not optimal since there is a negative indicator -5/2 in the
bottom row (indicator row) which indicates that z can be made larger
by increasing .

We select the pivot element and perform the pivot operation to get the
final simplex tableau, shown in Table 3-5. We read the feasible
solution from this last simplex tableau to be

= 40; =40; = 0; = 0 with z= 4600

This is the optimal solution since the bottom row (the indicator row)
has no more negative indicators, z can not be made larger by
increasing any of the variables.

Notice the column labeled z is included in the tableau since z appears

in the objective function, however, the numbers in this column z in
Table 3-1 through Table 3-5 never changed from its original form of

The reason is that since the entries above the objective row are all 0s,
when multiplying the pivot row by any number the entry is always
zero. As a result the pivot operation results with the same entry, so we
no longer include the z-column in simplex tableaus.

The procedure illustrated above is summarized as follows to solve a

standard maximization problem using the simplex method.
Linear programming AAUCC, 2010

Simplex Method for Standard Maximization Problem

Step 1. Convert each  constraint into an equality to form a system of

equations by introducing slack variables, and rewrite the objective
function containing these slack variables.

Step 2. Write down the initial tableau.

Step 3. Select the incoming variable: Choose the negative number

with the largest magnitude in the bottom row (excluding the rightmost
entry). The column containing this number is referred as the pivot
column. (If there are two candidates, choose either one.) If all the
numbers in the bottom row are zero or positive (excluding the
rightmost entry), then you are done: the basic solution maximizes the
objective function.

Step 4. Select the outgoing variable. The pivot row is selected by

computing the ratio b/a, for each positive entry a in the pivot
column, where b is the corresponding number in the constant column
B. Of these ratios choose the smallest one. The entry at the
intersection of the pivot column and pivot row is the pivot element.

Step 5. Use elementary operations to transform the pivot entry in to

a 1 and to transform all other entries in the pivot column to 0.

Step 6. Determine whether or not the solution is an optimal solution.

Check the indicator row (z-row) for negative entries. If there are no
negative entries in this row then the solution is optimal, if not go back
to Step 3 until all indicators in the bottom row are nonnegative.

Remarks
1. It is important to realize that we have limited our discussion to a
standard maximization problem with positive constraints. The
simplex method can be modified to deal with both maximization
and minimization problems with any combination of ≤ , ≥, or =
constraints.
2. If we select a new pivot column and there are no positive entries
in this column then we are unable to select a new pivot row;
hence we stop because the problem has no solution.

3. In choosing the outgoing variable if there are two or more

candidates with smallest ratio choose either one. After Choosing
one of the tied variable(s) to leave the basis to become zero as a
nonbasic variable, the other(s) will remain basic but,
nevertheless, have its (their) current values decreased to zero.
A current value of zero in the constant column (b-column) of a
simplex tableau for a basic variable signals a condition that is
Linear programming AAUCC, 2010

known as degeneracy. This arises when three or more

constrains intersect at a single point in two dimensions and
when four or more constraints intersect at a single point in three
dimensions and so on.

4. Multiple solutions arise when a nonbasic variable has a zero

value in the last z-row. In graphical method of solving LPP we
have discussed that this condition happens when the objective
function is parallel to one of the constraints. It is possible to find
an alternative optimal solution by exchanging the nonbasic
variable that has a corresponding zero value in z-row by a basic
variable already in the solution with no change in the optimal
value of the objective function. Have a look at the following
example.

Example 5 solve the following LPP

Maximize 5 + 40
Subject to +8  24
+ 2  12
, ≥0

Solution First we introduce slack variables to transform the

inequalities into equations

Now we form the initial simplex tableau and apply pivoting operation

Initial tableau
Basis b ratio
1 8 1 0 24 24/8=3
1 2 0 1 12 12/2=6
z -5 - 0 0 0
40

Second tableau
Basis b ratio
⅛ 1 ⅛ 0 3 3/1/8=24
¾ 0 -¼ 1 6 6/3/4=8
z 0 0 5 12
0 0
From this second tableau we read the optimal solution
Linear programming AAUCC, 2010

=0, =3, =0, = 6 and z= 120

However if we look at the value in z-row corresponding to the nonbasic

variable we see that it is zero. This indicates that there is an
alternative solution to the problem. We can find the other solution by
bringing into the solution without affecting the value of z =120 as
shown on this third tableau.

Third tableau
Basis b
0 1 1/ -1/ 2
6 6
1 0 -1/ 4/ 8
3 3
z 0 0 5 0 120

From this third tableau we read the alternative optimal solution

= 8, =2, =0, = 0 and z= 120

Note that, the z-row of this tableau is the same as the second tableau.
We can thus conclude that the maximum value of z occurs at any
point on the line segment joining the points (0,3) and (8,2).

Example 6: A ready –to-wear manufacturer is about to mass –

produce its three latest designs shirts: A, B, and C. Given production
data and unit profit contribution for each design below, how many
shirts of each type of design should the company manufacture each
week in order to maximize profit?

Production Design style requirements Weekly

departmen (in minute) capacity
t ( in
A B C minute)
Cutting 6 2 4 2400
Sewing 8 10 4 3200
Finishing 12 9 3 3600

Unit profit Birr 15 Birr 6 Birr 5

contributio
n

Solution Let the decision variables be

: Number of design A shirts to be produced each week

: Number of design B shirts to be produced each week
: Number of design C shirts to be produced each week

Then the linear programming problem associated to the problem is:

Linear programming AAUCC, 2010

Maximize profit z = 15 +6 +5
Subject to 6 + 2 + 4  2400
8 + 10 + 4  3200
12 + 9 +3  3600
, , ≥0

Since there are there decision variables involved in the problem the
solution can be obtained using only the simplex method.

First we introduce slack variables to transform the inequalities to

equations

6 + 2 + 4 + = 2400
8 + 10 + 4 + = 3200
12 + 9 +3 + = 3600
z- 15 - 6 -5 =0

Now we form the initial simplex tableau and apply pivoting operation
to solve the problem.

Initial tableau
Basi b ratio
s
6 2 4 1 0 0 2400 400
8 10 4 0 1 0 3200 400
12 9 3 0 0 1 3600 300
z -15 -6 -5 0 0 0 0

Second tableau
Basi b ratio
s
0 - 5/2 5/
2 1 0 - 1/
2 600 240
0 4 2 0 1 - 2/
3 800 400
1 3/
4
1/
4 0 0 1/
12 300 120
0
z 0 21/
4 - 5/
4 0 0 5/
4 450
0

Third tableau
Basi b
s
2/
0 -1 1 5 0 - 1/5 240
4/
0 6 0 - 5 1 -4/15 320
1 1 0 1/ 0 2/ 240
- 10 15
Linear programming AAUCC, 2010

z 0 4 0 ½ 0 1 480
0

Since there are no negative indicators in the bottom row of the third
tableau, we have reached to the optimal solution.

= 240, = 0, =240, = 0, =320, = 0, z=

4800

The company can produce 240 design A shirts and 240 design B shirts
but no design C shirts, with a maximum profit of Birr 4800. This
maximum profit is reached by using the available full capacity time in
cutting and finishing department and only 2880 minutes of the 3200
minutes available in the sewing department. The fact that =320
indicates that the company has a slack of 320 minutes in the sewing
department that can be used for some other purpose.

Example 7. A wholesaler has 8000 square units of space available,

and Birr 12000 he can spend to purchase two types of containers: a
square and a round container. Each square container costs the
wholesaler Birr 20 and occupies 20 square units of floor space in the
warehouse. While each round container costs Birr 30 and occupies 10
square units space. Each type of container weighs 100 kg and the
floor of the storage room will not support more than 45000 kg.
Demand is such that no more than 350 round container can be sold.
Assuming that the wholesaler expects to make a profit of Birr 30 on
each square container and Birr 20 on each round container, how many
containers of each type should he buy and stock in order to maximize
his profit, and what is this maximum profit? .

Solution: First we summarize the problem in a table

Resource quantity per Available

unit resource
constraint quantity
s Square round
container container
cost Birr 20 Birr 30 Birr 12000
floor 20 square 10 square 8000 square
space
weight 100 kg 100 kg 45000 kg
Demand NA 1 350
profit Birr 30 Birr 20

Let the decision variables be

: Number of square container to be sold
: Number of round container to be sold.
Linear programming AAUCC, 2010

Then we have the following linear programming problem

Next, we introduce slack variables to transform the inequalities to

equations

Now we form the initial simplex tableau and apply pivoting operation
to solve the problem.

Initial tableau
b ratio
Basi
s
20 30 1 0 0 0 1200 600
0
20 10 0 1 0 0 8000 400
10 10 0 0 1 0 4500 450
0 0 0
0 1 0 0 0 1 350 -
z -30 -20 0 0 0 0 0

Second tableau
b ratio
Basi
s
0 20 1 -1 0 0 4000 200
1 1/
½ 0 20 0 0 400 800
0 50 0 -5 1 0 5000 100
0 1 0 0 0 1 350 350
z 0 -5 0 3/2 0 0 1200
0
Third tableau
b
Basi
Linear programming AAUCC, 2010

s
0 0 1 1 -2/5 0 2000
1 0 0 1/ 1/
10 - 100 0 350
0 1 0 - 1/ 1/ 0 100
10 50
0 0 0 1/
10 -1/50 1 250
z 0 0 0 1 1/10 0 1250
0

Since there are no negative indicators in the bottom row of the third
tableau, we have reached to the optimal solution.

= 350, = 100, = 2000, =0 = 0, = 250 z= 12500

Thus, the company can sell 350 square containers and 100 round
containers with a maximum profit of Birr 12500. This maximum profit
is reached by using only Birr 10000 of the Birr 12000 available, the full
capacity of floor space and the maximum load of storage. That is the
company has slack of Birr 2000 that can be used for some other
purpose. Solve this problem using graphical method and observe the
path to the optimal solution determined by the simplex method.

Remark: The problems we have seen are limited to a relatively small

constraints and variables that can be solved by hand. However real –
world applications of linear programming problems often involve many
constraints and variables and such problems are solved using
computer. The introduction to the simplex method presented here will
help you to understand and interpret the calculation performed by
computer.

EXERCISES

1. Solve the following problems, assuming that all variables are

nonnegative

i) Minimize z= 2x + 3y ii) Maximize and minimize z= 3x

+ 5y
Subject to, x + y  10 Subject to, x+ y  12
2x + y  12 2x + 4y 
36

iii) Maximize z= 5x + 10y iv) Maximize f = 2x + 4y +3z

Subject to x + y  13
x + 2y  22 Subject to, x + 3y + 4z  30
2x + y  20 x + 5y + 2z  40
x 4
Linear programming AAUCC, 2010

2. A farmer has 10 acres to plant wheat and corn. He has to plant at

least 7 acres. However, he has only Birr 1200 to spend and each acre
of wheat costs Birr 200 to plant and each acre of corn costs Birr 100 to
plant. Moreover, the farmer has to get the planting done in 12 hours
and it takes an hour to plant an acre of wheat and 2 hours to plant an
acre of corn. If the profit is Birr 500 per acre of wheat and Birr 300 per
acre of corn how many acres of each should be planted to maximize
profits?

3. A gold processor has two sources of gold ore, source A and source
B. In order to keep his plant running, at least three tons of ore must be
processed each day. Ore from source A costs $20 per ton to process,
and ore from source B costs $10 per ton to process. Costs must be
kept to less than $80 per day. Moreover, Federal Regulations require
that the amount of ore from source B cannot exceed twice the amount
of ore from source A. If ore from source A yields 2 oz. of gold per ton,
and ore from source B yields 3 oz. of gold per ton, how many tons of
ore from both sources must be processed each day to maximize the
amount of gold extracted subject to the above constraints?

4. You are the assistant manager of an appliance store. The manager

has asked you to do a cost analysis to figure out what stereo systems
the store should order. Next month you will order two types of stereo
systems, a less expensive Model A and a more expensive Model B. As
assistant manager you must figure out how much of each model to
order to minimize costs. You expect to sell at least 100 units some
Model A and some Model B. Model A leaves a $40 profit for the store.
Model B leaves a $60 dollar profit for the store. Total profits must be at
least $4800. The wholesale cost of Model A is $250 dollars. The
wholesale cost of model B is $400. As a store you buy at the wholesale
cost. How many of each stereo system the store should order to
minimize the wholesale cost?

5. A manufacturer of refrigerator must ship at least 100 refrigerators

to its two warehouses. Each warehouse holds a maximum of 100
refrigerators. Warehouse A holds 25 already, while warehouse B has
20 on hand. It costs Birr 100 to ship a refrigerator to warehouse A,
and birr 150 to warehouse B. How many refrigerators must be
shipped to the two warehouses to minimize total cost? What is the
minimum total cost?

6. Suppose a soft drink company plans to produces 3 different brands

by mixing mango juice and orange juice. To make a liter of the first
drink, which sells for Birr 1.50 profit, requires 0.3 liters of orange and
0.1 of mango; for the second, sold at a profit of Birr 2, 0.2 liters of
each; and for the third, again retailing at a profit of Birr 1.50, 0.1 liters
of orange, 0.2 of mango. It is obviously desirable to maximize the
profit- If 2500 liters of orange juice and 1800 liters of mango juice are
Linear programming AAUCC, 2010

available, how much of each type of brand can be produced to

maximize profit? How much is this maximum profit?

7. A dairy company wishes to make a new cheese from two of its

current cheeses: cheese x and chess y, the mixture is to weigh no
more than 4 pounds and is to contain at least 6 ounces of ingredients.
Each pound of cheese x contains 3 ounces of ingredients whereas
each pound of cheese y contains 1 ounce of ingredients. If each
pound of cheese x costs Birr 4 and each pound of cheese y costs Birr
1, how many pounds of each cheese should be used in the mixture in
order to meet the above requirements at a minimum cost?

8. An electronics firm produces transistors, resistor and electronic

tubes, with a profit of Birr 10, Birr 6 and Birr 4, respectively. Each
product must pass through three services. The hours needed to each
product is given below.
Transistor resistor electronic
tubes
Engineering service 1 1 1
Direct labor 10 4 5
Administrative service 2 2 6
If there are 100 hours of engineering services available, 600 hours of
direct labor, and 300 hours of administration services, how many of
each item must be produced in order to maximize profit?

9. A certain chemical industry manufactures two types of chemicals at

its two laboratories. The first laboratory can produce I unit of chemical
A and 3 units of chemical B per day; while the second laboratory
produces 2 units of chemical A and 1 unit of Chemical B per day. The
daily cost of operations for the first laboratory is $80 and is $90 for the
second laboratory. If the chemical industry received orders for at least
30 units of chemical A and 20 units of chemical B, for how many days
should each laboratory be operated so that the orders will be filled at a
minimum cost? What is the minimum cost?
Mathematics of finance AAUCC, 2010

CHAPTER FOUR: MATHEMATICS OF FINANCE

INTRODUCTION
The use of money as a means of exchange has lead to the practice of
lending and borrowing money. Lenders usually require compensation
for their service in the form of interest. The amount of such interest is
based on three factors: the amount of money borrowed, the rate of
interest at which it is borrowed and the time period for which it is
borrowed. The loan may be repaid in a single payment or a series of
payments, depending upon the type of loan. This chapter explains the
different types of interest, the basic types of loans and the loan
repayment.

4.1. SIMPLE INTEREST

Interest is the rent charged for the use of money. Simple interest is
calculated on the original principal only. The principal is the
amount of money that might be invested or loaned initially. The
amount of simple interest earned is computed using the formula

I =
PRT

Where, I: is the amount of interest earned

P: is the original principle
R: is the interest rate per year
T: is the time period in years

The time may be stated in days, months or years while the percent of
rate R is quoted on a yearly (per annum) basis, unless otherwise
specified. This often requires conversion of months or days into years
so that the time T corresponds to the interest rate R.

To convert months into years, divide the number of months by 12. But
when time is given in days there are different practices used in
converting days into years. Some use a 365 – day year known as
exact interest and others a 360- day year known as an ordinary
interest method. In much the same way the number of days may be
determined based on a 30- day month where each month is assumed
to have 30 days referred as an approximate and on a count of the
exact number of days called exact time. We will adopt the
combination of exact time and ordinary interest which is known as the
Banker’s rule, given by,

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Mathematics of finance AAUCC, 2010

Banks (as well as other financial institutions) generally use this rule to
compute their interest. To count the number of days between two
dates count the beginning date but not the ending date. In Gregorian
calendar the number of days in each month may not be 30 like our
calendar where each month has 30 days except pagume

Example 1: Find the number of days between March 28 and July 6.

Solution: Counting the beginning date March 28 but not the ending
date July 6 the number of days in each month is:

March 4
April 30
May 31
June 30
July 5
Total 100

Example 2. A loan of Birr 1000 is made at 6% interest per year.

Determine the interest on the loan
a) for 3 years b) for 4 months c) from April 13, 2005 to August
8,2005

Solution a) P = Birr 1000 b) P = Birr 1000

R = 6%= 0.06 R = 0.06
T = 3 years T = 4 months = 4 /12
years
I = 1000 X 0.06 X 3 I = 1000X 0.06 X 4/12
= Birr 180 = Birr 20

c) The number of days = 18 + 31 + 30 +31 + 7 = 117

P = Birr 1000, R = 0.06, T = 117/ 360
I = 1000 X 0.06 X 117/360
= Birr 19.50

amount due on the ending date also referred as the maturity value
is the value obtained by adding the original principal and the interest
earned. The maturity value is represented by S and is expressed by
the formula, S= P + I. Substituting I = PRT in the formula we obtain
the amount formula for simple interest

S=P+I
S = P + PRT

S = P ( 1+
RT)

Example 3. Find the maturity value of a deposit Birr 2250 invested at

3.5% per annum from Tikemt 15, 2002 to Miazia 1, 2002

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Mathematics of finance AAUCC, 2010

Solution. The exact number of days = 16+30+30+30+30+30+0=

166
P= Birr 2250; R = 3.5% = 0.035: T = 166/ 360

S= P (1 + RT)
= 2250 [1 + .035(166/360)]
= 2250 [1 + .016139]
= 2250 [1.016139]
= Birr 2286.31

Example 4. At what rate will Birr 540 earn interest of Birr 45 in 10

months?

Solution. P = Birr 540; T = 10/12; I = Birr 45; R=?

I = PRT
45 = 540 x R x 10/12
45 = 450 R
R = 0.1 = 10%

Example 5. How long will it take for Birr 550 to amount to Birr 605 at
8% simple interest rate?

Solution. Both formulas I = PRT and S= P (1 + RT) can be used to

find the required time but the formula I = PRT is easier to work with to
find the missing value.

First you need to find the amount of interest earned

I = S-P
I = 605- 550

I = Birr 55; P = Birr 550 R = 8% = 0.08; T =?

Then using, I = PRT
55 = 550 x 0.08T
55 = 44T
T = 55/44 or T = 1.25
T = 1.25X12= 15 months or 1 year and 3 months

Example 6. The maturity value of a 6- month note dated June 12 was

Birr 4500, including interest at 10%. Find the due date and the face
value of the note.

Solution. The due date is December 12. Counting the number of

days from June 12 to December 12 ;
The exact number of days = 19 + 31 + 31 + 30 + 31 + 30 + 11 =
183

S = 4500; R = 10%= 0.1 T = 183/360 P=?

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Mathematics of finance AAUCC, 2010

S = P (1 + RT )
4500 = P ( 1 + 0.1x 183/360)
4500 = P ( 1 + 0.05083)
P = 4500/ 1.05083
P = Birr 4282. 33

Installment Plan

Installment plan is an agreement between customers and suppliers

whereby customer makes a down payment and settles the remaining
amount together with interest in a series of payments usually monthly.
The typical procedure for an installment purchase is as follows:

1. The customer makes a down payment which is subtracted from

the cash price (the price of the article if bought outright) to
obtain the outstanding balance.
2. An installment charge (I) is then added to outstanding balance
where I= ob x R x T
3. The resulting sum is divided by the number of payments usually
monthly to obtain the amount of each installment payment.

Department stores, furniture stores etc offer some form of installment

plan. Finance companies and banks also offer installment loan the
only variation in the plan is that there is no down payment made (the
amount of the loan becomes the outstanding balance) and the interest
charged will be computed on the principal borrowed.

Example 7 w/o Aster bought a new color television whose cash price
is Birr 2000 by paying 25% down payment. The store arranged a 1½
year payment plan, including installment charge computed at 6%
simple interest.
a) How much is the monthly payment?
b) What will the total cost of the TV be?
c) How much extra will Aster pay for the convince of installment
buying?

Solution a) Aster’s monthly payment is computed as follows

Cash price Birr 4000

Down payment -1000 (25 % x 4000)
Outstanding balance Birr 3000
Installment charge ( I ) + 270 ( 3000 x .06 x 1.5)
Total payments Birr 3270

Amount of monthly payment = Birr 3270/ 18 = Birr 181. 67

b) Total cost of the TV called installment price is computed as

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Mathematics of finance AAUCC, 2010

Installment price =Down payment + No. of months x monthly

payment
= 1000 + (18 x 181. 67)
= Birr 4270

c) The total cost includes an extra Birr 270 interest above

the cash price; Installment price= cash price + interest

Effective rate: simple interest

When simple interest is calculated on the original balance for the

entire length of time, like in the above example 7, the interest rate is
often called a nominal interest rate. On the other hand, the annual
rate that is applied only to the balance due at the time of each
payment is called an effective interest rate. By effective interest
rate we mean the actual or true simple interest rate for one year.

The effective rate represented by ER is computed using the formula

Where R = annual simple interest rate; and n= number of payments

Example 8. Find the effective interest rate which is equivalent to a

nominal interest rate of 6%, if there are 4 monthly installments?

Solution a) n= 4; R = 6% = 0.06:

= 0.96 or ER= 9.6%

Note that the amount of simple interest required on the Birr 540
outstanding balance for 4 months is I=540x.06x4/12= Birr 10.80. On
the other hand if the outstanding balance is repaid in 4 months
without the interest then each month Birr 135 (540/4) should be paid.
Applying an effective rate of 9.6% only to the unpaid balance each
month the interest is computed as follows:

Month I= PRT
1 540x.096x1/12= 4.32
2 405x.096x1/12= 3.24
3 270x.096x3/12= 2.16
4 135x.096x1/12= 1.08
Total = Birr 10.80

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 Mathematics of finance AAUCC, 2010

Thus, we see that an effective rate of 9.6%, applied only to the unpaid
balance each month, would result in interest of Birr 10.80 over 4
months time. This is the same amount of simple interest at a 6%
nominal rate, which illustrates well how misleading advertised
installment rates could be unless disclosed to the customers.
4.2. COMPOUND INTEREST

Compound interest refers to a procedure for computing interest on the

principle and interest earned. Each time that interest is computed, the
interest earned during past period is added to previous principal to
become the principal for the next interest period. Thus, the interest
earned in prior periods earns interest in future periods. In such a case
the interest is said to be compounded.

Example 1 If w/o Almaz makes a Birr 1000 investment for 3 years at

5% simple interest the interest is,
I= PRT = 1000x.05 x3= Birr 150

W/o Almaz would earn Birr 150 on this investment, making the total
maturity value of Birr 1150 (S= 1000 + 150).

Now suppose that w/o Almaz invests the Birr 1000 only for one year at
5% interest then,

I= 1000 x .05 x 1= Birr 50

She would have Birr 1050 (1000 +50) at the end of this first year
investment. If w/o Almaz reinvest this Birr 1050 for another one year
at 5%, then she would earn interest of Birr 52.50( 1050x .05 x 1) on
her second investment, making the total amount Birr 1102.5( 1050.00
+ 52.50). If this amount is then deposited for another one year, the
interest would be Birr 55.13 and, she would have Birr 1157.63 after 3
years. In total during the 3 years period Almaz would earn an interest
of Birr 157.63.

Note the following difference in amount of interest earned at the end

of 3 years

At simple At compound
interest interest

Amount at the end of Birr 1150.00 Birr 1157.63

3 years
Less original principle -1000.00 -1000.00
Interest earned Birr 150.00 Birr 157.63

In this case the compound interest exceeds the simple interest by Birr
7.63. This difference represents the amount of interest earned by
interest added to the principal at the end of each compounding period.

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 Mathematics of finance AAUCC, 2010

The time interval between successive conversion of interest into

principals called conversion period or interest period may be any
convenient length of time. Commonly used conversion periods are:
yearly (once a year), semiannually (twice a year), quarterly (four times
in a year), or monthly (twelve times in a year). However the stated or
quoted rate is always the nominal annual (or yearly) rate. You must
adjust the interest rate and the total number of conversion periods to be
consistent with compounding periods before compound interest can be
computed. For example a 6% interest rate compounded semiannually
for five years should be adjusted to interest rate of 3% (6% / 2) per
conversion period and 10 (5x2) number of conversion periods.

Example 2. Find the compound amount and the compound interest for
Birr 1000 investment at 5% compounded quarterly for 1 year.

Solution 1 year x 4 periods per year = 4 conversion periods

5% / 4 periods per year = 1.25 % per conversion
period

First period: Principal Birr 1000.00

Interest + 12.50
(1000x .0125)
Second period
Principal Birr 1012.50
Interest + 12.66
Third period Principal Birr 1025.16
Interest + 12.81
Fourth period Principal Birr 1037.97
Interest + 12.97
Compound amount Birr 1050.94

Compound amount Birr 1050.94

Less: Original principal -1000.00
Compound interest Birr 50.94

Note Compare this Birr 1050.94 compound amount at 5%

compounded quarterly with that in example 1, in which the compound
amount after one year at 5% compounded annually was Birr 1050. The
power of compounding can have an astonishing effect on the
accumulation of wealth; money accumulates faster at compound
interest. The following table shows the results of making a one-time
investment of $10,000 for 30 years using 12% simple interest, and
12% interest compounded yearly and quarterly.

Type of interest Principal plus

interest earned

Simple Birr 46,000.00

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Mathematics of finance AAUCC, 2010

compounded annually Birr 299,599.22

compounded quarterly Birr 347,109.87

This table as well as example 1 in section 4.1 illustrated the

advantages of a compound interest investment over a simple interest
investment. The amount of compound interest earned is also greater
as the number of conversion periods per year become greater. Most
financial institutions in Ethiopia pay compound interest on savings.
Compound amount

The sum of the original principal and all interest earned is the
compound amount. The difference between the compound amount
and the original principle is the compound interest. Compound amount
can be computed using the formula

C= P( 1 + i)n

Where, C: Compound amount

P: Original principal
i: Interest rate per conversion period
n: Total number of conversion periods

When using the compound amount formula the determination of the

factor (1 + i) n is the main computational problem. The value of this
factor, called the compounding factor depends on the value of i and n.
If number of conversion periods per year is m and stated annul rate of
interest is r then,

i= r/m and n= m x number of years

Example 3. Determine i and n for

i) 6% compounded annually for 10 years
ii) 3% compounded monthly for 4. 5 years.
iii) 12% compounded quarterly for 8 years
iv) 8% compounded semiannually for 30 months

Solution: i) Compounding takes place once in a year, hence m=1

i= 6%/1= 6% = 0.06 n = 10 x1= 10

ii) Compounding takes place twelve times in a year

(every month); m=12
i= 3%/12= ¼% = 0.0025 n= 4.5 x12= 54

iii) Compounding takes place four times in a year

(every 3 months) ; m=4
i= 12%/4= 3%= 0.03 n= 8 x 4= 32

iv) Compounding takes place twice in a year

(every 6 months) ; m=2

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Mathematics of finance AAUCC, 2010

i= 8%/2 = 4%= 0.04 n= 30/12 x 2= 5

After i and n are determined we may evaluate (1 + i) n using a

calculator with yx function key or using specially prepared table which
provide values of ( 1+ i)n for selected values of i and n.

Example 4: Using the formula for compound amount, compute the

compound amount and compounding interest on Birr 1000 invested
for 3 years at 5% compounded annually.

Solution: P= 1000; i= 5%/1 = 0.05; n= 3x1= 3

C= P (1+i) n
= 1000 (1 + 0.05)3
= 1000(1.05)3
= 1000 (1.157625) using calculator
= Birr 1157.63

Or, using table 1 in the appendix , values of a compound amount,

find the column headed by 5% and go down to the row labeled 3 and
there read 1.157625 ; this is the value of (1.05)3.

C= P (1+i) n
= 1000 (1+ .05)3
=1000( 1.157625)
= Birr 1157.63

Interest = C – P
= 1157. 63- 1000
= Birr 157. 63

Logarithms can also be used to compute value of C. In this material

most often used is the electronic calculator.

Example 5. Find the compound amount and the compound interest

on Birr 10000 invested for 30 years at 12% compounded
i) semiannually ii) quarterly

Solution. i) P= 10000, i= 12%/2 = 6%= 0.06 n= 30x 2= 60

C= 10000( 1 + .06)60
= 10000(1.06)60
= 10000(32.987691)
= Birr 329,876.91

Interest= C- P
= 329876.91-10000
= Birr 319,876.91

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Mathematics of finance AAUCC, 2010

ii) Compounded quarterly means four times in a year (that is

every 3 months) hence, the number of conversion period per
year m is 4
P= 10000 i= 12%/ 4= 3%= 0.03 n= 30 x 4=
120

C = P( 1 + i)n
= 10000(1 + 0.03)120
= 10000 ( 1. 03 )120
= 10000 (34.710987)
= Birr 347,109. 87

Interest = C – P
= 347109.87 -10000
= Birr 337,109.87

Example 6: On December 1, 2007 W/o Aster opened a saving account

with a deposit of Birr 1200. She further added Birr 600 on July1, 2008
and withdraws Birr 400 on November 1, 2009. How much will be in
her account on January 1, 2010 if the deposit earns 3% compounded
monthly?

Solution: First determine the amount of the initial deposit on July 1,

2008. The period from December 1, 2007 to July 1, 2008 contains 7
months

P1= 1200; i= 3%/12 = 0.0025; n=7

C 1= 1200(1.0025)7
= 1200(1.017632)
= Birr 1221.16

Then add the deposit of Birr 600 made on July 1,2008 to the amount
Birr1221.16 to obtain the new principal and determine the amount on
November1, 2009. The period from July 1, 2008 to November 1, 2009
is 1year and 4 months

P2= 1221.16 + 600= 1821.16; i= 0.0025; n= 16

C2 = 1821.16 (1.0025)16
= 1821.16 (1.040759)
= Birr 1895.39

Finally subtract the withdrawal of Birr 400 from the amount Birr
1895.39 to obtain the new principal as of November 1, 2009 and
determine its amount on January 1, 2010. The period from November
1, 2009 to January 1, 2010 contains 2 months.

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Mathematics of finance AAUCC, 2010

P3= 1895.39- 400= 1495.39; i= 0.0025; n= 2

C= 1495.39( 1.0025)2
= 1495.39 (1.005006)
= 1502.88

Present value (at compound interest)

It often happens that someone wishes to know how much would have
to be deposited now (at present) at a given rate of interest per
conversion period in order to obtain a certain amount at a given point
in time. Under this condition the principal P that would have to be
deposited is called the present value.

Since the problem of finding the present value of a compound amount

is equivalent to finding the original principal the compound amount
formula is rearranged to solve for p.

Therefore, present value could be found by dividing the known amount

C by the appropriate value from the compound amount table in the
appendix (table 1). However present value tables (table 2) have been
developed which allow present value to be computed by
multiplication. The common procedure using the reciprocals of the
divisor to change division into multiplication is reflected in the practice
of stating the present value with a negative exponent

Thus, present value is usually computed using multiplication the

formula

P = C (1 + i)-n

Example 7 Find the present value of an investment made for 3 years

that will amount to Birr 1000 in 3 years at 6% compounded
semiannually.

Solution C= 1000 i= 6%/2= 3%= 0.03 n= 6

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Mathematics of finance AAUCC, 2010

P= C (1+i)-n
= 1000(1.03)-6
= 1000(0.83748)
= 837.48

Equivalent values: Sums of money have different values at different

points in time. Hence sums of money coming due at different points in
time are not directly comparable because of their time values.
Suppose money can be invested at 10% compounded annually. If Birr
200,000 could be invested it would worth Birr 220,000 in one year
time. Put another way, the value Birr 220,000 in one year time is
exactly the same as Birr 200,000 now (if the investment rate is 10%
compounded annually). Similarly Birr 200,000 now has the equivalent
value of Birr 200,000(1.1)2 = Birr 242,000 in two years time.

Example 8. If money is worth 12% compounded quarterly, would it be

better to discharge a debt by paying Birr 500 now or Birr 600 twenty
one months from now?

Solution. In this example we are required to compare the value of

Birr 500 now and Birr 600 in twenty one months at 12% compounded
quarterly. Hence we need to find the present value of 600 at 12%
compounded quarterly over 21 months and compare it with Birr 500.
C= 600 i= 12%/4= 3%= 0.03 n= 21/12x4= 7

P = 600(1.03)-7
= 600(0.081309)
= 487.85

The equivalent of Birr 600 in twenty months is Birr 487.85 now. Thus
it would be better to wait and pay Birr 600 twenty one months from
now.

Or, we can see that Birr 500 invested now at 12% compounded
quarterly would earn interest for 21 months and would amount to

C= 500 (1.03)7
= 500 (1.22987)
= Birr 614.94

Hence the equivalent value of Birr 500 now is Birr 614.94 twenty one
months from now. Thus it would be better to invest Birr 500 and pay
Birr 600 twenty months from now.

To compare sums of money coming due at different points in time,

first the specified point in time ( due date), and the selected focal date
should be determined and then the dated values of the sums of

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Mathematics of finance AAUCC, 2010

money can be computed using the amount formula C= P (1+i) n or the

present value formula P= C (1+i)-n .
.
a) if the focal date falls before the date due use the present value
formula
b) if the focal date falls after the date due use the amount formula

Example 9. If money is worth 12% compounded monthly how much

money will be required to pay a debt of Birr 4000 due in four years
i) now ii) six years from now

Solution i) Since the focal date ‘now’ falls before the due date four
years we use the present value formula P = C (1+i) -n.

C= 4000, i= 12%/12 =0.01 n= 4x12 = 48

P = 4000(1.01)-48
= Birr 2481.04

ii) Since the focal date ‘six years from now’ falls two years
after
the due date(four years) we use the amount formula C= P
(1+i) n

P=4000 i= 1% = 0.01 n= 12x2=24

C= 4000(1.01)24
= Birr 5078.94

Note that Birr 4000 is amount to be paid in four years including the
loan and the interest. If you pay ahead (now) the amount of interest
you pay will be less, as a result you pay Birr 2481.04 which is less than
Birr 4000. On the other hand if you pay two years later than the due
date you have to pay additional interest for two years and as a result
the amount ( Birr 5078.94) you pay will be more than Birr 4000.

Example 10. A debt can be paid Birr 2000 two years from now and
another debt of Birr 5000 due in five years. Determine the single
payment required in three years from now to settle both debts if
money is worth 6% compounded monthly?

Solution. The single payment is to be made three years from now.

This focal date is one year after the first payment due date two years
hence the amount formula C = P (1 + i) n should be used. However
the focal date for the second payment is two years before the due
date five years, which means that the present value formula P= C
(1+i)-n should be applied.

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Hence the equivalent values of the debt payments three years from
now are:

For the first debt; P= 2000, i= 0.005, n= 12

C= 2000 (1.005)12
= Birr 2123.36

For the second debt; C= 5000 i= 0.05 n= 24

P = 5000 (1.005)-24
= Birr 4435.93

The required single payment to settle both the debts three years from
now is
Birr 2123.36 + Birr 4435.93 = Birr 6559.29

Effective rate of interest: at compound interest

Effective rate of interest refers to rate of interest compounded

annually which yields the same amount of interest as a nominal rate of
interest compounded a number of times per year other than one.

Suppose a nominal rate of interest r is compounded m times per year

then, the interest rate per conversion period i= r/m, and the amount at
the end of one year is C = P (1+i)m

Let the corresponding effective rate of interest (interest rate

compounded annually) be f; then the amount at the end of one year is
C= P (1 + f)1

P (1 + f)1 = P( 1+i)m
1+f = (1+i)m
f = (1+i)m – 1

Thus, to convert a nominal rate to an equivalent effective rate we use

the formula

Effective rate = (1+i)m -1

Where: m = number of conversion periods per year

i = interest rate per period

Example 11. Find the effective rate of interest corresponding to 16%

compounded quarterly.

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Solution. m=4; i= 16%/4 = 4% = 0.04

Effective rate = (1+0.04)4 -1

= 1.169859 -1
= 16.9859%

Compounding at an annual rate of interest 16.9859% yields the same

amount of interest at 16% compounded quarterly. Hence the amount
of interest accumulated depends upon the frequency of conversion
and the nominal (stated) interest rate. To make a comparison
between interest rates when different compounding periods are used,
you should first convert the nominal (or stated) rates to their
equivalent effective rates so the effects of compounding can be clearly
seen.

Example 12. An investor has a choice to invest in interest earning

deposits. He has determined that suitable deposits are available at
bank A paying 12.25% compounded semiannually and at bank B
paying 12% compounded monthly. Which bank offers the better rate
of interest?

Solution: For bank A; m=2 i= 12.25%/2= 0.06125

Effective rate = (1 + .06125)2 -1

= (1.0625)2 –1
=0 .126252
= 12.6252%

For bank B; m= 12 i=12%/12=0.01

Effective rate = (1+ 0.01)12 -1

= (1.01)12 -1
=0 .126825
= 12.6825%

While the nominal rate offered by bank B is lower, the corresponding

effective rate of interest is slightly higher than that offered by bank A.
Thus the interest rate offered by bank B is marginally better for
depositors.

4.3. SIMPLE ORDINARY ANNUITIES

Basic Concepts

An Annuity is a series of equal payments (or receipts) that are made at

regular intervals of time. Notice that the compound interest problems
in section 4.2 basically involved making a single deposit which

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remained invested for a specified number of times. However some

people may attain their saving goals by making series of regular
deposits. Typical example of such regular saving deposits is made in a
credit and saving associations. Besides savings deposits, other
common examples are installment plan payments, loan payments,
insurance payments and interest payments on bonds.

There are several time variables that may affect an annuity that lead
to a classification of annuities. For instance, annuities that have
definite beginning dates and ending dates are classified as annuities
certain; while annuities where the beginning and/or ending dates are
uncertain are classified as contingent annuities. Examples of an
annuity certain are installment plan payments on loan, mortgage
payments, and interest payments on bonds. Life insurance premium
and pension payments are examples of contingent annuities for which
the ending dates are unknown, since both will terminate when the
person dies. If a person provides in a will that following death a
beneficiary is to receive an annuity for a fixed number of years, this is
a contingent annuity for which the beginning date is uncertain. A
person with a large estate might provide that his surviving child
receive a specified yearly income for the remainder of his life and that
the balance then be donated to some charity; this contingent annuity
would then be uncertain on both the beginning and ending dates.

Variations in the date of payment create another classification of

importance to us in dealing with annuities certain. An annuity for
which payments are made at the beginning of each period (at the
beginning of, every month or every 6 months or every year etc) is
known as an annuity due. Insurance premium which is normally paid
in advance is an example of such type of annuity. On the other hand
loan payments and interest payments on bonds that are made at the
end of each period are examples of an ordinary annuity. When
payments are made at the end of each period, the annuity is called an
ordinary annuity.

Deferring the first payments for a specified period of time provides

another type of an annuity called deferred annuity which may be
either an annuity due or an ordinary annuity depending whether the
future payments are at the beginning or at the end of each period.

A third time variable leading to classification of annuities as simple

annuities and general annuities is the length of the conversion
period relative to the payment period. An annuity is said to be a
simple annuity when the date of payment coincides with the
conversion period. An example of such a simple annuity is the
monthly payments on a loan for which the interest is compounded
monthly. However, a mortgage payment on homes compounded
semiannually but repaid by monthly payments is an example of a

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general annuity since the interest conversion period semiannually

doesn’t coincide with the monthly payment.

The purpose of the course is to give you a basic introduction to

annuities hence the study of annuities will be limited to most
commonly used simple ordinary annuities – annuities for which both
the beginning and ending dates are fixed (term of annuity is fixed)
with payments at the end of each payment period and for which the
payment period coincide with the conversion period. Once you have
the knowledge of this type of annuity you can similarly apply the
different formulae to solve problems related to the other types of
certain annuities. However, the study of contingent annuities requires
some knowledge of probability.

Amount of an annuity

The amount of an annuity is the maturity value (or future value) that
an account will have at the end of a series of equal payments. This
amount is the sum of all the series payments plus all interest earned.

Example 1. You decide to deposit Birr 1000 at the end of each year,
for four years, into a saving account that pays 5% compounded
annually. What will be the amount of this investment just after the
last deposit has been made?

Solution. In this simple ordinary annuity, the term of the annuity is

four years and the regular payment deposited at the end of each year
is Birr 1000. The conversion period is one year, since the
compounding occurs annually. Thus, the conversion period coincides
to payment period. The total value of the annuity at the end of the
fourth year is said to be the future value of the annuity.

To find the amount of the series of deposits we need to determine the

sum of the four deposits plus the interest earned during the four years.
This can be done using the compound amount formula for each
deposit as outlined in the following table.

End of End of End of End of Amount of

year 1 year 2 year 3 year 4 each deposit
C= P(1+i)n
payment Birr 1000 1000(1.05)3
1
payment Birr 1000 1000(1.05)2
2
payment Birr 1000 1000(1.05)1
3

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payment Birr 1000 1000

4

Note that the first payment is not received until the end of the first
year; hence it earns interest only for the next 3 years. Likewise, the
second payment is received at the end of year 2 and earns interest
only over the third and fourth years. The third payment received at
the end of year 3, earns interest during the fourth year. The last
payment, received at the end of the fourth year, earns no interest,
since the value of the annuity is computed immediately after this last
payment received.

Thus the amount of ordinary annuity at the end of four years

represented by starting from the account after the fourth deposit

S = 1000 + 1000(1.05)1 +1000(1.05)2 +1000(1.05)3

= 1000 + 1050 + 1102.5 + 1157.63
= Birr 4310.13

The amount or the future value of the ordinary annuity in this example
can easily be calculated using a calculator. However, for instance if
the term of the above annuity were 25 years, then the amount of the
ordinary annuity would be given by the expression:

S = 1000 + 1000(1.05)1 +1000(1.05)2 +. . . +

1000(1.05)24
Evaluating this sum on a calculator could be quite tedious! To derive a
general formula, let the size of the regular payment be represented by
R, the rate of interest per conversion period by i and the number of
conversion periods (or number of payment periods) by n.

S= R + R (1+i) + R (1+i)2 + . . . + R (1+i)n-1 E1

Multiplying each side by (1 + i) we obtain

S ( 1+i) = R(1+i) + R (1+i) 2 + R ( 1+i)3 . . . + R (1+i) n

E2

Subtracting the first equation E1 from the second equation E2 we obtain

S ( 1+i) – S = R ( 1+i)n – R
S ( 1 + i -1 ) = R[ ( 1 + i)n -1]
S (i) = R [( 1 + i)n -1]

The factor is customarily represented by the symbol s n┐i read

“s angle n at i”, sn┐i =

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Thus future value of an ordinary annuity represented by FV is given by

OR FV = PMT sn┐i

Where; PMT = Size of periodic payment

i= Interest rate per conversion period
n= Total number of payment periods

To calculate the future value FV you can either use a financial or

scientific calculator or Table 3 in the appendix that provides values of
sn┐i for various values of n and i.

Example 2. Use the formula to solve example 1 in this section 4.4.

Solution. PMT= 1000, i= 0.05 n= 4 using calculator

From table 3 with i=5% and n =4 we find that value of s 4┐5%=

4.310125
FV = 1000 s4┐5%
= 1000 ( 4.310125)
= Birr 4310.13

Example 3. Birtukan wants to save Birr 150 at the end of every

month into a saving and credit account that pays 3% compounded
monthly.
a) How much money will be in the account at the end of 10 years?
b) How much money will Birtukan deposit into the account?
c) How much interest will Birtukan get on the account?

Solution. PMT= 150 i= 3%/12= 0.0025 n= 10x12=120

a) The amount at the end of 10 years

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b) The total deposit that will be made by Birtukam into the account
= Birr 150x 120
= Birr 18000

c) The total interest Birtukan will receive

= Birr 20961.24 – 18000
= Birr 2961.24

Example 4. Ayele opened a bank account with a deposit of Birr

1200. One year later he will deposit Birr 500 at the end of every six
months for the next six years. If the account pays 6% interest
compounded semiannually, how much will he have in the account at
the end of seven years? How much interest did he earn?

Solution: To find the amount of the first deposit of Birr 1200 over
seven years we use the compound amount formula

P= Birr 1200; i= 6%/2= 0.03; n= 7x2= 14

C = 1200 (1+0.03)14
= Birr 1815.11

In addition to find the accumulated deposits of Birr 500 made at the

end of every six months over six years we use the formula for amount
of an ordinary annuity.

PMT= 500 i= 0.03 n= 12

= Brr 7096.01

Thus, Ayele will have a total amount of Birr 1815.11+ Birr 7096.01=
Birr 8911.12 in his account at the end of seven years.

The total deposit made by Ayele into the account

= 1200 + 500(12)
= 1200 + 6000= Birr 7200

The amount of interest Ayele earned

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Total amount Birr 8911.12

Total deposit made -7200. 00
Interest Birr 711 .12

Example 5. How long will it take for Birr 500 deposited at the end of
every six months to amount to Birr 8313.40 at 8% compounded
semiannually?

Solution The problem requires determining the value of n. This can

be obtained by substituting: FV= 8313.40; PMT= 500; and i=8%/2=
0.04 into the amount value of an ordinary annuity formula and solving
for n.

n = 13.0002
n = 13 (semi annuals)

It will take 6 ½ years for Birr 500 semi annual payment to grow to
Birr 8313.40. You can also use table 3 to find value of n using the
formula
FV= PMT sn┐i
8313.40 = 500 sn┐4%
sn┐4% = 16.6268

From table3 under column 4% looking for value close to 16.6268

provides n=13

Sinking Fund
A sinking fund is an interest bearing fund into which equal periodic
deposits are made to provide a desired sum of money at a specified
future date. Sinking funds usually involve large sum of money used to
finance the replacement of machinery and equipment, finance future
capital acquisition, to repay loans, etc.

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The objective of a sinking fund problem is to determine what periodic

payment, invested at a compound interest, will accumulate to a
known future amount. If the periodic deposits are made at the end of
each payment period and the interest conversion period coincides with
the payment period then we have to use formula of amount of an
ordinary annuity to solve for the required periodic payment (PMT).
Doing this, we obtain the general formula as follows

Or PMT = FV (1/sn┐i)

Table 4 in the appendix, provides values for 1/s n┐i

Example 6 A company wishes to establish a sinking fund for the

purpose of replacing a machine estimated to cost Birr 500000 four
years from now. How much will have to be deposited in the fund at
the end of every six months at 6% compounded semiannually in order
to accumulate the desired sum of money?

Solution. FV= 500000; i= 6%/2=0.03;

Or, from table 4 with i= 3% and n= 8 we find that the value of

1/s8┐3% =0.112456

PMT= FV (1/ sn┐i)

= 500000(0.112456)
= Birr 56228

When a sinking fund is in progress business often keep a schedule

known as sinking fund schedule that normally shows the payment
number( or payment date), the periodic payment, the interest the
fund has earned, the increase in the fund and the current(or
accumulated) balance in each period.

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Example 7. Construct a sinking fund schedule for example 6 above

Solution. Using the size of periodic payment Birr 56228.20 at the

end of every six months the sinking fund schedule is given on the next
page.

Sinking fund schedule

Payment periodic interest total Balance at the

number payment earned increase end of period
(I = .03) in the
fund

0 0.00

1 56228.20 0.00 56228.20 56228.20

2 56228.20 1686.85 57915.05 114143.25

3 56228.20 3424.30 59652.50 173795.75

4 56228.20 5213.87 61442.07 235237.82

5 56228.20 7057.13 63285.33 298523.15

6 56228.20 8955.69 65183.89 363707.04

7 56228.20 10911.21 67139.41 430846.45

8 56228.20 12925.39 69153.59 500000.04

Total 449825.6 50174.4 500000.0

0 4 4

Notice that the final balance in the sinking fund is Birr 0.04 more than
the Birr 500000 required, because of rounding to two decimal places.

Explanation regarding the construction of the sinking fund schedule

1. The payment number 0 may be used to introduce the beginning

balance.

2. The first deposit is made at the end of the first payment period
and the balance at the payment number 0 is empty (0.00).
Hence there is no interest earned during the first payment
period and the balance at the end of year 1 is the amount of
deposit.

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3. The second deposit is made at the end of the second payment

period. The interest earned for the period is 0.03(56228.2)= Birr
1686.85, hence the increase in the fund is Birr 56228.20 + Birr
1686.85= Birr 57915.05; and the balance at the end of the
second period is the sum of the balance at the end of the first
period and the increase in the fund during the second payment
period: Birr 57915.05 + Birr 56228.20= Birr 114143.25.

4. The Calculation for the remaining payment periods are made in

similar manner.

5. The three totals shown are useful and should be obtained for
each schedule. The total periodic payment is 8 (56228.20)= Birr
449825.60. The total interest is 50174.44 which is also equal to
500000.04 - 449825.60= 50174.44. The sum of the total
periodic payments plus all the interest earned is the final
balance which must be the same as the total increase in the
fund.

Present value of an annuity

In the construction of sinking fund schedule observe that amount of an

annuity involved starting with an empty account and making
payments into it so that the account accumulates to a certain amount
at the end of the term. In present value of an account we will see the
reverse where the account contains a certain amount of money at the
beginning of the term, and someone receives payment (or pay a loan)
from the account until it is empty. This balance which an account must
contain at the beginning of the term of an annuity is the present
value of an annuity.

Example 8. Bekele wishes to receive Birr 1000 at the end of every 6

months for 3 years while attending his college studies. His account
earns 8% compounded semiannually. How much should be in his
account when he starts his college studies?

Solution. To find the present value of the series of payments that

Abebe will receive during the 3 years; we need to determine the
present value of each Birr 1000 using the present value formula P = C(
1 + i)-n and add the results.

The interest per period is i= 8%/2=0.04. The present value of the first
payment is 1000(1.04)-1, the second payment is 1000(1.04) -2 and so on as
illustrated in the following table.

Year 0 (Now)
present Year 1 Year 2 Year3

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value
P=C(1+i)-n 1 2 3 4 5 6

payment 1 1000(1.04)-1 1000

Payment 2 1000(1.04)-2 1000

Payment 3 1000(1.04)-3 1000

payment 4 1000(1.04)-4 1000

payment 5 1000(1.04)-5 1000

payment 6 1000(1.04)-6 1000

We evaluate each of the present values and add the results to find the
total present values as follows:

P=1000(1.04)-1+1000(1.04)-2+1000(1.04)-3+1000(1.04)-
4
+1000(1.04)5+1000(1.04)-6

= 961.54 + 924.56 + 889.00 + 854.80 + 821.93 + 790.31

= Birr 5242.14

Since the payments that Bekele will receive that is Birr 1000 are equal
in size and made at the end of each period, the problem is an ordinary
annuity. The sum of the present values of the series payments is the
present value of an ordinary annuity. We will use the same method
we used in the last section to produce the formula for present value of
an ordinary annuity.

If R represents the periodic payment, i the rate of interest per period,

and n the total number of periods, then the present value of all
payments is given by

P = R(1+i)-1+ R(1+i)-2+ R(1+i)-3+ . . . + R(1+i)-n E1

Multiplying both sides of E1 by (1+i) we obtain

(1+i)P = R + R(1+i)-1+ R(1+i)-2 + . . . + R(1+i)-n-1 E2

Now subtract E1 from E2

(1+i)P –P= R - R(1+i)-n

(1+i-1) P= R [1 - (1+i)-n]
(i)P= R [1 - (1+i)-n]

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It is a common practice to represent the factor by the

symbol an┐i (read “a angle n at i”). an┐i =

The present value of an ordinary annuity is usually represented by PV

and the periodic payment R by PMT. Making these changes the
formula for evaluating the present value of an ordinary annuity is
given by:

Or, PV = PMT an┐i

Table 5 in the appendix shows the values of a n┐i evaluated for different
values of n and i.

Example 9. If you want to withdraw Birr 3000 at the end of every

three months for five years from an account paying 8% compounded
quarterly

a) How much must you have on your account before the first
withdrawal is made?
b) How much will you receive in total?

c) How much of what you will receive is interest?

Solution. a) PMT = 3000 i= 8%/4= 0.02 n= 5x4= 20

Or, from table 5 with i= 2% and n=20 we find that the value of
a20┐2% = 16.35143

PV = PMT an┐i
= 3000(16.351433)

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= Birr 49054.30

c) The total receipts will be Birr 3000 for 20 quarters

= 3000 x 20= Birr 60,000

d) Since the initial account must be Birr 49054.30, the interest

received will be Birr 60000- Birr 49054.30= Birr 10945.70

Example 10. Say that you are currently 45 years old, and you plan to
retire at age 60. When you retire, you would like to receive Birr 400 at
the end of each month for 12 years. If money is worth 6%
compounded monthly

a) How much must you have in your account when you retire?
b) What single deposit made now into an account paying 6%
compounded monthly will provide the desired amount when
you reach age 60?
c) How much you will receive in payments from the account?
d) How much of what you will receive is interest?

Solution This is a two- part problem: In (a) and in (b) to find the
single deposit made now (present value at a compound interest) that
would produce a maturity value equal to the answer obtained in (a).

a) In this part of the question we are required to find the beginning

balance (present value of an annuity) required for 12- year
annuity,

PMT= 400; i= 6%/12= 0.005; n= 12x12=144

= Birr 40989.90

The account must contain Birr 40989.90 at your retirement, in order

for you to receive Birr 400 each month for 12 years.

b) Next you need to find the single deposit to be made now

(present value at compound interest) that will grow to Birr
40989.92 when you retire in 15 years (60-45).

C= 40989.90 i= 0.005 n= 15x12= 180

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P= C (1+i)-n
= 40989.90(1.005)-180
= Birr 16702.66

c) Then you will receive 144 payments of Birr 400, for a total of Birr
57,600 (144x400) during the term of the annuity 12 years.

d) The total interest is the difference between what you will actually
receive from the annuity (Birr 57600) and the original amount
invested (Birr 16702.65)

Total received Birr 57600.00

Principal invested -16702.65
Interest Birr 40897.35

Example 11. On her retirement Almaz received a prohibit fund of

Birr 80000 from her employer. If she invested the money in a bank
that pays interest at 3% compounded monthly for how long can she
withdraw birr 600 at the end of each month ?

Solution: The problem requires determining the value of n. This can

be obtained by substituting: PV = 80000; PMT = 600; and
i=3%/12= 0.0025 in the present value of an ordinary annuity formula
and solving for n.

n = 160.447417
n = 160 months, or 13 years and 4 months.

The concept of an annuity does not provide for making payments at

unequal time intervals. Hence the appropriate answer to problems in
which n is a fractional value is a whole number. In this problem the
annuity will be in existence for 13 years and 4 months. Almaz will
receive 160 monthly payments of Birr 600 and a final payment which
will be more than Birr 600.

Example 12. You have decided to set up a college fund for your child.
You have found that Birr 3000 at the end of every three months should
be enough for the three-year college studies. You decide to open the

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account when the child is born and make quarterly deposits for 18
years. How much should you deposit at the end of every three months
to reach your goal, if the account pays 4.5% interest compounded
quarterly?

Solution. This is a two- part problem: (1) to find the beginning

balance (present value of an annuity) required for 3- year annuity, and
(2) to find what quarterly payment would produce a future value
(amount of an annuity) equal to the answer obtained in (1).

PMT= 3000 i= 4.5%/4= 0.01125 n= 3x4=12

The account of the child must contain Birr 33500 when the child starts
college studies at age of 18 years old, in order for the child to receive
Birr 3000 at the end of each there months for 3 years.

Then find the periodic payment to be made into the account that
would reach to a future amount of Birr 33500 beginning when the child
is born till the child is 18 years old.

FV = 33500; i= 0.01125; n= 18x4= 72

= Birr 304.48

You need to deposit Birr 304.48 at the end of every three months in an
account that earns 4.5% compounded quarterly in order to reach your
goal.

Amortization
Amortization refers to the repayment of interest-bearing debts by a
series payment, usually equal in size, made at equal intervals of time.
The series of equal periodic payments form an annuity where the debt
is the present (beginning) value of the annuity. Mortgage and many
consumers loan are repaid by this method.

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The basic problem in amortizing a debt is finding the size of the

periodic payment. If the payment period and the interest conversion
period coincide and payments are made at the end of each payments
period then we use the present value of an ordinary annuity formula to
solve for the required periodic payment (PMT). Doing this, we obtain
the general formula ,

Or , PMT = PV (1/an┐i)

Table 6 in the appendix, provides values for 1/a n┐i.

Example 13. A person borrows Birr 10000 at 12% compounded

semiannually, which is to be amortized over 3 years in equal
semiannual payments. What payments should the person make at the
end of each six months to pay off the loan? How much interest did the
person pay?

Solution. PV= 10000 i= 12%/2=0.06 n= 3x2= 6

= Birr 2033.63

Or, from table 6 with i= 6% and n= 6 we find that the value of

1/ a 6┐6% =0.203363

PMT= PV (1/ a6┐6%)

= 10000(0.203363)
= Birr 2033.63

Interest is the difference between the total amount paid and the loan

Total amount paid Birr 12201.78

Amount - 10000.00
Interest Birr 2201.78

The details of how the debt is repaid are shown in a table called an
amortization schedule. The schedule normally shows the payment

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number (or date), the payment amount, the interest paid, the
payment to principal and the outstanding principal balance (or unpaid
balance).

Example 14. The amortization schedule for the above Birr 8000 loan
at 12% compounded semiannually interest for 3 years, which will be
repaid in semiannual payments of Birr 2033.63 is constructed as
follows.

Payment Payment Interest Payment outstandin

number amount paid to g principal
(i=0.06) principal balance
0 10000
1 2033.63 600.00 1433.63 8566.37
2 2033.63 513.98 1519.65 7046.72
3 2033.63 422.80 1610.83 5435.89
4 2033.63 326.15 1707.48 3728.41
5 2033.63 223.70 1809.93 1918.48
6 2033.59 115.11 1918.48 0.00
Tota 12201.74 2201.74 10000
l

Since the interest is rounded to the nearest cents, the last payment is
less by Birr 0.04 than the other regular payments in order to obtain a
final outstanding principal balance of exactly zero. In actual practice,
the last payment is usually slightly different from the regular payment
and it is computed by adding the interest due in the last payment
(0.06x1918.48=115.11) to the then outstanding balance 1918.48 to
obtain, 1918.48 + 115.11= Birr 2033.59

Explanations regarding the construction of the amortization schedule

1. Payment number 0 is used to show the size of the initial loan

2. The interest due each period is found by multiplying the principal

owed by the periodic interest i. The interest in the first payment
is 0.06 x 10000= Birr 600

3. The payment to principal each period is found by subtracting the

interest paid from the payment amount during the period. The
amount available for the repayment of principal (payment to
principal) during the first payment is 2033.63-600= Birr 1433.63.

4. The outstanding principal is found by subtracting the payment to

the principal from previous outstanding balance. The outstanding
principal after the first payment made is
10000-1433.63= Birr 8566.37.

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Example 15. Helen purchased a house for Birr 80000. She paid 10%
down payment, with the balance amortized by a 20- year mortgage at
9% compounded monthly. After making regular monthly payments for
9 years she decided to sell the house. How much will be the
outstanding balance (or the unpaid balance) at the end of 9 years?

Solution. To find the outstanding principal one way is to check the

amortization schedule if available, or to proceed with the construction
of the schedule that would require a table with 9x12=108 payments
which is very tedious. Instead we can use an easier way to compute
the loan that can be paid off with the remaining 11 years (11x12=
132) monthly payments. The unpaid balance of a loan is the present
value of remaining number of payments and can be computed using
the present value of an ordinary annuity formula.

First we find the size of the monthly payment

9 %
PV=80000-10%(80000)=Birr72000; i= /12 =0.0075; n=
12x20=240

= Birr 647.78
Then find the present value of a Birr 647.78 per month for the
remaining 132 payments ( 240- 108=132) .

PMT= 647.78 i= 0.0075 n= 132

= Birr 54158.57

Thus the outstanding principal balance at the end of the 9 years

the108th payment is Birr 54158.57

EXERCISES

1. If you paid Birr 40 to a loan company for the use of Birr 1000 for 6
months, find the nominal rate of simple interest they charged you.

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2. The maturity value of a 6- month note dated June 12 was Birr 4500,
including interest at 10% simple interest rate. Find the due date and
the face value of the note.

3. Abdu bought a refrigerator from a department store whose cash

Price is Birr 3375. He agreed to pay 20% down and the outstanding
balance together with interest by making equal payments at the end
of each month for 9 months. If the simple rate of interest is 8%, find
the size of monthly payment. What is the actual rate of interest paid
by Abdu?

4. The cash price of a Sofa set is Birr 6300. The buyer intends to make
a down payment and pay the balance together with interest by making
equal payments of Birr 462 at the end of each month for one year. If
the simple nominal rate of interest is 10% what is the amount of the
down payment?

5. If I save Birr 500 in an account compounding quarterly at 6%, how

long will it take for the money to reach Birr 10,000?

6. How much should I have to save in a bank that pays 4%

compounded semiannually if I'd wanted to end up with Birr 5000 at
the end of 5 years?

7. On December 1, 2001 W/o Aster opened a saving account with a

deposit of Birr 1200. She further added Birr 600 on July1, 2002 and
withdraws Birr 400 on November 1, 2003. How much is in her account
on January 1, 2005 if the deposit earns 3% compounded monthly?

8. If I put in Birr 300 in an account compounding monthly at 6%, how

much do I have at the end of 5 years?

9. A debt can be paid Birr 2000 two years from now and another debt
of birr 5000 due in five years. Determine the single payment required
in three years from now to settle both debts if money is worth 6%
compounded monthly?

10. If I put in Birr 200 each month into an account compounding

monthly at 6%, how much do I have at the end of 5 years? How much
did I put in total? How much interest did I earn?

11. How much should I have to save in each month if I'd wanted to end
up with Birr 5000 at the end of 5 years, assuming that I compound
monthly at 4%? How much did I put in total? How much interest did I
earn?

12. If I save Birr 100 each month in an account compounding monthly

at 6%, how long will it take for the money to reach $10,000? How
much did I save in total and how much interest I earned?

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13. If you borrow money to buy a car for birr 60,000 at interest rate of
12% compounded monthly.

i) How much do you need to pay each month if the loan is for 5
years?
ii) How much did you put in total over the life of the loan?
iii) How much total interest do you pay over the life of the loan?
iv) How long will be the loan period if monthly payment is birr 500?

14. W/o Alemetu wants to withdraw Birr 500 at the end of every month
for ten years starting at the end of the first month after her
retirement. If she retires in 12 years and interest is 6% compounded
monthly, how much must she deposit at the end of every month for
the next 12 years?

15. Ato Gutema borrowed Birr 5000 at 13% compounded semi

annually. He repaid Birr 2000 after two years and Birr 2500 after
three years. How much he will owe after 5 years?

16. Jemal invested 10,000 in an income fund at 6% compounded semi

annually for twenty years. After 20 years he is to receive Birr 2000 at
the end of every six months. For how long will he receive this amount
until the fund is exhausted?

17. Is it advisable to buy an automobile for $4500 cash or to pay down

payment of $ 600 and $500 each quarter for 2 years, if money is worth
8% quarterly?

18. Gelila opened an account with Birr 1000 and one year later
decided to deposit Birr 100 each month for the next 6 years. If the
account pays 3% interest compounded monthly, how much will she
have in the account at the end of 7 years? How much interest did she
earn?

19. You have decided to set up a college fund for your kid. You decide
to open an account when Mamush is born by making monthly deposits
every month for 18 years. You assume that Birr 50,000 should be
enough to get Mamush most of the way through college. What
monthly deposit would reach your goal, if the account pays 3.75%
interest compounded monthly? How much money did you deposit into
the account? How much interest did the account earn?

20. You want to buy a house. The house will cost Birr 120,000. You put
5% down and then plan to pay off the house for the next 30 years with
monthly payments. What payments should you make to pay off the
loan if the interest rate is 7.5% compounded monthly? How much
interest did you pay?

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21 After you retire, you would like to receive quarterly payments of

Birr 5,000 for the next 10 years. The account earns 8% compounded
quarterly. What amount do you use to start the account?

22. Say that you are currently 45 years old, and you plan to retire at
age 60. When you retire, you would like to have the retirement plan
that was discussed in the previous exercise (receiving quarterly
payments of Birr 5,000 for 10 years). If you won a lottery how much
money should you deposit into an account paying 8% compounded
quarterly so that at age 60 you can reach this goal?

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CHAPTER FIVE: DIFFERENTIAL CALCULUS

INTRODUCTION
This and the next two chapters, deal with concepts and applications on
elementary calculus. Calculus is a branch of mathematics that studies
continuously changing quantities. It is concerned with a dynamic
situation on how a change in one variable affects another variable. The
English physicist Isaac Newton and the German mathematician G. W.
Leibniz working independently, developed the calculus during the 17th
century. Calculus then was considered to be essential only in physical
sciences, but now people in many other disciplines are finding it a
useful tool.
Calculus has two basic tools: differentiation and integration and they
are inverse operations of each others. The first section of this chapter
deals with an introduction to the concept of a limit. The idea of limits
is basic to understand the concepts of continuity and derivative. After
the discussion on concepts of continuity, derivative and the
fundamental rules of computing derivatives we will see the application
of derivative in finding slope of a tangent line and marginal analysis.

5.1 . CONCEPTS OF LIMITS

Limit is basically concerned with a statement about what happens to

the value of the variable f(x) as the value of the variable x approaches
a specific value. For example consider the function given by f(x) =
. The value of the function at x=1 is not defined but let us see
what happens to the value of f (x) as the value of x gets closer and
closer to one. In the following table we have values of x to the left of
one ( x<1) , and values to the right of one ( x>1) with the
corresponding values of f(x)

X 0. 0.9 0.999 0.999999 1 ←1.00000 1.0000 1.00 1.

9 9 9 → 1 1 1 1
f(x)=
1. 1.9 1.999 1.999999 L ←2.00000 2.0000 2.00 2.
9 9 9 → 1 1 1 1

Observe that as x gets closer and closer to one, from both left and right
side, the value of f(x) approaches L. Clearly from given values of f(x) in
the table the value of L is 2; and we say the limit of f(x) as x approaches
1 is 2 even though f(x) is not defined at x=1. With this discussion in

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mind we have the following informal definition of limit * that is

appropriate for this course.

Definition: Let f(x) be a function and a be a real number,

the limit of f(x) as x approaches a is L, symbolized

if and only if f(x) get closer and closer to the unique real
number L as x gets closer and closer to a from both left
and right side.

Note that according to the definition for the limit to exist, both the left
and right limits must exist, be equal and the limit L must be a real
number. The left hand limit symbolized, is computed for only
values of x less than and close to a but not equal to a. Similarly the
right hand limit is computed only for values of x greater than and close
to a symbolized . In the above example both limit from left

and the limit from the right are equal hence,

. This technique of examining the limits from both sides is in

particular important when it is required to show that a limit does not
exist.

The other important point to note is the difference between the

concept of a function at x=a (f(a))and the concept of limit of the
function as x approaches a, . The function may not be defined
at x= a and the limit may or may not exist. In the above example we
have seen that the function is not defined at x= 1 but the limit is 2.
Similarly, the function may be defined and the limit may or may not
exist.

Let us consider further examples to illustrate the differences of the

concepts.
Example 1 Consider the limit of the function f(x)= as x
approaches 1. In this case f(x) is not defined at x=1 and the limit also
doesn’t exist.

*
The formal definition of limit is: if for every number ε >0 there is a number δ >0 such
that if |x-a| <δ, then |f(x)-L| < ε. The Greek letters ε ( epsilon) represents how close we wish f(x) to be to
L and δ (delta) represents how close x must be to a to ensure the distance between f(x) and L is less than ε.
This formal definition is used to prove many useful properties of limits.

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X 0.9 0.99 0.999 0.999999 → 1 ←1.000001 1.000 1.001 1.1

9 1 1

f(x) = - -200 - -2000000→- ∞ + ∞ 20000 2000 20

20 20000 ←2000000

*
and are not equal hence the limit doesn’t
exist.

Example 2. Consider the limit of the function f(x) = x + 6 as x

approaches 1. In this case the function is defined at x=1 and the limit
also exists, in fact f(1)=

X 0.9 0.99 0.99 0.999999→ 1 ←1.00001 1.0001 1.001 1.1

f(x)=
x+6 6.9 6.99 6.99 6.999999→ 7 ←7.00001 7.0001 7.001 7.1

The limit exists and

Example 3 Consider the limit of the following function, f(x) as x
approaches 1

In this case f(x) is defined at x=1 (f (1)= 3) but the limit doesn’t exist.

X 0. 0.99 0.9999 0.999999→ 1 ←1.000001 1.0000 1.00 1.

9 1 1 1
f(x) 2. 2.98 2.9998 2. 999998→ 3 ? 5←5.00000 5.0000 5.00 5.
8 1 1 1 1

= and =

The limits from the left and limit from the right are not equal, hence
the limit doesn’t exist.

Properties of limits

The example of the use of the table to evaluate limit can sometimes
be cumbersome processes. Graphs can also be used to evaluate limits
however; properties of limits are most useful in evaluation of limits.

*
The symbol ∞ represents infinity which is not a number, rather it means the value of f(x) gets larger and
larger without bound as x approaches a( for positive infinity, +∞). Similarly; the value of f(x) gets smaller
and smaller without bound as x approaches a, (for negative infinity, -∞)

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The properties listed below are theorems that can be proved using the
formal definition of limits that are not appropriate for this course. The
course is designed to offer an introduction to calculus and its
application in business and economics.

Limit theorems

For any real number a , assuming f(x) and g(x) exist :

1. if k is any real number , k=k
2. kf(x) = k f(x), for any real number k
3. [f(x) + g(x)] = f(x) + g(x)
4. [f(x) g(x)] = f(x) g(x)
5. [f(x)]n = [ f(x)]n
6. let f(x)= m and g(x)= n ,

i) if n ≠ 0,

ii) if n=0 and m ≠ 0, doesn’t exist

iii) if n =0 and m =0 , f(x) and g(x) have a common
factor and the limit can be evaluated after
factorization or after reducing the expression
using other algebraic manipulations.

For any polynomial function* f, f(x) = f(a).

Example 4. 2x3 + x2-5 = 2 x3 + x2 - 5

= 2(1)3 + 12 -5
= -2

Example 5 (x2 -5x) ( 8 + 3x4) = (x2 -5x) ( 8 + 3x4)

=[ x2 -5 x] [ 8+ 3x4]

= [(-3)2 – 5 (-3)] [8 + 3(-3)4]

= (24) ( 251)
= 6024

*
A polynomial function is a function expressed in the form P(x) = an xn + an-1 xn-1 +. . . + a1 x +a0, where
the coefficients a0, a1, . . . an are real numbers and n is a non negative integer.

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Example 6 Let find

Solution The value of f(x) for values of x  1 is evaluated by

substituting in the expression 2-x and for values x>1 in the expression
x2. Hence to evaluate we have to evaluate the limit from left
and limit from the right
f(x) = 2-x = 2-1=1, and f(x)= x2 =12 =1,
Both the limits from the left and right are equal, hence f(x) = 1

Example 7. , evaluate

Solution f(x) = 2(3) + 1=7 and = 32-

1=8
The limit from the left is not equal to limit from the right, hence
doesn’t exist.
Example 8

Solution To evaluate the limit first check x-3= 2-3 ≠ 0, hence,

Example 9

Solution x2+1= 5 and x-2 =0, hence the limit doesn’t exist

Example 10

Solution x-2 =0 and x2-4=0, hence the limit can be evaluated

after factorization of the numerator

= 2+2
=4

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Example 11

Solution and x = 0 hence the limit can be

evaluated by rationalizing the numerator

Example 12

Solution , and x= 0, hence the limit can be

evaluated by simplifying the numerator as follows,

Continuity

In the study of calculus continuous functions are important in many

applications. A continuous function is one whose graph has no hole,

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gaps, or jumps. Conditions on f under which the graph of f will not

have a hole or jump at x=a are stated below.

Definition: A function f(x) is continuous at x=a if and

only if the following three conditions are satisfied.

1) f(a) is defined
2) f(x) exists
3) f(x) = f(a)

Note that a continuous function presupposes that a is in the domain of

f, which is not necessary when discussing limits in general. If all the
conditions above hold at every point in the domain then f is said to be
a continuous function. On the other hand if any one of the
requirements specified in the definition is not satisfied at a point a he
function f is said to be discontinuous at x=a.

Example 1 Consider the function f(x) =

If we check the three conditions in the definition of a continuous

function, f is not defined at x=1. Thus the function is discontinuous
at x=1 for condition 1of the definition is not satisfied at this point.
This discontinuity is shown by the hole in the graph of f(x) in diagram
5.1. Note that the limit as x approaches 1 does exist and also the
function is continuous at all other points in the domain.

Figure 5-1. Discontinuous function at x=1

Example 2 Consider the piecewise defined function,

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The limit of f(x) doesn’t exist at x=2. Thus, condition 2 of the

definition is not satisfied and f is discontinuous at x=2, though f is
defined at x= 2 (f(2)=6). The gap on the graph of f at x=2 on figure 5-
2 shows the discontinuity of the function at the point. This
discontinuity is often called jump discontinuity.

Figure 5-2. Jump discontinuity at x=2

Example 3. Consider the function,

All the three requirements of continuous function are satisfied for all
real numbers, hence the function is continuous everywhere. The graph
of this continuous function f (x) in figure 5-3) below has neither a hole
nor a gap.

Figure 5-3. A continuous function

For the purpose of further discussions the following properties of

continuity of functions are provided without justification.

1. All polynomial functions are continuous.

2. If f(x) and g(x) are continuous then,
i) f(x) + g(x) is continuous

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ii) f(x) g(x) is continuous

iii) f(x)/g(x) is continuous, if g(x) 0

Example 4. Discuss the continuity of the functions

Solution. i) f(x) is continuous everywhere because it is a polynomial

Function.

ii) g(x) is continuous everywhere because it is a ratio of polynomial

functions and the denominator is never zero.

iii) h(x) is a ratio of two polynomial function but the

denominator is zero at x= 2,hence it is discontinuous at x = 2.

5.2. TANGENT LINES AND INSTANTENOUS RATE OF CHANGES

Most quantities in the real world are in state of continuous change.

Change in one quantity affects another quantity. For instance change
in production level affects the production cost, the velocity of a car
changes with time, change on price of an item affects the number of
items bought by consumers, and so on. The differential calculus
provides the basic tool for measuring the rate at which one quantity
changes with respect to another quantity. In this section we shall
discuss this concept of rate of change by first discussing the
connections of slope of a tangent line and instantaneous rate of
change.

Slope of a tangent line

Consider a line that passes through two points on a graph of f(x) = y

called the secant line. Figure 5-4 shows the coordinates of the two
points P and Q respectively given by (x 0, f(x0)) and ((x, f(x)). The slope
of the secant line passing through these points is given by

Figure 5-4. Secant line passing through the points P and Q on

the curve y= f(x).

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Let us consider the different dotted secant lines on figure 5-5 as value
of x gets closer and closer to x0.

Figure 5-5. The dotted secant lines approach to the tangent

line through P

As x gets closer to x0, it appears that the secant lines approach to a

line that touches the graph only at the point P (x 0, f(x0)) called
tangent line. Thus the slope of this tangent line is the limit of the of
the slope of the secant line when x approaches x 0 given by

Sometimes it is more convenient to compute the limit given above

using the following equivalent expression which is obtained by letting
x = x-x0, to get x = x0 + x

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Definition: Given the graph of y= f(x) , then the

tangent line at (x0, f(x0) is the line that passes through
this point with slope

if this limit exists we say the graph of f has a tangent line

at (x0, f(x0)) and the slope of the tangent line is also
referred as the slope of the graph at (x0, f(x0)).

The equation of the tangent line passing through(x 0, f(x0)) with slope m
can be determined using the slope-point form of equation of a line in
chapter 2 given by,

y - f(x0) = m (x-x0 )

Example 1. Given the function f(x)= x2, show that there is a line
tangent to the graph of f at the point (2, f(2)) and find the equation of
the line.

Solution. The slope of the tangent line exists,

Figure 5-6. Tangent line at (2,4)

The equation of the tangent line then is given by,

y – 4 = 4 (x-2)
y = 4x -4
You may think that every point on a graph has a tangent line,
unfortunately that is not the case. Let us consider the following
example.

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Example 2. Given the function f (x)=|x|* show that there is no a

tangent line to the graph of f at (0, 0)

Solution. The slope of the tangent line if it exists is ,

Figure 5-7

But this limit doesn’t exist since the left hand limit and the right hand
limit are not equal

Hence the graph of f doesn’t have a tangent line at (0, 0). Observe
that the graph of the function on figure 5-7 has a sharp corner at (0,
0). It is generally true that if the graph of a function has a sharp
corner point at (x0, f(x0)), then there is no tangent line at that point.

Instantaneous rate of change

In chapter 2 we have seen that the slope of a linear function is

constant; each one unit change in x, no matter what the value of x,
has the same effect on the value of y. However this is not true for
nonlinear functions. It is clear from the definition of the slope of the
tangent line given above the slope of the graph of a nonlinear function
change from one value of x to another value. These changes in slope
can be described by average rate of change defined as the change
in f(x) represented by y divided by the change in x represented by
x.

The average rate of change of a function f over the interval [x 1, x2]** is

given by,

*
The absolute value of x denoted by |x|= x if x0 and |x|= -x if x< 0
**
The closed interval [x1 x2]= {x : xεR and x1  x  x2 }

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The ratio is also referred as the difference quotient of f

over the interval [x1, x2].

Example 3. The cost (in Birr) of producing x units of a certain item is

given by the formula

C(x) = 400x - 0.1x2 , for 0 x  1000

The cost of producing 60 units is C(60) = Birr 23640 and

The cost of producing 50 units is C(50) = Birr 19750
The average rate of change in cost C over the interval [50, 60] is

= Birr 389

Thus, the cost of production would increase at an average rate of Birr

389 per unit as production increases from 50 units to 60 units. For
some additional units of production level above 50 the cost can
increase at a rate greater than Birr 389 per unit and for some other
additional unit above 50, it can increase at a rate less than Birr 389
but the average rate of increase in total cost is Birr 389 per unit as the
number of units of product manufactured increased from 50 to 60.

In many decision situations besides the information on average cost

we need another concept, called the instantaneous rate of change.
In the above example 3 the manufacturer might want to know the rate
of change at a production level of exactly 50 units rather than over an
interval. The instantaneous rate of change of a function provides the
rate of change at a point.

To find the instantaneous rate of change at x= 50, we compute the

average rate of change over small interval [50, 50+ x]*. The general
expression for average rate of changes in total production C over the
interval can be obtained using the difference quotient.

*
In the real-world problems the cost function is defined only for non negative integers. However to find
the instantaneous rate of change of C(x) at a point x=50, we must assume that C(x) is defined for all real
numbers in the given interval.

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Now let us see the average rate of change of C over the interval
[50, 50+ x] for x = 0.1, 0.01, 0.001, and 0.0001 to estimate the
instantaneous rate of change of cost that results from an increase in
production level above 50 units.

x 390-0.1 x
0.1 389.99
0.01 389.999
0.001 389.9999
0.0001 389.99999

Observe that the smaller x gets the closer the average rate of change
gets to 390. This is the limit of the average rate of change as x
approaches to 0 and using the notation of limit it is written as,

= Birr 390

Thus the instantaneous rate of change at x= 50 is Birr 390. That is,

when the level of production is exactly 50 units, the total cost of
production is increasing at the rate of Birr 390 per unit. In economics
this rate of change is referred as marginal that will be discussed in
the next section 5.4.

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The discussion in example 3 illustrates that taking the limit of the

average rate at a given point gives the instantaneous rate at that
point.

The instantaneous rate of change of f at any

point x0 is the limit of the average change of f
over the interval [x0, x0+ x] as x approaches 0.

Note that the average rate of change is defined over an interval and
the instantaneous rate of change over a point x =x 0. From the
discussion of concepts of slope of a tangent line and the instantaneous
rate of change also notice that the slope of the secant line at (x 0, f(x0))
and (x 0+ x, f(x0 + x)) is the same as the average rate of
change over the interval [x0, x0+ x] or the difference quotient.
Similarly the limit that defines the slope of the tangent line at the
point (x0, f(x0)) is the same as the instantaneous rate of change of f at
the point x =x0.

5.3. THE DERIVATIVE

In the last section 5.3 we defined the slope of a tangent line to the
graph of a function at a point (xo, f (xo)) by the special limit

Provided that the limit exists, this special limit is also used to define
the instantaneous rate of change. Because of its importance to
calculus and its various possible interpretations this special limit is
expressed as a function and is given the name derivative defined as
follows.

Definition

The derivative of a function denoted by (x) is given

by,

If the limit exists then we say (x) exists or f is a

differentiable function.

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Example 1. Find the derivative of f(x)= x2

Solution According to the definition to find the derivative we evaluate
limit of the difference quotient as ∆x→0

First we simplify the difference quotient,

then we evaluate the limit,

Example 2 Find the derivative of f(x) =

Solution first we simplify the difference quotient

then we evaluate the limit,

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The process of finding the derivative of a function is called

differentiation. The typical derivative notation is the prime notation
(x). However, there are other common notations that are equivalent
and used to represent derivative.

We use the following notations to evaluate the derivative at x=a

The examples in the following table illustrate the common ways of

expressing derivatives

Function Derivative of a function Derivative at a

point

f (x)= x2 f ' (x) = 2x f ' (3) = 6

or

y = x2

For a derivative to exist at a specified value of x =a,

must exist. The limit may exist for some values of x of a function and
fail to exist for other. If the limit doesn’t exist at x= a , we say that the
function is nondifferentiable at a, or (a) doesn’t exist.

It is impossible to describe all the situations where a function is

nondifferentiable at a point a. However the common situations where
(a) fail to exist are when the function is not continuous at x = a, and
when the graph of f has a sharp corner at x= a.

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Figure 5.8. Graphs of nondifferentiable functions

i) f is not continuous at x=a, hence f ' (a) doesn’t exist

ii) f (x) is not smooth at x=a, hence f '(a) doesn’t exist.

.

Roughly speaking a function is said to have a “sharp corner” at a if its

direction changes sharply at x=a. Hence for a derivative to exist at a
specified value of x, the function must be both smooth and
continuous at that point.

Rules of differentiation

Differentiation by direct application of definition of the derivative as

limit of the difference quotient would be sometimes tedious. We can
instead use simple rules of differentiations for a rapid and efficient
differentiation of certain types of functions.

Rule 1. Derivative of a constant function

If = k then, (x) = 0 for any constant

k.
Example 3 i) =3 ii) = - 1/6 iii) =0
(x) = 0 (x) = 0 (x) = 0

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Rule 2. Derivative of power of x

If = xn then (x) = nxn-1 for any number n.

Example 4 i) = x2
n=2, hence, (x)= 2x2-1= 2x

ii) = 1/x, first write as a power form =x -1

n= -1 hence (x) = -1x-1-1 = -1x-2 = -1/x2

iii) = , writing as a power form, = x4/3

n= 4/3 hence, (x) = 4/3 x 1-4/3 = 4/3 x 1/3
= 4/3

Rule 3. Derivative of a constant times a function

If is a differentiable function then,

for any constant k

Example 5 i) = 3x4 ii) = 5/x3 iii) = 4

(x)= 3(x4)' (x) = 5(x -3)' (x) = 4(x1/2)'
= 3(4x3) = 5(-3x -4) = 4(1/2 x -

1/2
)
= 12 x3 = -15\x4 =2/

Rule 4 Derivative of sum or difference of functions

If f and g are differentiable functions then ,

or, [ f (x) + g (x)]' = f ' (x) + g '(x)

Derivative of sum or difference of functions is the sum or difference of

the derivative of each function. This rule combined with the rule
(kxn)' = k(n xn-1), shows that every polynomial function has a
derivative at any point.

Example 6 i) = 2x3- 4x2 + 3x-7

(x) = (2x3)' -(4x2)' + (3x)' -(7)'
= 6x2-8x + 3

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ii) = 5 - 3,
(x) = (5x1/2)' - (3)'
= 5/2 (x -1/2)
= 5/2

Observe that the derivative of a function is a function. In section 5.3

we have also seen that derivative is about finding the slope of a
tangent to the graph of a function, or equivalently, derivative is about
finding the rate of change of one quantity with respect to another
quantity. Therefore, we can easily apply the rules of differentiation to
find the derivative function to evaluate slope and rate of changes at a
point.

Example 7 Find the slope of f(x) = x2 - 3x +2 at x= - 1, 3/2, and 1

Solution The derivative of the function is (x) = 2x -3

Slope at x= -1, (-1) = 2(-1) -3= -5

at x= 3/2, (3/2)= 2(3/2) -3 = 0

at x= 3, (3) = 2(3) - 3 =3

Example 8. Refer to example 3 in section 5.3. Find a function that

will give an instantaneous rate of change in cost.

Solution. Recall that the cost (in Birr) of producing x units of the item
is given by

C(x) = 400x - 0.1x2 for 0 x  1000

The instantaneous rate function is C (x), thus

C '(x) = 400 – 0.2 x2.

The instantaneous rates at x=20, 50, and 100 unit of level of

production

C ' (20) = 400-0.2(20) = Birr 396

C ' (50) = 400-0.2(50) = Birr 390

C ' (100) = 400-0.2(100) = Birr 380

In chapter 2 we have the concept of marginal cost which refers to

the change in cost for an additional one unit change in production at a
production level of x units. This is the instantaneous rate of change
that is the derivative.

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Roughly speaking in example 8 above we can say that it costs an

additional Birr 396 to produce 21st item, Birr 390 to produce the 51st
item and Birr 380 to produce the 101st item at a production level of 20
units, 50 units and 100 units respectively. Notice also that as
production goes up, the marginal cost goes down, as we might expect.

An important application of the derivative in business and economics

also involves marginal analysis such as, marginal revenue,
marginal profit, marginal average cost, marginal average
profit, marginal demand, and marginal supply. Marginal analysis
deals with the rate at which one business or economic quantity varies
with respect to another quantity. For instance how changes in level of
production, demand, price, and other such quantities affect cost,
revenue and profit. Thus the concept of marginal change refers to an
instantaneous rate of change- that is to the derivative.

Example 9 A manufacturer‘s cost and revenue functions (in birr) of

producing and selling x units respectively, are given by,
C(x) = 3500 + 200x - 0.2x2 and R(x) = 284x -0.5x 2 , for 0  x 
200.

i) Find the marginal average cost at x = 50 and interpret

ii) Find the marginal profit at x = 50, x= 150 and x= 140 and
interpret.

Solution i) Recall that the average cost function is given by

Marginal average cost =C ' (x)

thus, C '(x) - 0.2

At a level of production x=50, C ' (50) = - 0.2 = - 1.6

We can say a unit increase in production will decrease the average

cost approximately by Birr 1.60 at a production level of 50 units.

ii) Marginal profit = P' (x)

Recall that P(x) = R(x)-C(x),

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Thus,
P' (x) = R' (x) - C' (x)
= (284 -x) - (200-0.4x)
= -0.6 x + 84
Evaluating at x= 50, P' (50) = -0.6(50) + 84 = Birr 54.

x= 150, P' (150) = -0.6(150) + 84 = - Birr 6.

x= 140, P' (140) = -0.6(140) + 84 = Birr 0.

We can say that at a level of productions and sales of 50 units the

profit is increasing approximately by Birr 54 per unit. The profit is
decreasing at the rate of Birr 6 per unit at 150 units and the profit is
neither increasing nor decreasing at a level of 140 units.

Example 10. The market research department of a company

presents the following demand equation of a new product to be
manufactured in the near future.

x= 6000-30p,

Where, x is the number of the new product that retailers are likely to
buy per week at a price of Birr p per product. Find the marginal
revenue at x=1500 and 4500.

Solution. In chapter 2 we have revenue function given by

Revenue = (price per unit) (number of units sold) = px

So we first find price per unit p using the demand function

x= 6000-30p,

Solving for p we get, p = 200- x

hence, R(x) = px = (200- x)x

R(x) = 200x- x2

The marginal revenue is, R'(x) = 200- x

At sales level of x= 1500 units R'(1500) = 200- (1500) = 100

At sales level of x= 4500 units, R'(4500) = 200- (4500) = - 100

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This means that at 1500 levels of sales revenue is approximately

increasing at the rate of Birr 100 per unit. While at level of sales of
4500 units the revenue is approximately decreasing at the rate of Birr
100 per unit of sales.

Additional derivative rules

The derivatives rules so far discussed dealt with derivatives of sum

and difference of functions; the next rules are used to find the
derivative of product, quotient and composite of functions

The product rule. The derivative of a product is the first function times the
derivative of the second function plus the second function times the derivative of the first
function

Product rule If f ' (x) and g' (x) exist then,

or,

Example 11 Find the derivative of f(x) = (x2 + 1) (3x- 5)

Solution. f ' (x) = [(x2+1) (3x -5)'] +[ (3x – 5) (x2 + 1)']

= [(x2 + 1) 3] + [(3x – 5) 2x]

= 3x2 +3 +6x2 -10x

= 9x2 – 10x +3

Or, in this example we can first multiply and then find the derivative

f(x) = (x2 + 1) (3x- 5)

= 3x3 -5x2 + 3x – 5

f '(x) = 9x2 – 10x + 3

The quotient rule. The derivative quotient of two functions is the denominator
times the derivative of the numerator minus the numerator times the derivative of the
denominator all over the denominator squared.

Quotient rule. If f '(x) and g'(x) exist and g(x)

 0 then,

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or,

It is important to get the terms in the numerator in the correct order

due to the minus sign. This is often a source of mistakes, so be
careful.

Example 12. Find the derivative of

Solution.

Example 13. A company’s new electronic product monthly sales S(t)

(in thousands units), t months after it is introduced is given by

For instance sales during the second month t=2 is .

That is 10000 units. Find the rate of change in sales per month at t=
2 months and t=8 months and interpret.

Solution. Rate of change is the derivative of S(t)

At t = 2 months

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Thus, during the second month sales is increasing at a rate of 4000

units per month.

At t= 8 months

Thus, 8 months after the introduction of the new product sales are
decreasing at a rate of 560 units per month.

The chain rule. The derivative of a function of a function called

composition of function is computed using the chain rule.

Consider f(x)=x2 and g(x)=5x +3 then the compositions of the

functions

f (g(x)) = f (5x +3)

= (5x + 3)2

Using the rules that we have introduced so far we can find the
derivative after expansion of the expression as follows,

f (g(x) = (5x + 3)2

= 25x2 + 30x + 9

and f ' (g(x)) = 50x + 30

So, to differentiate f(x) we have to expand the expression however,

expansion of expressions like (5x +3)10 would take a long time.
Similarly, the simplification of composition of functions such as
may not be practical. Hence to handle any differentiation problems
involving composition of functions we have the following chain rule.

The chain rule If f is a differentiable function of g and

g is a differentiable function of x then the derivative of f
with respect to x is equal to the derivative of f with
respect to g times the derivative of g with respect to x.

or, f ' (g(x)) = f ' (g(x) . g' (x)

Now in our example f (x) = x2 and g (x) = 5x +3

f (g(x)) = f (5x+3)= (5x+3)2

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f ' (g(x) = 2(g(x)) 5

= 2(5x +3) 5
= 10 (5x+3)
= 50x + 30.
In the expression of f (g(x), g(x) is the inside function. We first find the
derivative of f the outside function without changing the inside g(x)
and then we multiply by the derivative of the inside function g(x)

Alternative formulation of the chain rule is

where y = f(u) and u= g(x)

To use this formulation of the rule in the example above,

Put y= u 2
and u = 5x +3

= 2u and =5

Then,

= 2u x 5 = 10u
Substituting u= 5x +3 = 10 (5x +3)
= 50x + 30

You can choose any one of the formulation of the chain rule that you
find easier to use. They are equivalent.

Example 14: Find the derivative of

f (x) = ( 1-x3 )8

Solution. The first step is always to recognize that we are dealing

with a composite function and then to identify the function into its
components. In this case the outside function is ( . )8 which has
derivative 8 (. )7. The inside function is 1-x 3 which has derivative -3x2 ,
so by the chain rule

f '(x) = 8 ( 1-x3)7 (-3x2)

= -24x2 (1- x3)7
Alternatively we could, Let u= 1-x3 then y = u8
= 8u7 and = -3x2

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= 8u7x -3x2
= -24x2 u
Substituting for u= 1- x3, = -24x2 (1- x3)7

As in the above examples we often have to find the derivative of a

function of the form [g(x)]n a special case of a power function where
the base is a function other than simply x. To differentiate such type of
function we have the following special case of the chain rule.

The function power rule

[g(x)] n = n [g(x)]n-1 g (x)

= n [g(x)] n-1
g' (x)

Example 15: Find the derivative of

f ( x ) = (3x2 +5x)4
Solution. Applying the function power rule

f ' (x) = 4 (3x2 + 5x)3 ( 6x+ 5)

Example 16. Find the derivative of

f (x) =

Solution. First we write the function in a power form as,

f (x) = (x3 – 2)1/2

Then, f ' (x) = ½ (x3 – 2)-1/2 ( 3x2)

=

Example 17. Find the derivative of,

f (x) =

Solution. We first write

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f (x) = 8 ( 2x2 -3x + 7) -1

Then, f ' (x ) = -8 ( 2x2 -3x + 7) -2. (4x – 3)

In this problem we can as well apply the quotient rule.

The derivatives of the exponential and logarithmic

functions

Exponential function is a function that can be expressed in the form

f(x)= ax where a >0 and a  1.

In particular large numbers of applications involving exponential

functions are expressed as a base of a special irrational number
e= 2.7182818… This constant is an ideal base for an exponential
function due to its simple derivative form which is the function itself.

Let f be the exponential function defined by

f (x)= ex

Applying the definition of derivative

To evaluate we construct table and use calculator

x -0.5 -0.1 - 0.01 -0.001→ 0  0.001 0.01 0.1 0.5

0.787 0.952 0.995 0.9995→ L ←1.0005 1.005 1.052 1.297

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We conclude from the table that L = 1 thus, = 1

Therefore, f ' (x) = ex (1) = ex

ex = ex

Example 18. Find the derivative of y = e6x-1

Solution. The expression is the composition of the function f(x) = e x
and g(x) = 6x-1, hence we apply the chain rule

Let u = 6x-1 then y= eu

= 6 and = eu

thus, = 6 eu

Substituting u= 6x-1, we get

= 6e6x-1
In general the application of the chain rule to functions involving
exponents as eg(x where g(x) is some function other than simply x,
leads to the following differentiation formula.
e g(x)
= eg(x) .
g'(x)

Example 19. Find the derivative of

f(x) = e3x

Solution. e3x = e3x 3x

= 3e3x

Example 20. Find the slope of the tangent line to the curve y =
at x = 0

Solution. The slope of the tangent line is evaluated at x = 0.

= =

Using the function power rule,

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= (x2 +1)1/2
= ½ (x2 +1)-1/2 ( 2x)
=
Hence,
=

When x = 0 we get,
=

=
=0

Example 21. Find the derivative of,

f (x) = x2ex
Solution. We use the product rule to find the derivative,

f ' (x) = [x2( ex)'] + [ex( x2)']

= [x2 ex] + [ex (2x)]
= ex (x2+ 2x)
Now let us see the derivative of the inverse of the exponential
function.

Logarithmic function is a function which can be expresses in the

form

f(x) = log a x where a>0 and a  1.

The logarithmic function is the inverse of the exponential function.

Hence it is defined only for positive real number x. Recall from your
earlier study of high school algebra that,

y = log a x if and only if x = ay

Example i) log10 1000 = 3 , since 103 = 1000
ii) log e 1=0, since e0 = 1
iii) log 2 ⅛ = -3 since 2-3 = 1/8

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Two bases are of special importance in application: base 10 which is

referred as common logarithms and base e, referred as the natural
logarithms simply written as log x and ln x, respectively. Since these
logarithms are extensively used in mathematical calculations most
scientific/financial calculators have a key labeled “log” and a key
labeled “ln” to find the common logarithm and the natural logarithms
of a positive number, respectively.

We turn next to find the derivative of the natural logarithmic function

f (x) = ln x where x > 0

We write the equivalent form as

x = ef(x) (1)

Differentiating both side and assuming f ' (x) exist we have,

x= ef(x)

1= ef(x) f '(x) (2)

Substituting (1 ) in (2), we get

1= x f '(x)

f ' (x) =

We have obtained the derivative of ln x

ln x = , x>0

Like the exponential function to differentiate more complicated

expressions such as ln (x2 -1), ln (5x), ln( ) we require a formula.
The application of the chain rule together with derivative of ln x
provide the following formula

ln g(x) =

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We can apply this formula with other rules of derivatives to find

derivative of a wide variety of functions.

Example 22. Find the derivative of

f (x) = ln ( 5x)

Solution. ln (5x) = 5x

= (5)

Example 23. Find the derivative of

f (x) = ln (x3 + 2)2

Solution. ln ( x3 + 2)2 = (x3+ 2)2

= [2 (x3 + 2) (x3 + 2)]

= [2 (x3 + 2) (3x2)]

Hence,

Example 24. Find the slope of the tangent line to the curve
at x=1
Solution. The slope of the tangent line is evaluated at x=1, by the
quotient rule,
=

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When x= 1, we get,

EXERCISES

1. Find the following limits:

a) b) c) d) e)

f) g) h)

i) j) k)

2. The total cost of purchasing x units of an item is given by the

following function

Is the cost function continuous at x= 100? At x= 500?

3. A sales man received a fixed salary of Birr 600 per month and a
commission of 10% for all sales over Birr1000 during the month. If
sales amounts Birr x per month, write the total salary f(x) of the
salesman. Is f(x) continuous at x = 1000?

4. Use the definition of continuity to discuss the continuity of each

function at the indicated value

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a) f(x) = , at i) x = 1 and ii) x =2 b). f(x) = at

x = 0.

5. Find the derivative of the following functions

a) f(x) = 3x5 -4x2 –x +2 b) f(x)= 2(√ x) 3 + 4x c) f(x) =

d) f(x) = e 2x (5x3+2x) e) f(x) = 1/x5 f) f(x) = g)

f(x) = ln (x2 +4)5 h) f(x)=

6. Find the slope of the tangent line to the curve

i) y = 4x3 + x2 – 3 at x = 0 ii) y = at x = -1
7. A specialty company has determined the total daily cost of
producing x units of their commodity to be ½ x 2 + x +2 Birr. Find the
marginal cost at x=30 and x = 42 and interpret.

8. The supply function for a certain item is given by y= x 2 + 3x +2,

where y is the selling price and x is the number of items supplied.
Determine the marginal supply function.

9. A company finds its total revenue given by R(x)= 9000- (x – 300)2

dollar. Find the rate of change in total revenue when x= 200, 300and
400 and interpret

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CHAPTER SIX: APPLICATION OF DERIVATIVE

INTRODUCTION
Two useful applications of derivatives have already been discusse d:
tangent lines and marginal analysis. The practical applications of
differential calculus are so wide ranging that it would be impossible to
discuss them all here. In this chapter we will give a brief introduction
to how differential calculus is used in optimization problems. This is
the most important application of the derivatives because so many
everyday problems involve maximizing or minimizing function.

First we will discuss about minimum and maximum values also called
the extrema (the singular of extrema is extremum) of a function. In
particular we will see the difference between two types of extrema of a
function called relative extrema and absolute extrema. Then we will
see business and management applications such as finding level of
production that will provide minimum cost, minimum average cost,
maximum revenue and maximum profit.

6.1. MAXIMUM AND MINIMUM VALUES

A function f is said to have a relative maximum (or local maximum)

at x=c if there is an open interval containing c such that for any x in
this interval f (c)  f (x). Thus, a relative maximum occurs at a value of
x where f has a peak. On the other hand a function f is said to have a
relative minimum (or local minimum) at x=c if f (c)  f (x) for every
x in some open interval around x = c. Thus a relative minimum occurs
at a value x where f has a valley. The graph of a function in figure 6.1
shows local maximum and local minimum values of the function.

Figure 6.1: Graph of a function showing relative maximum and

relative minimum.

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For the function shown in this graph we have relative maxima

(maxima is the plural of maximum) at x=c1 and x=c3. We also have a
relative minimum at x=c2 since this point is the lowest point on the
graph in an interval around it.

A value that is either a relative maximum value or a relative minimum

value is called a relative extremum value. Relative extremum value
need not be the highest or the lowest point for the entire graph. But
simply a point higher or lower than other points in the immediate
neighborhood, hence a function may have more than one relative
maximum and relative minimum values.

We can easily find relative extrema from a graph of the function but
how do we find the values of x at which f has a relative extrema if
given a function . Figure 6.2 focuses on the tangent lines at the three
relative extrema from figure 6.1. Observe that the tangent lines at
these points are horizontal.

Figure 6.2. Tangent lines at relative extrema values of f

In chapter two we have discussed that the slope of horizontal line is

zero. Thus, if we are searching for relative extrema points on the
graph of a function we have to look for those values of x where the
graph has slope zero. Such values are called critical values. Hence
relative extrema occur only at critical points of a function

Definition. If a function is defined at x= c and

either or doesn’t exist, then (c, f (c))
is called a critical point of .
c is called a critical value of f.

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This definition indicates that the only possible values of x at which

can have a relative extremum are those where or doesn’t
exist but is defined. Thus to find the critical values of a function we
differentiate, set the derivative equal to zero and solve the equation.
As the next example shows, however can be zero at x = c and
need not have a relative extremum at c.

Example 1 Consider the function defined by (x) = x3 whose graph is

given in figure 6.3 below.

Figure 6.3. Graph of f(x)= x3

= 3x2 we see that = 0 and = 0. However doesn’t have a

relative extremum at x= 0 since (x) < 0 if x < 0 and (x) > 0 if x >0.
The point (0, 0) is called an inflection point that will be discussed
later in section 6.3.

This example shows that all critical points are not necessarily relative
extrema points, so we need a test for determining at which of the
critical values does have a relative minima, relative maxima, or
neither.

6.2. THE FIRST DERIVATIVE TEST

One method of determining the point where a relative minimum or a

relative maximum occurs is known as the first derivative test. This
test is based on the concept of increasing and decreasing function
defined below.

We say that (x) is an increasing function on an interval (a, b)

if (x2) > (x1) whenever a < x1 < x2 < b.

We say that (x) is a decreasing function on an interval (a, b)

if (x2) < (x1) whenever a<x1<x2< b.
In figure 6.2 the graph is increasing in the interval (a, c 1), (c2, c3) and
decreasing in the interval (c1, c2) and (c3, b).

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We know that one of the interpretations of the first derivative is

the rate of change of the function. In the previous chapter five when
we were looking at rates of change we used the fact that if the rate of
change was a positive number then the function was increasing and if
the rate of change was a negative number then the function was
decreasing. Since rate of change of the function is the derivative we
use the following theorem to identify the interval where a function is
increasing and decreasing.

Theorem: Let be a differentiable function on an

interval (a, b)
1. If f (x)> 0 for every x on (a, b), then f (x)
is increasing on the interval (a, b).

2. If f (x) < 0 for every x on (a, b), then f

(x) is decreasing on the interval (a, b).

According to this theorem the first derivative of a function can be used

to determine whether a relative minimum or a relative maximum
value occurs at the critical value c, based on the information of the
sign (positive or negative) of fٰ on either side of the critical value. In
figure 6.1 observe that a relative minimum exists when the graph
changes from increasing (rising) to decreasing (falling) and a relative
minimum exists when the graph changes from decreasing to
increasing. Thus, we have the following first derivative test

First derivative test: suppose a function f (x) is

continuous at every x in (a, b) and x = c is a critical
value of f (x)
1. If f ' (x) > 0 to the left of x=c and f
' (x) <0 to the right of x=c then x=c
is a relative maximum.
2. If f ' (x) < 0 to the left of x=c
and f ' (x) > 0 to the right of x=c
then x=c is a relative minimum.

If f ' (x) is the same sign on both sides

of x=c then x=c is neither a relative maximum nor a
relative minimum.
Applying this first derivative test we can now have the following
procedures for finding the relative extrema of a function f.

Step 1: Find

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Step 2: Solve = 0 to find critical values

Step 3: Apply the first derivative test at ach critical value. If
the sign of changes from plus to minus at c, then f
has a relative maximum; if the sign changes from
minus to plus at c then f has a relative minimum at
c.

Example 2. Find the relative extrema for the function given by

f (x) = x2 -4x + 3

Solution. Step 1: = 2x - 4
Step 2: 2x - 4 = 0
2 (x -2) = 0
x = 2 is the only critical value

Step 3: If x<2, is negative and when x >2 is

positive.

This can be summarized on a number line as,

Sign of = 2(x-2) - - - - - -0 + + + + + +
2

Sign of f ' changes from minus to plus, hence, at x=2 a relative minimum
value occurs and f(2)= (2)2- 4(2)+3= -1 is the relative minimum value.
The graph is shown in figure 6.4

Figure 6.4. Graph of f (x) = x2 -4x + 3

In problems in which the function f has more than one relative

extremum, it is advisable to use the sign chart to facilitate the sign
analysis. First factorize the derivative and determine the sign of each
factor then determine the sign of the product of the factors to get the
sign of the derivative f '. This approach is used in the following example.

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Example 3. Find the relative extrema of the function given by

f (x) = x3 +3x2 – 9x + 1

Solution. Step 1: = 3x2 + 6x - 9

Step 2: Solve, 3x2 + 6x – 9 = 0
 3(x+3)(x -1) = 0
x = -3 and x = 1 are critical values

Step 3: The application of the first derivative test at each

critical values

Sign chart for f ' (x) = 3(x +3)(x-1)

-3 1
0
Sign of x+3 - - - - -- + + + + + + +

Sign of x -1 - - - - - - - - - - 0+ + + + +

0 0
Sign of + - +
3 (x +3)(x-1)

As x increases through -3, changes sign from positive(+) to

negative (-) ; hence at x = -3 f (x) has a relative maximum value f (-3) =
28. Similarly as x increases through 1 the sign of changes from
negative to positive; hence at x=1, f (x) has a relative minimum value f
(1) = -4.

Figure 6.5. Graph of f (x) = x3 +3x2 – 9x + 1

Example 4: Find the relative extrema of the function given by

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f (x) = x2/3
Solution : Step 1: = 2/3 x -1/3
= ; f (0)= 0 but f ' (0) is undefined.

Step 2: = 0 there is no solution. Hence x=0 is the only

critical value since f(0) doesn’t exist.

Step 3: The application of the first derivative test at the critical

value x=0

Sign of = -- - - - |++ + +
0

Sign of f ' changes from minus to plus, hence, at x = 0 a relative

minimum value occurs and f(0)= f (0)= 02/3= 0. The graph is shown in
figure 6.6

Figure 6.6. Graph of f(x) = x2/3

6.3. SECOND DERIVATIVE TEST

The second method of locating relative maxima and relative minima values
that we will consider is simple to use and is very useful in optimization
problem. We have seen that the first derivative f ' can be used to
determine when a graph of f is increasing and decreasing. Similarly the
derivative of the derivative called the second derivative can be used to
determine the slope and the behavior of the derivative function f '. The
second derivative is denoted by

f '' (x), or

We have noted that when the first derivative of a function is positive, the
function is increasing; or when the first derivative is negative the function
is decreasing. Similarly if f ''(x) > 0 for all x in the interval (a, b) then the
first derivative f ' is increasing. Graphically this relationship means the

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slope of the function f is increasing since f ' gives the slope of the function.
Thus the curve y= f(x) “bends upward” over the interval (a, b) (see figure
6.7a). Such a curve is said to be concave upward over (a, b). In addition
we can say that a curve is concave upward over (a, b) if the curve lies
above its tangent line at each x in (a, b).

Figure 6.7. Concavity.

(a) slope is increasing (b) slope is

decreasing

Similarly if f ''(x) < 0 then f ' (x) is decreasing which means the slope of the
function f (x) decreasing as we move along the x-axis from a to b as shown
in figure 6.7 (b). Thus the curve y = f(x) “bends downward”. Such a curve
is said to be concave downward over (a, b). We can also say that a
curve is concave downward over (a, b) if the curve lies below its tangent
line at each x in (a, b).

So a function is concave up if it opens up and the function is concave down

if it opens down. Notice as well that concavity has nothing to do with
increasing or decreasing. A function can be concave up and either
increasing or decreasing. Similarly, a function can be concave down and
either increasing or decreasing.

Figure 6.8. The second derivative at relative minimum and

relative maximum values

a) Concave upwards b) Concave

downwards.

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Observe that in figure 6.8 a the extremum value where f is concave

upwards is a relative minimum and in figure 6.8 b where f is concave
upward it is a relative maximum value. These facts lead to a second test
for locating relative extrema, known as the second derivative test.

Second derivative test

1. Find f ' (x), and solve f ' (x) = 0 to identify critical values of f
(x).

2. Find f '' (x) and evaluate at each critical value

i) If f ''(c) > 0, then f(c) is a relative minimum.
ii) If f ''(c) <0, then f(c) is a relative maximum.
iii) If f ''(c) =0, then the first derivative test is indeterminate.
In this case use the first derivative test.

The third part (iii) of the second derivative test is important to notice. If
the second derivative is zero then the critical point can be anything. That
is it can be either relative maximum, or relative minimum or neither type
of extrema. The graphs of three functions below in which all have a critical
point at x=0, and the second derivative of all of the functions is zero
exhibit the three possibilities.

Figure 6.9. Graphs of functions that have the same critical values
at x=0

a) relative minimum b)relative maximum c) No relative

extremum

The point (0, 0) on the curve of the function given in diagram 6.9 (c) is
a point where the curve changes from concave downward to concave
upward. The point where a function changes from being concave
upward to concave downward (or from being concave downward to
concave upward) is called a point of inflection or an inflection
point. All lists of possible inflection points will be those points where f

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''(x) = 0 or where f ''(x) is undefined. However, the point where f '' (x)
=0 may not be an inflection point as shown in figure 6.9 a and b
In a majority of problems concerned with finding relative extrema
values of a function the second derivative test is often easier to use
than the first derivative test. However, in the case where both the first
derivative and second derivative are zero we can apply the first
derivative test.

Example 5. Use the second derivative to find the relative extrema of

f (x) = x3 +3x2 – 9x + 1

Solution: = 3x2 + 6x - 9
Solving, 3x2 + 6x – 9 = 0. Critical values of f are x= 1 and x= -3
Then the second derivative is evaluated at each critical value

f ''(x) = 6x +6
f ''(1) = 6(1) + 6 = 12 >0 hence, f has relative maximum at
x=1
f ''(-3) = 6(-3) +6 = -12 <0 hence, f has relative minimum at
x= -3

This is the same function we examined in example 3. Look at the

graph in figure 6.5 again.

Example 6. Use the second derivative to find the relative extrema of

f (x)= ¼ x4 + x3 + 5

Solution = x3 + 3x2
Solving, x3 + 3x2 = x2(x + 3) =0 critical values of f are x = -3 an d x=
0 Then find second derivative and evaluate at each critical values

f ''(x) = 3x2 + 6x
f ''(-3) = 3(-3)2 + 6(-3) = 9 > 0, f has a relative minimum at x=
-3
f ''(0) = 3(0)2 + 6(0) = 0 the second derivative test fails at x=0

Hence we apply the first derivative test at this critical value using the
sign chart.

Sign chart for = x3 + 3x2 = x2 (x +3)

-3 0
Sign of x2 + + + + + +0 + + + +
+ +
Sign of x +3 - - - - - 0 + + + + + + +
+

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sign of x2 (x +3) - 0 + 0 +

From the sign chart we see that f has relative minimum value at x= -3
since at this point the sign of f ' changes from minus to positive. But
the sign of f ' on both sides of 0 is the same positive hence, there is no
a relative extremum value at x=0. The relative minimum value f (-
3)=-7/4 and the point ( 0, 5) is an inflection point. Observe that on
figure 6.10 at the point (0, 5) the graph changes from concave up to
concave down.

Figure 6.10. Graph of f(x) = ¼ x4 + x3 + 5.

Example 7. Use the second derivative to find the extrema value of

f (x)= x3 + 8

Solution = 3x2
3x2 = 0; critical value is only x=0
f ''(x) = 6x and f ''(0)= 0 second derivative test fails,

using the first derivative

Sign of f ' (x) = 3x2 + | +

0

The sign of f '(x) is the same on both sides of x=0. Therefore, (0, 8) is
an inflection point. At this point the graph changes from concave
downward to concave upwards. The graph of the function is given
below in figure 6.11.

Figure 6.11. Graph of f (x) = x3 + 8

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6.4. ABSOLUTE EXTREMA

If we were to draw a graph of the profit versus quantity sold finding

the maximum profit is equivalent to finding the highest point on the
graph. Similarly a minimization problem may be thought of
geometrically as finding the lowest point on the graph of a function.
Many practical problems require finding not merely a relative
extremum of f but rather the smallest or largest value of f(x) for some
x in closed interval.

A function defined on a closed interval [a, b] is said to have an

absolute maximum at x=c if f (c) is the largest value of f (x).
Similarly, a function f defined on an interval [a, b] is said to have an
absolute minimum at x =c if f (c) is the smallest value of f (x).
Absolute minimum and absolute maximum values are called absolute
extremum (the plural is absolute extrema).

Figure 6.12. Graphs showing relative and absolute extrema

values

(a) (b)

In figure 6.12 (a) the function f has an absolute maximum at x = c 3

and an absolute minimum at the end point x = a. Observe that f also
has a relative maximum at x = c 1 and x = c2; however these are not
absolute extrema values. Figure 6.12 (b) shows that the function has
an absolute minimum at x=c and absolute maxima at the end points
x=a and x=b. Note also that at x = c the function has a relative
minimum value.

The graph of a continuous function is drawn without lifting the pencil

from the paper. Therefore, it is intuitively clear that there is a highest

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and a lowest point on the graph. The following theorem states this
fact.

Extreme value theorem

If a function f is continuous on a closed interval [a, b],
then f has an absolute maximum and absolute
minimum on [a, b].

Note that in this theorem the function f has to be continuous and the
interval has to be closed. If f has critical values c 1, c2, . . .cn , the point
at which f attains its absolute extremum must be either a critical value
of x which represents a relative extremum or at the endpoints of the
interval a or b. Thus to find the absolute maximum and absolute
minimum value we evaluate f (c1 ), f (c2 ). . . f (cn ), f (a ) and f (b ).
The summary of the procedure for finding the absolute extrema of a
continuous function on [a b] is given below.

Steps in finding Absolute maximum and absolute minimum

values

Step1. Find the critical values of f on [a, b]

Step2. Evaluate f at the critical values and at the endpoints a and
b
Step 3. The largest of the values found in step 2 is the absolute
maximum of f and the smallest is absolute minimum of f.

Example 1 Find the absolute extrema of

f (x) = x3 +3x2 -9x + 2 on the interval [-4 5]
Solution: Step 1. We find critical values solving =0
= 3x2 +6x-9 =0
3(x2 +2x-3) = 0
3(x+1) (x-3) = 0
x= -1 and x=3 are critical values
Step 2. Evaluate f at each critical value and at the endpoints
f (-1) = (-1)3 + 3(-1)2 -9(-1) +2= 13
f (3) = 33 + 3(3)2 -9(3) +2 = 29
f (-4) = (-4)3 + 3(-4)2 – 9(-4) +2 = 22
f (5) = 53 + 3(5)2 – 9(5) +2 = 157
Step 3. The largest value is 157 hence the absolute maximum value f
occurs at the endpoint x=5. The smallest value is 13 thus the
absolute minimum of f occurs at the critical value x= -1

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6. 5. APPLIED MAXIMA AND MINIMA PROBLEMS

We shall now apply the techniques developed in the previous sections

to only a few of the many common problems which require some
quantity to be maximized or minimized.

Example 1. The profit P(x) (in birr) realized from producing and
selling x shoes per month is given by, P(x) = - 0.001 x 2 + 5x - 800

Suppose that the manufacturer’s production facilities limit the number

of shoes to be produced each month to be 3000. Assuming that every
shoe manufactured is sold what level of production will produce the
maximum profit? What will be this maximum profit?

Solution. In this problem it is required to find the absolute maximum

value of the profit function P(x) on the interval [0, 3000].

Step 1. P'(x) = -0.002 x +5

Then solving, 0.002 x +5 = 0 we get the critical value x = 2500

Step2. Evaluating P(x) at the endpoints of the interval and at the

critical value, we have

X 0 2500 3000
P(x)= -0.001 x + 5x- -800
2
5450 5200
800

Step 3. The maximum profit Birr 5450 occurs at a level of production

of 2500 units

In this example 2 we have an application problem where the function to be optimized is

provided. However, most optimization problems are presented in verbal terms so we
must first translate them into mathematical terms. The procedure outlined below can be
used in solving such types of problems.

procedures for solving optimization problems

Step1. Choose variables to represent the situation and

determine the function that is to be optimized (minimized or
maximized) and write an equation expressing the function in
terms of all the other variables in the problem.

Step 2. The function expressed in step1 will typically contain

more than one variable. Use the information given in the
problem to express every variable in terms of one variable.

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Step 3. Determine the domain so that it contains all the

possible values the single variable in step 2 can take, usually
an interval I.

Step 4. Find the critical value of the function expressed using

the single variable by taking the derivative and setting it
equal to 0. Then find the absolute maximum (or minimum)
value of the function on the interval I.

In order to use the Extreme Value Theorem we must have a closed

interval I and the function must be continuous on that interval. If we
have open intervals or the domain is unrestricted we have no
endpoints to compare. However we can proceed to locate all critical
values and apply second derivative test or first derivative test to
identify relative extrema values of the function that may be or may
not be an absolute extrema. We can also apply the following theorem
which is important in optimization problem in which the function has
only one critical value in the interval under consideration.

Theorem. Let f be a continuous function on an interval

I, and I contains only one critical value c, then
i) If f(c) is a relative maximum, it is the absolute
maximum value of f on I.

ii) If f (c) is a relative minimum, it is the absolute

minimum value of f on I.

Example 1. A farmer wished to enclose a rectangular grazing field

with a fence. There is a river bordering on one side of the river that will
not be fenced. If the farmer has 600 meters of fencing material
determine the dimensions of the field that will enclose the largest
grazing area. What are the dimensions of this grazing field?

Solution. The dimensions necessary when finding area and

perimeter of a rectangle are width and length.

Step 1. Let the length of the grazing field be represented by x meters

and the width by y meters. The figure showing the condition is

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The area function of the grazing field to be maximized is given by,

Area = xy
Step 2. The information given about amount of fencing material
available, 600 meters is expressed as
x + x + y = 600
2x +y = 600
Solving for y we get y = 600-2x

Substituting this expression into the area function in step 1 we

obtain the function we wish to enclose the largest grazing area as only
one variable x.

Area = x( 600-2x)
Simplifying we have, A(x) = 600x – 2x 2
Step 3. Since x is the length of the rectangle x>0. Also, x< 300
because, the width y= 600-2x should be positive. Value of x=0 and x=
300 provide area of zero that will clearly not maximize area. Thus, the
problem is to find the largest grazing area A over the open interval (0,
300).

Step 4. The first derivative is

A'(x) = 600-4x
= 4(150 –x)
Hence, the critical value x = 150.
From A''(x) = -4, we get A''(150) = -4< 0. Thus, the relative maximum
occurs at x=150. Since this is the only critical value within the open
interval on which the function is defined, based on the last theorem it
is the absolute maximum.

Substituting x= 150 into y= 600-2x we get y= 300. Therefore, the

largest grazing area A (150)= 45000 occurs when the dimensions of
the field are 150meteres by 300 meters.

Example 2: A moving company needs to construct an open box

whose base is to be a rectangle with length twice as long as the width.
The box is to contain a volume of 32000 cubic centimeters and the

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cost of the material for the bottom (base) is Birr 3 per square
centimeter and the material for the sides cost Birr 1 per centimeter.
Find the dimension of the box with a minimum cost of material.

Solution. The dimensions of a box necessary to find volume and

surface area of a box are its base length, base width and height.

Step 1. Let the base width be x cm then the base length is 2x cm and
the height be y cm. the figure of the box is given below

The total area of the bottom, that is the base = 2x 2

The total area of the sides is 2(xy)+ 2 (2xy) = 6xy, Hence the total
cost of materials in Birr is
Cost = 3(2x2) + 1(6xy)
= 6x2 + 6xy

Step 2. The information that the volume of the box 32000 cubic
centimeter is the area of the base time the height so we have,

Volume = 2x2 y
32000 = 2x2y

Solving for y we get, y= 16000/ x2 and substituting in the cost

function, we get

Cost = 6x2 + 6x( 16000/x2)

C(x) = 6x2 + 96000/ x2

Thus we have expressed the cost function as a single variable x.

Step 3. Since x represents a width, x>0. Thus, we must find the

minimum value of C(x) on the open interval (0, ∞).

Step 4. The first derivative C'( x) = 12x – 96000/x 2 x=0 is not in

the domain

Then solving , C'(x) = 0

12x – 96000/x2 = 0

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Application of derivative AAUCC, 2010

12x =

12x3 = 96000
x3 = 8000
x=
We get, x= 20 cm as the only critical value of C (x) in the interval (0,
∞). From the second derivative

C'' (x) = 12 + 192000/x3 and C'' (20) > 0

We see that the relative minimum value of C occurs at x= 20 and

based on the last theorem it is the absolute minimum.

Substituting x= 20 in y= 16000/ x2 the height of the box is 40cm.

Hence the dimensions of the box are 20cm by 40 cm by 40cm. The
minimum cost obtained C (20) is Birr 480.

Example 3. A printer has to print a rectangular sheet containing 128

square inches of printed matter with a 2-inch margin at the top and
bottom and a 1- inch margin along each side. Find the dimensions of
the rectangular sheet with minimum area that meets these
specifications.

Solution. Step 1. Let x inches represent the width and y inches

represent the length of the128 square inch area of the printed
material. Refer to the figure below representing the conditions.

The function to be optimized is the area of the sheet given by,

Area= (x+2) (y + 4)
Step 2. The information given about the area of the printed material
is expressed as
xy= 128
Solving for y we get y = 128 /x and substituting in the area function
we get
Area = (x+2) (128/x + 4)

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Application of derivative AAUCC, 2010

A(x) = 136 + 4x + 256/x

Step 3. x represents a width, hence x>0. Thus, we must find the

minimum value of A(x) on the interval (0, ∞).

Step 4. A'(x) = 4- 256/x2 x=0 is not in the domain

Then solving A'(x) = 0
4- 256 /x2 = 0
x2 = 64
x=+8

We get the critical value x= 8 since -8 is not in the domain (0, ∞).
Applying the second derivative
A''( x ) = 512/x3 and A''( 8) > 0 ,

We see that the relative minimum of A(x) occurs at x=8. This relative
minimum is the absolute minimum of A(x). Substituting x= 8 in y=
128/x the width of the rectangular sheet is 16 inch. Hence the
minimum area of the required rectangular sheet A(8 ) = 200 inches
occurs when the dimensions of the rectangular sheet are 10 ( 8+2)
inches by 20 (16 + 4) inches.

Example 4. A chemical manufacturer wants to produce a closed

cylindrical can that can hold 1024 cubic centimeters of chemical. Find
the dimensions of the can that require the least amount of material.

Solution. The two dimensions necessary to determine volume and

surface area of a cylinder are its radius, and height.

Step 1. Let the radius of the cylinder be r and height be h

The function to be minimized that is the least material required

depends upon the surface area of the can given by,

Area = 2Πrh + 2Πr2.

Step 2. The formula for volume of a cylinder is Πr 2h. In this problem

the volume is 1024 so,

1024= Πr2h
Solving for h we get, h= 1024/ Πr2
Substituting into the surface area function to be minimized, we obtain

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Application of derivative AAUCC, 2010

Area = 2Πr (1024/ Πr2) + 2Πr2

A(r) = 2048/r + 2 Πr2

Step 3. Since r represents radius r>0. Thus, we must find the

minimum value of A(r) on the interval (0, ∞).

Step 4. A' (r) = -2048/r2 + 4 Πr, r= 0 is not in the domain

Then solving, A' (r) = 0
-2048/r + 4 Πr = 0
2

4Πr = 2048/r2
r3= 512/ Π

r=

We obtain the critical value r = . The second derivative is

A''(r ) = 4096/r3 + 4 Π and, A''( ) = 4096/( )3 + 4 Π >

0
So r = (about 5.5 centimeter) yields the minimum surface area

that requires the least material. Substituting r= into h= 1024/ Πr2,

we get h = 10.9 centimeter. Therefore the minimum surface area
A(8/ ) = 564.4 square centimeter occurs when the dimensions of
the cylindrical can are r = 5.5 centimeter and h= 10.9 centimeter.

Example 5. The owner of a 100 room motel finds that when the rent
is Birr 40 per room all rooms are occupied each night. However for
each Birr 10 increase in the rent per room, 5 fewer rooms are rented
each night. How much of an increase in the rent per room should be
made to maximize daily revenue?

Solution. In this problem the information given is that when the rent
of each room is Birr 40 per day all the 100 rooms will be rented, but an
additional Birr 10 increase in rent will reduce the number of rooms
rented by 5.

For instance if rent increased by Birr 10 only 100-5 rooms are occupied
“ “ “ by Birr 2(10) only 100 – 2(5) “
“ “ “ by Birr 3(10) only 100 – 3 (5) “

We see that the revenue depends upon the number of Birr 10 increase
in rent put into effect. If we let x to represent the number of Birr 10
increase in rent, the number of rooms rented will be 100 – 5x while the

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rent per day will be Birr 40 +10x. The daily revenue function to be
maximized is thus, determined by,

Revenue = (rent per room) x (number of rooms rented)

R(x) = (40 +10x) (100 – 5x)
= 4000 + 800x -50x2
Since number of rooms rented 100- 5x should be positive or zero x 
20. Also x  0, since it represents number of Birr 10 increase Thus, we
find the maximum value of R(x) on the interval [0, 20]

The first derivative, R'( x) = 800 -100x

Then solving R' (x) = 0

800- 100x = 0
100(8 –x) = 0
x= 8

We get the only critical value of R( x) is x= 8 .

From the second derivative R''(x) = -100, the relative maximum

revenue occurs at x= 8. Thus this maximum revenue can be realized if
the rent each day is increased by Birr 10(8) = Birr 80 per room and the
maximum revenue
R(8) = 4000 + 800(8) -50(8)2 = Birr 7200.

The rent would increase from Birr 40 to Birr 120. The number of rooms
rented each day would decrease by 5 (8) = 40, only 60 of the 100
rooms would be occupied resulting with total revenue of (120) (60) =
Birr 7200 which is the same as R ( 8).

EXERCISE
1. Find the local maxima and local minima of the function
f(x)= 2x3-3x2 -36x +8,
2. For what value of k will f(x) = have a relative minimum at x =6

3. The manager of a 60 unit apartment building renting each unit at $75

per month will have no vacancies. If the marginal revenue function is
determined to be R(x) = 225-5x where x is number of units rented, find
the total revenue function.

4. The marginal cost per day for a factory is C’(x) = 3/5 x2 + 2x + 3 with
a fixed cost of Birr 420 per day. Find the total cost function.

5. The total cost of purchasing x units of items per day is Birr

x2 + 2x +200, and the total revenue is Birr 32x.

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Application of derivative AAUCC, 2010

a) How many units must be produced to obtain a maximum total

profit?
b) How many units must be produced to minimize average cost per
unit?

6. A closed box with a square base is to have a volume of 16000 cubic

inches. The material for the top and bottom of the box costs Birr 9 per
square inch, while the material for the side costs Birr2 per square inch.
Find the dimension of the box that will minimize the total cost. Find
the minimum total cost.

7. A real state office handles an apartment house with 100 units. When
the rent of each unit is $120 per month, all units are occupied.
Experience has shown that for each $10 per month increase in rent,
five units become vacant. The cost of servicing a rented apartment is
$20 a month. What rent should be charged to maximize profit? What is
the maximum profit?

8. A certain TV station has 1000 customers paying $20 each month. If

each $1 reduction in price attracts 100 new customers, find the price
that yields maximum revenue. Find the maximum revenue.

9. A page of a book is to have area of 108 square inches with 1 inch

margins at the bottom and sides and a ½ inch margin at the top. Find
the dimension of the page, which will allow the largest printed area.

10. A farmer wants to make a rectangular pasture with 80,000 square

feet. If the pasture lies along a river and he fences the remaining three
sides, what dimension should he use to minimize the amount of fence
needed?

11. A rectangular box with a square base is to be formed from a square

piece of metal with 12 inches sides. If a square piece with length x
inches is cut from each corner of the metal and the sides are folded up
to form an open box, find the value of x that will maximize the volume of
the box.

12. Suppose the cost of publishing a certain book is Birr 10,000 to set
up the annual press run, plus Birr 8 for each book actually printed. The
publisher sold 7,000 copies last year at Birr 13 each, but this year
sales dropped to 5,000 copies when the price was raised to Birr 15 per
copy. Assuming that as many as 10,000 copies can be printed in a
single press run find the number of copies that should be printed in
order to maximize the year's profit. What is maximum profit and what
should be the selling price of each copy?

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CHAPTER SEVEN: INTEGRAL CALCULUS

INTRODUCTION
The second branch of calculus concerned with the theory and
applications of integrals is called the integral calculus. The last two
chapters dealt with differential calculus concerned with rates of change.
Integral calculus deals with total size interpreted as an area under a
curve.
Two types of integrals will be discussed, the indefinite integral and
the definite integral. The indefinite integral focuses on the reverse
process of the derivative, known as the antiderivative. The definite
integral focuses on areas and how to find them. The bridge between
these two types of integrals is the fundamental theorem of
calculus in which we will show on how a definite integral is calculated
by using its antiderivative.

7.1. ANTIDERIVATIVES: THE INDEFINITE INTEGRAL

Most mathematical operations have an “inverse” operation which turn

things around or reverse the previous operation. For instance, the
inverse operation for addition is subtraction and the inverse operation
for multiplication is division. If we add 5 to 45 and then subtract 5, we
have the initial number 45. Or, if we multiply 45 by 5 we can return to
the initial number 45, by dividing the product by 5. Taking a number
to a power of n and finding the nth root of the power provides the
original number. Similarly, in this section we will see the reverse
process of derivative which deals with finding a function whose
derivative is the function f(x).

Now, let’s go back and recall the rule for the operation of taking the
derivative of x to a power n. When differentiating powers of x n we
multiply the term by the power n and then subtract one from the
power to obtain a new power (n-1).

As an example, the derivative of x 4 is 4x3. The reverse process

involves starting with the expression 4x 3 and going back to the original
term x4. Keeping the rule in mind, the inverse procedure would be to
add one to the power 3 to obtain a new power 4, and then divide the
expression 4x3 by this new power 4 to obtain the original term.

Note that (x4 + 3) = 4x3, (x4-8) = 4x3 (x4 + ½) = 4x3

All the expressions above differ by a constant and applying the above
procedure we cannot recover the constants so we say 4x 3 is the

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derivative of x4 + c for any constant c. The function F(x) = x 4 + c is

called the antiderivative of f(x) = 4x3

Definition

Given a function f(x), a function F(x) is said to be an

antiderivative of f(x) if and only if F' (x)= f(x)

The process of finding F(x) given f(x) is called antidifferentiation or

integration. Because the derivative of a constant is zero, once the
antiderivative of a function is found, another antiderivative of the
same function can be formulated simply by adding a non zero constant
to the first derivative. Thus, antidifferentiation of a given function does
not, in general, lead to a unique function. There are actually an
infinite number of functions that we could use and they will all differ by
a constant.

We use the following notation to represent every antiderivative of f(x)

For example we have

The notation is read “the indefinite integral of the function

f(x) with respect to x”. The symbol ∫ is called the integral sign,
f(x) is called the integrand, x is called the integration variable and
the arbitrary constant c, in F(x) + c is called the constant of
integration. In the notation dx means the independent variable is x
and we are to integrate with respect to x. When the variable of
integration is denoted by letter other than x, the integration notation is
modified accordingly such as, ∫g(y)dy, ∫h(t)dt etc.

Rules of integration

Since integration or antidifferentiation is the reverse process of

differentiation, many basic integration rules have been derived from
corresponding rules concerning derivative. Thus, we have the
following integration rules.

Rule 1. If k is a constant then

, where c  R

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Example 1 i) ii)

iii) iv)

Rule 2. The simple power rule

If f (x) = xn, then

In this rule note that n is different from negative one. Because the
denominator n+1 will be zero when we substitute n= -1and any
number over 0 is undefined. To plug the gap in this rule we need to
look for the derivative of x-1 = . Recall from section 5. 6 that

for x >0

Thus, we can conclude that

The notation |x|, which means absolute value of x, is necessary

because the logarithm function is defined only for positive values of x.

Since , we also have

Rule 3.
i) where x  0

ii)

Example 2.

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Rule 4. The constant times a function rule

If k is a constant and exists then,

Whenever a constant can be factored from the integrand, the constant

may be taken out of the integral to ease computation. Note that this
procedure is appropriate only for constants, not for variables.

Example 3. i)

ii)

iii)

iv)

Rule 5. The sum and difference rule

The integral of a sum or difference of functions is the sum

or difference of the individual integrals.

This rule can be extended to as many functions as we need. Thus, just

as we are able to take derivative of functions term by term, we can
integrate terms of functions separately and then sum these integrals.

Example 4. Evaluate the following indefinite integrals.

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Since c1 and c2 are arbitrary constants c1+c2 is another arbitrary

constant. Thus starting with the next example the constants are
conventionally combined and a single number c will be used.

Note that once we have the indefinite integral of a given function, we

can always check our answer by differentiating the final result to
obtain the integrand in the original indefinite integral. Thus, in
example 4(ii) above,

( x3 – 5x + ln |x| + c = ( x3) - 5x + ln |x| + c

= (3x2) -5 + +0

= 2x2 -5 +

In the rules of integration above integrals of products and quotients

were not listed. The reason for this is simple. Just like with derivatives
each of the following will NOT work.

In derivatives we had a product rule and a quotient rule to deal with

these cases. However, there are other integration rules that can be
applied which are not discussed in this course. As a consequence, it is
essential to give attention to the form of the expression to be
integrated. We can apply the integration rules stated in this section to

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functions expressed as a product or quotient that can be simplified as

sums or difference of terms like the following examples.

Example 5. Evaluate,

Solution. First we multiply the functions and then integrate as

follows:

Example 6.

Evaluate,

Solution. We simplify the quotient and then integrate as follows;

7.2. APPLICATION OF THE INDEFINITE INTEGRAL

In chapter 5 we have discussed the concept of marginal function which

is derivative of the function. If a rate function (derivative) is given then
the problem may be to find the original function by integration. For
instance, if the marginal –revenue or marginal –cost function are easily
determined then it may be necessary for planning purpose to
determine the total- revenue or total cost function. The total revenue
function is the antiderivative of the marginal revenue function and the
antiderivative of the marginal cost function is the total cost function.

Example 1. Suppose a manufacturer knows that the marginal cost of

producing x units of its product (in Birr per unit) is given by,

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C' (x) = 5x+ 250

Given the fixed cost is Birr 15,000, find the cost function C(x) and the
cost of producing 10 units of the product.

Solution. Since the marginal cost function C'(x) is given we can find
the cost function C(x) by computing the indefinite integral of 5x+250.

The value of the constant integration c is determined from the

information that the fixed cost is Birr 15000 which is the cost when
x=0.

C(0) = (0)2 + 250(0) + c

15,000 = 0 + 0 +c
c = 15000

Hence, the cost function is given by

C (x) = x2+250 x+15000

Then we can find the cost of producing 10 units

C (10) = (102) + 250(10)+15000

= Birr 17750

Example 2. The marginal average cost for producing x digital sports

watches (in dollars) is given by, ; and the average cost
of producing 100 digital watches is $25. Find the average cost
function and the cost function.

Solution. The average cost function is the antiderivative of the

marginal average cost

= 1000/x + c

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To find c we use the information of average cost of producing 100

digits is $ 25.
(100) = 1000/100 + c
25 = 10 + c
c = 15

Thus, the average cost function is (x) =

and the total cost function C(x) = x (x) = 1000 + 15x

7.3. THE DEFINITE INTEGRAL

In chapter 5 we have learned the geometric interpretation of

derivative as the slope of the tangent to the curve at a point.
Similarly, we will begin this section with discussions on the geometric
interpretation of definite integral as area underneath the graph of a
nonnegative function over an interval.

Consider the area under the graph y =x, above the x-axis bounded by
the lines x=0 and x=1 as shown in figure 7.1.

Figure 7.1 Area under the grapy y=x

The region whose area we want to compute is a triangle with base one
unit and height one unit. We know the area of a triangle is equal to
half

the product of the base and the height hence the area is

A = ½ x1 x 1= ½ = 0.5 square units

However to illustrate the idea of a definite integral we will approximate

this area by the area of some rectangles which lie underneath the

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graph, such as the rectangles in figure 7.2 (a). If we present this

approximate area by A using ≈ to mean approximately,

A ≈ 1/9 + 2/9= 1/3 = 0.333…

Figure 7.2. Approximation of area under the graph y=x, using

rectangles.

a) ( b)

( c) ( d)

In figure 7.2 (b) the interval [0 1] is divided into four equal

subintervals [0 ¼], [¼ ½], [½ ¾] and [¾ 1] to form four rectangles.
The width of each rectangle is the same ¼, but the height is different
for each and equals the functional values of the left hand end point of
each sub interval so that the rectangle fits underneath the graph.
Hence the heights are f(0), f(¼), f(½), f(¾). Adding up the areas of the
rectangles will provide an approximate area of

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A ≈ f(0)(¼) + f(¼)(¼) + f(½)(¼) + f(¾)(¼)

= 0(¼) + ¼(¼) + ½ (¼) + ¾ (¼)
=0+ 1/
16 +⅛+ 3/
16

= 6/
16

= 0 .375 units

Because some of the shaded regions are not included in the rectangles
this area is not also a good approximation of the exact area of the
triangle 0.5 units. To get a better approximation as shown in figure
7.2 (c), the interval between 0 and 1 is divided into eight equal parts
with more rectangles. The width of each rectangle is the same ⅛ and
as discussed above the height of each rectangle is different for each
and equals the left hand end point of each sub interval. The combined
area of the rectangles used to approximate the area of the triangle

A ≈ 0(⅛)+⅛ (⅛)+2/8(⅛)+⅜(⅛)+4/8(⅛)+⅝(⅛)+6/8(⅛)
+⅞(⅛)
=0+ 1/
64 + 2/
64 + 3/
64 + 4/
64 + 5/
64 + 6/
64 +7/64
= 28/
6

= 0. 4375 units

This is a better approximation to the exact area 0.5. In fact, if we

continue to divide the interval between 0 and l so as to use more
rectangles as shown in figure 7.2 (d) the approximation will be closer
to the actual area. In general let us divide the interval between 0 and
1 into n equal subintervals to get n rectangles.

Figure 7.3. Approximation of area under y=x using n

rectangles.

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Where, x0= 0, x1= 1/n, x2 = 2/n …xi = i/n…xn= n/n = 1

The width of each rectangle is 1/n and the height of the i th rectangle is
xi, the left hand of the subinterval since f(x i)= xi. The first rectangle
has left endpoint x0 = 0 while the last rectangle has left endpoint x n-1=
n-1/n.

Thus area of the ith rectangle is xi times 1/n and substituting i/n for x i
we get i/n2. Now the area A will be approximated by

A ≈ 0 + 1/n2 + 2/n2 + …+ n-1/ n2

Since 1/n2 is a common factor we have

A ≈ 1/n2 ( 1 + 2 + 3 + …+ n-1)

Recall that the sum in the bracket is an arithmetic sequence and it can
be computed using the formula for the sum of the first n natural
number given by

1 + 2 + 3 + …+ k =
Substituting k= n-1 we get,

Thus the approximate Area,

A=

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The approximation of area becomes more and more precise as the

number n of rectangles becomes larger and larger. Thus, in the above
approximation of area if we let n approaches infinity 1/2n approaches
to 0 and we obtain the actual area ½= 0.5. That is,

The method of the computation of area of the triangle by

approximation of sum of areas of rectangles is not as simple as using
the area formula which is readily available. However for most regions
under a graph no basic area formulas exist. Now let us apply the same
method to compute area under the graph of a continuous function f(x)
above the x-axis and between any two points a and b.

Figure 7.4. Computation of Area under the curve y= f(x)

We proceed by dividing the interval [a b] into n equal sub intervals

which will be used to form n rectangles over the area of the interest as
shown in figure 7.4. The width of each rectangle (b-a)/n is represented
by ∆x. Let xi* be any point in ith subinterval to compute the height of
the rectangle f(xi) corresponding to the sub interval (see figure 7.4) .
The approximate area A of the region is given by the sum of the areas
of the n rectangles, as

A ≈ f(x1) ∆x + f (x2) ∆x + …+ f(xn) ∆x

Using the sigma notation to represent the sum we have,

*
We can choose any point from each interval. If we choose the minimum value of f (x) in the sub interval
the rectangles will be underneath the graph with underestimated area. Similarly if we choose the maximum
value of f(x) in the sub interval the top of the rectangles will be above the graph with overestimated area.
However as n approaches infinity the top of the rectangles get closer and closer to being a straight line and
the approximated areas will approach to the actual area.

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A≈

To get a better estimation we will take n larger and larger and

consequently we will have smaller and smaller width. So, if we let n
approaches infinity the width ∆x approaches 0 and we will get the
exact area. In other words,

A=

The summation in the above formula is called the Riemann

sum and the limit is called the Riemann integral, or the definite

integral, from a to b of f(x). This integral is denoted by .

Thus we have the following definition of the definite integral.

Definition of a definite integral

Given a function f(x) that is continuous on the interval [a b]
divide the interval into n subintervals of equal width, ∆x.
Let xi be a point in the i th subinterval, then the definite
integral of f(x) from a to b is

The sigma notation ∑ is used to denote the sum of a discrete values

while, the definite integral denotes summation for continuous
functions. The number “a” that is at the bottom of the integral sign is
called the lower limit of the integral and the number “b” at the top of
the integral sign is called the upper limit of the integral. They are
referred as the limits of integration.

Example 1. Find area under the graph of f(x) = x2 from 0 to 1

Solution. We first divide the interval [0 1] into n equal sub intervals

which will be used to form n rectangles over the area of the interest.
The width of each subinterval ∆x = 1/n.

The n subintervals are; [0, 1/n], [1/n 2/n], [2/n, 3/n], …[n-1/n, 1]

For convenience of computation we choose the right –hand end point

(i/n) of the ith subinterval to determine the height of the rectangle
corresponding to the subinterval. Hence the value of the function
f(i/n)= (i/n)2 and the definite integral using the Riemann sum is

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= =

= 1/n3 using the rule

In order to evaluate the sum, we use the formula for sum of a

sequence consisting of squares given by,

Thus we get,

The evaluation of area using the limit of a Riemann sum as you have
seen is possible. However, this was tedious and requires a lot of work
and time, even for fairly simple functions. The following important
theorem which expresses the relation between indefinite integral and
definite integral is used to evaluate the definite integral.

FUNDAMENTAL THEOREM OF CALCULUS

Let f(x) be a continuous function on the interval [a b]. If F(x)

is any antiderivative of f on [a b] , then

= F(b) – F( a)

According to this theorem to evaluate a definite integral we first

determine an antiderivative F(x) of f(x). Then evaluate F(x) at x= a

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and x=b to obtain F(b) and F(a) respectively, and compute the
difference F(b)-F(a). The following notation is often used for the
definite integral

= = F (b) –F(a)

We can now evaluate the area under f(x)= x 2 from 0 to 1 in the

preceding example 1 using the fundamental theorem of calculus.
Because any two antiderivatives of the same function must differ by a
constant c, any antiderivative of f(x) = x 2 is given by F(x) = x3/3 + c.
Thus,

Area = =

Note that in computation of definite integral there is no need to

include the arbitrary constant of integration c. It will always cancels
out in the computation. It is also important to distinguish between a
definite integral which is a real number and an indefinite
integral which is a collection of functions- all the
antiderivatives of f(x).

Rules of integration discussed in section 7.1 will also apply for definite
integral. The following properties of definite integral are also
important in finding areas under a curve.

Definite integral properties

If f and g are continuous function on the interval [a b]

then,

1.

2. =

3. additive property

, Where a  c  b

Area between a curve and x-axis

In evaluating area using definite integral we have seen that the

function f must be continuous and nonnegative on the interval [a b]. If
these conditions are satisfied the area of the region bounded by the
curve y= f (x), x-axis, x=a and x=b is given by,

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A= = = F (b) –F(a)

This formula which expresses the relationship between an area under

a graph and the definite integral is applicable only when the conditions
are fulfilled. Area is by definition non negative but the definite integral
can be negative or zero. That is one of the reasons why we
require f(x)  0. To evaluate area of regions under other conditions
we use the properties of definite integral.

Example 2. Find the area bounded by f (x) = 4+3x-x2, the x-axis, x=

0 and x = 2.

Solution. The function is continuous and positive over the interval

[0 2], thus the required area is

= [4(2) + 3/2(2)2-(23/3)]-[4(0) + 3/2(0)2 -

03/3]
= (8 +6 - 8/3)- (0+0-0)
= 34/3 units

Example 3. Find the area bounded by the function f(x)=1-x 2 and x-

axis

Solution. In this problem the endpoints of the interval over which

the area is to be computed are not given. Sketch will be helpful to find
the interval endpoints over which the region is defined. The graph of
f(x) is a parabola opening downwards as shown below.

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Thus, the limits of integration are the y- intercepts which can be found
by solving the equation
1-x2 = 0
x2 =1
x = -1 , x =1

The area of the region bounded by f(x) and x-axis is, thus, given by,

A=

= [1- (1/3)]-[-1-(-1/3)]
= 2/3 +2/3
= 4/3 units

To find area when f(x) is negative over the interval [a b].Consider area
of the region bounded by x-axis and the function f (x) = x2 -1 shown
below.

The graph is below the x-axis, hence is negative. However

the region in this figure and the region in example 3 above are
symmetric with respect to the x-axis (1-x 2 = -(x2 -1)) and they have the
same area. So we can use the definite integral of the positive function
1-x2 over the interval [-1 1] to find the required area of the region in
this example.

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A=

Thus we use the following property to find area that lies below x-axis.

If f is a continuous function and negative for all x in [a b] (that

is, whose graph lies below x-axis) then the area bounded by
f(x), x-axis, x=a and x=b is given by

A=- =

Finally if f (x) is continuous and is positive for some values of x and

negative for others, the area bounded by f (x), x- axis, x=a and x=b
can be obtained using the additive property of definite integral
(property 3 of definite integral) by dividing [a b] into intervals over
which f is positive and f is negative.

Example 4. Find the area bounded by x2 –4x, x-axis, x=1 and x=3

Solution. First we sketch the graph of f(x).

From the sketch of the graph we see that f(x)  0 for all x in [1 3], so
the area of the required region is

A=

=
= 22/3 units

Example 5. Find the area bounded by f(x) = 2x, x-axis, x=0 and x = -
3

Solution. The sketch of the graph is

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The required region lies below x-axis, that is f (x)  0 for all x in [-3, 0]
thus area of the required region

A=

=
= 9 units

We could have found this area by using the area formula of a triangle
with base 3 units and height 6 units.

A = ½ x 3 x 6= 9

Example 6. Find the area between f(x) = x2 – 2x, x-axis, x=-2 and
x=2

Solution. First we sketch the graph of f.

From the graph we see that f (x)  0 on the interval [-2 0] and f (x)  0
on [0 2]. Hence to find the required area, we must compute the
definite integral above the x-axis (A1) and the definite integral for the

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area below the x-axis (A2) and add the results of the definite integrals.
Hence,

A = A1 + A 2

= 20/3 + 4/3
= 8 units

Example 7. Find the area bounded by f(x) = x3-x and x-axis

Solution. The graph of f (x) intersects the x-axis at the points where
f (x) = 0. Hence endpoints of the interval can be obtained by solving,

x3-x = 0
x(x2-1) =0
x=0, x= -1, x=1

Thus the sketch of the graph is

From the sketch of the graph we see that f(x)  0 on [-1 0] and f(x) 0
on [0 1]. Hence the area of the required region is

A = A 1 + A2

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=¼+¼
= ½ units

Area between two curves

Suppose f (x) and g(x) are continuous function with f(x)  g(x) for all x
in [a, b]. That is the graph of f lies above the graph of g as shown
below.

The area bounded by the two curves is equal to area under f (x) minus
area under g(x). Using definite integral we can write as

Or A =

This formula also applies to any two continuous functions f and g

which are not positive over [a b] as stated below.

If f and g are continuous functions and f (x)  g(x) over the

interval [a b], then the area bounded by the curves y= f(x) and
y = g(x), x= a and x=b is given by,

A=

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It is important to note that the region can be below or above the x-

axis however, you need to identify which function is greater in the
interval. Also make sure that the smaller function g is subtracted from
the larger function f. Otherwise the evaluation of the area will provide
a negative area. In any computation of area a negative answer
indicates that you have made an error hence you should go back and
check your work carefully.

Example 8. Find the area bounded by f(x)=10 and g(x) = x 2 +1.

Solution. The graph of g(x) is a parabola opening upwards and the

graph of f is a horizontal line passing through y=10. The sketch of the
required region is

The values of a and b are the x-coordinates of the points of

intersection of f(x) and g(x) obtained by solving
g (x) = f(x)
x2 +1 = 10
x2= 9
x=-3, x=3
Hence the limits of integration are; a= -3 and b= 3, and f (x)  g(x)
over the interval [-3 3], Thus, the area of the required region is

A =

= 36 units

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Example 9. Find the area enclosed by the curves f(x)= x2- 4 and
g(x) = 2x -1
Solution. The sketch of the required region is

The line g(x) is above the parabola hence (g (x) f (x)), thus, area of
the required region is

A=

The values of a and b can be obtained by solving

f(x) = g (x)
x2- 4 = 2x-1
x2 -2x-3 = 0
(x +1) (x-3) = 0
x =-1, x = 3
Hence the limit of integration are a= -1 and b= 3. Therefore,

A=

= 32/3 units

Example 10. Find the area bounded by f(x)= -x2 and g(x)= x2-8

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Solution. f is a parabola opening downwards and g is a parabola

opening upwards. The sketch of the curves and region enclosed by the
curves is given below.

The values of a and b are the intersection of the two functions. These
values are determine by solving,

f (x) = g(x)
-x2 = x2 -8
-2x2 = -8
x2 = 4
x=-2 , x=2
Thus, the limits of integration are a= -2 and b=2 and f(x)  g(x) over
the interval [-2 2], hence, the area is given by

A=

= 64/3 units

Example 11. Find the area bounded by f (x) = x3-x and g(x)= 3x

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Solution. The following sketch shows the region bounded by f(x) and g
(x)

We first determine the limit of integrations, that is the values of x

where the curves intersect by solving,

f (x) = g(x)
x3-x = 3x
x3-x-3x = 0
x3 -4x = 0
x ( x2 -4) =0
x = -2, x = 0, x=2

Notice that from -2 to 0, f (x)  g(x) and from 0 to 2, g (x)  f (x),

hence we must break this problem into two definite integrals and add
the results.

A = A1 + A2

= 8 units

7.4. APPLICATION OF DEFINITE INTEGRAL

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In section 7.2 given a marginal function, such as marginal cost,

marginal revenue, marginal demand etc we have seen how to
determine the total function F(x) by finding the indefinite integral of
the marginal function f(x). In this section we will see how we evaluate
the change in total function over the interval from a to b. The
applications we consider are only a small sample of numerous
important applications of definite integral. There are many
applications of the definite integral in economics, consumption of
resources, probability theory etc.

Example 1. Suppose the marginal revenue function for a product is

given by R'(x) = 600 – 0.3x. Where the marginal revenue is in birr
and x is the number of products sold. To find the total change in sales
from sales of 100 units to sales of 200 units we first find the total
revenue function given by the indefinite integral,

R(x) =
= 600x - 0.15 x2 + c
Thus, the total revenue obtained from sales of 200 units and from
sales of 100 units are,
R(200) = 600(200)- (0.15) (200)2 + c = 114000 + c
R(100) = 600(100)- (0.15) (100)2 + c = 58500 + c
Therefore, the total change in revenue is R(200)- R(100)= Birr 55500.
The constant c canceled out so we don’t need to know the value of
constant of integration c. Note that this is equal to the value of the

definite integral, .

In general we can determine the change in total revenue as sales

change from x=a to x=b units by finding the definite integral of the
marginal revenue function from a to b. For instance the change in
total revenue if sales increased from 50 units to 60 units is determined
by evaluating,

= Birr 5835

In general, if the rate of change F'(x) of F (x) is continuous on the

interval [a b], then the definite integral gives the change in
value of F(x) as x varies from a to b. the following examples will
illustrate this concept.

Example 2. A firm has determined that its marginal cost at a

production level of x units in hundreds of Birr is given by, C′ (x) = 10

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Integral calculus AAUCC, 2010

+ . Find the increase in total cost if production increases from 30 to

35 units.

Solution. Integrating the marginal cost function over the interval

[30 35], we obtain the change in cost as production increases from
30 to 35.

= Birr 50.76
Thus, total cost would increase by Birr 5076 if production increases
from 30 to 35 units.

Example 3. Maintenance costs for an apartment house generally

increase as the building gets older. From past records, maintenance
costs for a particular apartment are expected to increase at the rate
M′(t) = 90 t2 +5000, where t is the age of apartment in years and M′(t)
is the rate of increase in Birr per year. What will be the total
(accumulated) maintenance cost from 2 to 7 years after the apartment
house was built.

Solution. Given the age of the apartment is t years, the total

(accumulated) cost of maintenance for t years is M(t) thus, total
maintenance costs from 2 to 7 years is given by,

= Birr 35050

Thus, total maintenance cost over the 6 years from the 2 nd to the 7th
year since the apartment was built is Birr 35050. That is the
accumulated maintenance cost during 2nd, 3rd, 4th up to the 7th year.

Example 4. Demand of a product decreases as the price of the

product increases. Given the marginal demand for a product by,
D′ (x) = 50x-850. Where x is price per unit, in birr, what is the effect on
total demand when price increases from Birr 4 per unit to Birr 5 per
unit?

Solution. Integrating the marginal demand function over the interval

[4 5], we obtain the change in total demand as price increases from
Birr 4 to Birr 5.

= - 625 units

Thus, as price of the product increases from Birr 4 to Birr 5, the

number of quantity sold decreases by 625 units.

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Integral calculus AAUCC, 2010

Example 5. A new piece of industrial equipment will depreciate in

value rapidly at first, then less rapidly as time goes on. Suppose the
rate (in birr per year) at which the book value of a new milling
machine changes is given approximately by, V′(t) = 500(t-12) for 0 t
10. Where t represents the number of years the machine was in use.
Find the total loss in value of the machine in the first 5 years.

Solution. V(t) represents the value of the machine after t years.

Hence integrating the rate function V′(t) over the interval [0 5] , we
obtain the total loss in value of the machine in the first 5 years.

= - Birr 23750

Thus, the total loss in value of the machine in the first 5 years is Birr
23,750. That is the book value of the machine after 5 years will be the
original value of the machine less Birr 23750.

The total loss in value of the machine in the second 5 years is,
.

= - Birr 11250
Thus, the total loss in value of the machine in the second 5 years is
Birr 11250 which is less than that of in the first 5 years. So the
machine depreciates in value less rapidly as time increases.

Example 6. ABC Company has recently purchased a new equipment

that will generate additional income at the rate of

f (t) = 16 + 2t

Maintenance and repair costs for the equipment are expected to

increase at the rate of
g (t) = 7 + 3.5t

Where t is the number of years the equipment has been in operation, f

(t) is marginal income and g(t) is marginal maintenance and repair
costs. Both rates are in thousands birr per year. Find the optimum
time to terminate the operation. What will be the total net savings at
this optimal time of termination?

Solution. The operation should be continued as long as income per

year exceeds maintenance and repair costs per year. This situation
exists up until additional annual income generated equals the annual

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Integral calculus AAUCC, 2010

cost of maintenance and repair. Hence the optimum time of operation

can be obtained by solving,
f(t) = g(t)
16 + 2t = 7 + 3.5t
2t - 3.5t = 7-16
1.5 t = 9
t = 6 years

Total net savings are changing at the rate of f (t)-g(t) per year, thus,
total net earnings over the first 6 years is given by,

= 27
Thus, total net earnings over 6 years will be Birr 27,000.
Geometrically, this is the area of the region bounded by the marginal
revenue, the marginal maintenance and repair costs function, over the
interval [0 6] as shown below.

EXERCISES

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 Integral calculus AAUCC, 2010

1. Evaluate the integral

a) b) c)

d) e)

2. What should be ‘k’ so that = 8?

3. a) Find the area of the region enclosed by the curve f(x) = x and g(x)
=x2.
b) Find the area of the region enclosed by the curve y = 1- x2 and y = 0
c) Find the area of the region enclosed by the curve y=x2-3x+ 2 and x-
axis
d) Find the area bounded by f(x) = x3- 3x2+ 2x and the x-axis.

4. The marginal cost per day for a factory is C’(x) = 3/5 x2 + 2x + 3 with
a fixed cost of Birr 420 per day. Find the total cost function

209
Appendix AAUCC, 2010

APPENDIX

Table 1: Value of compound amount

Table 2: Value of present value of a compound interest
Table 3: Values of amount of an annuity s n┐i

Table 4: Value of 1/ s n┐i

Table 5: Present value of an annuity a n┐i

Table 6: Value of 1/ a n┐i

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 Appendix AAUCC, 2010

Table 1. Value of (1+i)n

n/i 1% 1.5% 2% 3% 4% 5% 6% 8%
1 1.010000 1.015000 1.020000 1.030000 1.040000 1.050000 1.060000 1.080000
2 1.020100 1.030225 1.040400 1.060900 1.081600 1.102500 1.123600 1.166400
3 1.030301 1.045678 1.061208 1.092727 1.124864 1.157625 1.191016 1.259712
4 1.040604 1.061364 1.082432 1.125509 1.169859 1.215506 1.262477 1.360489
5 1.051010 1.077284 1.104081 1.159274 1.216653 1.276282 1.338226 1.469328
6 1.061520 1.093443 1.126162 1.194052 1.265319 1.340096 1.418519 1.586874
7 1.072135 1.109845 1.148686 1.229874 1.315932 1.407100 1.503630 1.713824
8 1.082857 1.126493 1.171659 1.266770 1.368569 1.477455 1.593848 1.850930
9 1.093685 1.143390 1.195093 1.304773 1.423312 1.551328 1.689479 1.999005
10 1.104622 1.160541 1.218994 1.343916 1.480244 1.628895 1.790848 2.158925
11 1.115668 1.177949 1.243374 1.384234 1.539454 1.710339 1.898299 2.331639
12 1.126825 1.195618 1.268242 1.425761 1.601032 1.795856 2.012196 2.518170
13 1.138093 1.213552 1.293607 1.468534 1.665074 1.885649 2.132928 2.719624
14 1.149474 1.231756 1.319479 1.512590 1.731676 1.979932 2.260904 2.937194
15 1.160969 1.250232 1.345868 1.557967 1.800944 2.078928 2.396558 3.172169
16 1.172579 1.268986 1.372786 1.604706 1.872981 2.182875 2.540352 3.425943
17 1.184304 1.288020 1.400241 1.652848 1.947900 2.292018 2.692773 3.700018
18 1.196147 1.307341 1.428246 1.702433 2.025817 2.406619 2.854339 3.996019
19 1.208109 1.326951 1.456811 1.753506 2.106849 2.526950 3.025600 4.315701
20 1.220190 1.346855 1.485947 1.806111 2.191123 2.653298 3.207135 4.660957
21 1.232392 1.367058 1.515666 1.860295 2.278768 2.785963 3.399564 5.033834
22 1.244716 1.387564 1.545980 1.916103 2.369919 2.925261 3.603537 5.436540
23 1.257163 1.408377 1.576899 1.973587 2.464716 3.071524 3.819750 5.871464
24 1.269735 1.429503 1.608437 2.032794 2.563304 3.225100 4.048935 6.341181
25 1.282432 1.450945 1.640606 2.093778 2.665836 3.386355 4.291871 6.848475
26 1.295256 1.472710 1.673418 2.156591 2.772470 3.555673 4.549383 7.396353
27 1.308209 1.494800 1.706886 2.221289 2.883369 3.733456 4.822346 7.988061
28 1.321291 1.517222 1.741024 2.287928 2.998703 3.920129 5.111687 8.627106
29 1.334504 1.539981 1.775845 2.356566 3.118651 4.116136 5.418388 9.317275
30 1.347849 1.563080 1.811362 2.427262 3.243398 4.321942 5.743491 10.062657
31 1.361327 1.586526 1.847589 2.500080 3.373133 4.538039 6.088101 10.867669
32 1.374941 1.610324 1.884541 2.575083 3.508059 4.764941 6.453387 11.737083
33 1.388690 1.634479 1.922231 2.652335 3.648381 5.003189 6.840590 12.676050
34 1.402577 1.658996 1.960676 2.731905 3.794316 5.253348 7.251025 13.690134
35 1.416603 1.683881 1.999890 2.813862 3.946089 5.516015 7.686087 14.785344
36 1.430769 1.709140 2.039887 2.898278 4.103933 5.791816 8.147252 15.968172
37 1.445076 1.734777 2.080685 2.985227 4.268090 6.081407 8.636087 17.245626
38 1.459527 1.760798 2.122299 3.074783 4.438813 6.385477 9.154252 18.625276
39 1.474123 1.787210 2.164745 3.167027 4.616366 6.704751 9.703507 20.115298
40 1.488864 1.814018 2.208040 3.262038 4.801021 7.039989 10.285718 21.724521
41 1.503752 1.841229 2.252200 3.359899 4.993061 7.391988 10.902861 23.462483
42 1.518790 1.868847 2.297244 3.460696 5.192784 7.761588 11.557033 25.339482
43 1.533978 1.896880 2.343189 3.564517 5.400495 8.149667 12.250455 27.366640
44 1.549318 1.925333 2.390053 3.671452 5.616515 8.557150 12.985482 29.555972
45 1.564811 1.954213 2.437854 3.781596 5.841176 8.985008 13.764611 31.920449
46 1.580459 1.983526 2.486611 3.895044 6.074823 9.434258 14.590487 34.474085
47 1.596263 2.013279 2.536344 4.011895 6.317816 9.905971 15.465917 37.232012
48 1.612226 2.043478 2.587070 4.132252 6.570528 10.401270 16.393872 40.210573
49 1.628348 2.074130 2.638812 4.256219 6.833349 10.921333 17.377504 43.427419
50 1.644632 2.105242 2.691588 4.383906 7.106683 11.467400 18.420154 46.901613
Table 2. Value of (1+i)-n

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 Appendix AAUCC, 2010

n/i 1% 1.5% 2% 3% 4% 5% 6% 8%
0.98522 0.98039 0.96153
1 0.990099 2 2 0.970874 8 0.952381 0.943396 0.925926
0.97066 0.96116 0.92455
2 0.980296 2 9 0.942596 6 0.907029 0.889996 0.857339
0.95631 0.94232 0.88899
3 0.970590 7 2 0.915142 6 0.863838 0.839619 0.793832
0.94218 0.92384 0.85480
4 0.960980 4 5 0.888487 4 0.822702 0.792094 0.735030
0.92826 0.90573 0.82192
5 0.951466 0 1 0.862609 7 0.783526 0.747258 0.680583
0.91454 0.88797 0.79031
6 0.942045 2 1 0.837484 5 0.746215 0.704961 0.630170
0.90102 0.87056 0.75991
7 0.932718 7 0 0.813092 8 0.710681 0.665057 0.583490
0.88771 0.85349 0.73069
8 0.923483 1 0 0.789409 0 0.676839 0.627412 0.540269
0.87459 0.83675 0.70258
9 0.914340 2 5 0.766417 7 0.644609 0.591898 0.500249
0.86166 0.82034 0.67556
10 0.905287 7 8 0.744094 4 0.613913 0.558395 0.463193
0.84893 0.80426 0.64958
11 0.896324 3 3 0.722421 1 0.584679 0.526788 0.428883
0.83638 0.78849 0.62459
12 0.887449 7 3 0.701380 7 0.556837 0.496969 0.397114
0.82402 0.77303 0.60057
13 0.878663 7 3 0.680951 4 0.530321 0.468839 0.367698
0.81184 0.75787 0.57747
14 0.869963 9 5 0.661118 5 0.505068 0.442301 0.340461
0.79985 0.74301 0.55526
15 0.861349 2 5 0.641862 5 0.481017 0.417265 0.315242
0.78803 0.72844 0.53390
16 0.852821 1 6 0.623167 8 0.458112 0.393646 0.291890
0.77638 0.71416 0.51337
17 0.844377 5 3 0.605016 3 0.436297 0.371364 0.270269
0.76491 0.70015 0.49362
18 0.836017 2 9 0.587395 8 0.415521 0.350344 0.250249
0.75360 0.68643 0.47464
19 0.827740 7 1 0.570286 2 0.395734 0.330513 0.231712
0.74247 0.67297 0.45638
20 0.819544 0 1 0.553676 7 0.376889 0.311805 0.214548
0.73149 0.65977 0.43883
21 0.811430 8 6 0.537549 4 0.358942 0.294155 0.198656
0.72068 0.64683 0.42195
22 0.803396 8 9 0.521893 5 0.341850 0.277505 0.183941
0.71003 0.63415 0.40572
23 0.795442 7 6 0.506692 6 0.325571 0.261797 0.170315
0.69954 0.62172 0.39012
24 0.787566 4 1 0.491934 1 0.310068 0.246979 0.157699
0.68920 0.60953 0.37511
25 0.779768 6 1 0.477606 7 0.295303 0.232999 0.146018
0.67902 0.59757 0.36068
26 0.772048 1 9 0.463695 9 0.281241 0.219810 0.135202
0.66898 0.58586 0.34681
27 0.764404 6 2 0.450189 7 0.267848 0.207368 0.125187
0.65909 0.57437 0.33347
28 0.756836 9 5 0.437077 7 0.255094 0.195630 0.115914

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 Appendix AAUCC, 2010

n/i 1% 1.5% 2% 3% 4% 5% 6% 8%
0.64935 0.56311 0.32065
29 0.749342 9 2 0.424346 1 0.242946 0.184557 0.107328
0.63976 0.55207 0.30831
30 0.741923 2 1 0.411987 9 0.231377 0.174110 0.099377
0.63030 0.54124 0.29646
31 0.734577 8 6 0.399987 0 0.220359 0.164255 0.092016
0.62099 0.53063 0.28505
32 0.727304 3 3 0.388337 8 0.209866 0.154957 0.085200
0.61181 0.52022 0.27409
33 0.720103 6 9 0.377026 4 0.199873 0.146186 0.078889
0.60277 0.51002 0.26355
34 0.712973 4 8 0.366045 2 0.190355 0.137912 0.073045
0.59386 0.50002 0.25341
35 0.705914 6 8 0.355383 5 0.181290 0.130105 0.067635
0.58509 0.49022 0.24366
36 0.698925 0 3 0.345032 9 0.172657 0.122741 0.062625
0.57644 0.48061 0.23429
37 0.692005 3 1 0.334983 7 0.164436 0.115793 0.057986
0.56792 0.47118 0.22528
38 0.685153 4 7 0.325226 5 0.156605 0.109239 0.053690
0.55953 0.46194 0.21662
39 0.678370 1 8 0.315754 1 0.149148 0.103056 0.049713
0.55126 0.45289 0.20828
40 0.671653 2 0 0.306557 9 0.142046 0.097222 0.046031
0.54311 0.44401 0.20027
41 0.665003 6 0 0.297628 8 0.135282 0.091719 0.042621
0.53508 0.43530 0.19257
42 0.658419 9 4 0.288959 5 0.128840 0.086527 0.039464
0.52718 0.42676 0.18516
43 0.651900 2 9 0.280543 8 0.122704 0.081630 0.036541
0.51939 0.41840 0.17804
44 0.645445 1 1 0.272372 6 0.116861 0.077009 0.033834
0.51171 0.41019 0.17119
45 0.639055 5 7 0.264439 8 0.111297 0.072650 0.031328
0.50415 0.40215 0.16461
46 0.632728 3 4 0.256737 4 0.105997 0.068538 0.029007
0.49670 0.39426 0.15828
47 0.626463 2 8 0.249259 3 0.100949 0.064658 0.026859
0.48936 0.38653 0.15219
48 0.620260 2 8 0.241999 5 0.096142 0.060998 0.024869
0.48213 0.37895 0.14634
49 0.614119 0 8 0.234950 1 0.091564 0.057546 0.023027
0.47500 0.37152 0.14071
50 0.608039 5 8 0.228107 3 0.087204 0.054288 0.021321
n
Table 3. Value of s n┐i = ((1+i) – 1)/i

n/i 1% 1.5% 2% 3% 4% 5% 6% 8%
1 1.000000 1.000000 1.000000 1.000000 1.000000 1.000000 1.000000 1.00000
2 2.010000 2.015000 2.020000 2.030000 2.040000 2.050000 2.060000 2.08000
3 3.030100 3.045225 3.060400 3.090900 3.121600 3.152500 3.183600 3.24640
4 4.060401 4.090903 4.121608 4.183627 4.246464 4.310125 4.374616 4.50611
5 5.101005 5.152267 5.204040 5.309136 5.416323 5.525631 5.637093 5.86660
6 6.152015 6.229551 6.308121 6.468410 6.632975 6.801913 6.975319 7.33592
7 7.213535 7.322994 7.434283 7.662462 7.898294 8.142008 8.393838 8.92280
8 8.285671 8.432839 8.582969 8.892336 9.214226 9.549109 9.897468 10.6366
9 9.368527 9.559332 9.754628 10.159106 10.582795 11.026564 11.491316 12.4875
10 10.46221 10.70272 10.94972 11.463879 12.006107 12.577893 13.180795 14.4865

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 Appendix AAUCC, 2010

3 2 1
11 11.56683 11.86326 12.16871 12.807796 13.486351 14.206787 14.971643 16.6454
5 2 5
12 12.68250 13.04121 13.41209 14.192030 15.025805 15.917127 16.869941 18.9771
3 1 0
13 13.80932 14.23683 14.68033 15.617790 16.626838 17.712983 18.882138 21.4952
8 0 2
14 14.94742 15.45038 15.97393 17.086324 18.291911 19.598632 21.015066 24.2149
1 2 8
15 16.09689 16.68213 17.29341 18.598914 20.023588 21.578564 23.275970 27.1521
6 8 7
16 17.25786 17.93237 18.63928 20.156881 21.824531 23.657492 25.672528 30.3242
4 0 5
17 18.43044 19.20135 20.01207 21.761588 23.697512 25.840366 28.212880 33.7502
3 5 1
18 19.61474 20.48937 21.41231 23.414435 25.645413 28.132385 30.905653 37.4502
8 6 2
19 20.81089 21.79671 22.84055 25.116868 27.671229 30.539004 33.759992 41.4462
5 6 9
20 22.01900 23.12366 24.29737 26.870374 29.778079 33.065954 36.785591 45.7619
4 7 0
21 23.23919 24.47052 25.78331 28.676486 31.969202 35.719252 39.992727 50.4229
4 2 7
22 24.47158 25.83758 27.29898 30.536780 34.247970 38.505214 43.392290 55.4567
6 0 4
23 25.71630 27.22514 28.84496 32.452884 36.617889 41.430475 46.995828 60.8932
2 4 3
24 26.97346 28.63352 30.42186 34.426470 39.082604 44.501999 50.815577 66.7647
5 1 2
25 28.24320 30.06302 32.03030 36.459264 41.645908 47.727099 54.864512 73.1059
0 4 0
26 29.52563 31.51396 33.67090 38.553042 44.311745 51.113454 59.156383 79.9544
1 9 6
27 30.82088 32.98667 35.34432 40.709634 47.084214 54.669126 63.705766 87.3507
8 8 4
28 32.12909 34.48147 37.05121 42.930923 49.967583 58.402583 68.528112 95.3388
7 9 0
29 33.45038 35.99870 38.79223 45.218850 52.966286 62.322712 73.639798 103.965
8 1 5 6
30 34.78489 37.53868 40.56807 47.575416 56.084938 66.438848 79.058186 113.283
2 1 9 1
31 36.13274 39.10176 42.37944 50.002678 59.328335 70.760790 84.801677 123.345
0 2 1 8
32 37.49406 40.68828 44.22703 52.502759 62.701469 75.298829 90.889778 134.213
8 8 0 7
33 38.86900 42.29861 46.11157 55.077841 66.209527 80.063771 97.343165 145.950
9 2 0 0
34 40.25769 43.93309 48.03380 57.730177 69.857909 85.066959 104.18375 158.626
9 2 2 5 0
35 41.66027 45.59208 49.99447 60.462082 73.652225 90.320307 111.43478 172.316
6 8 8 0 4
36 43.07687 47.27596 51.99436 63.275944 77.598314 95.836323 119.12086 187.102
8 9 7 7 8
37 44.50764 48.98510 54.03425 66.174223 81.702246 101.62813 127.26811 203.070
7 9 5 9 9 0
38 45.95272 50.71988 56.11494 69.159449 85.970336 107.70954 135.90420 220.315
4 5 0 6 6 5
39 47.41225 52.48068 58.23723 72.234233 90.409150 114.09502 145.05845 238.941
1 4 8 3 8 1

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 Appendix AAUCC, 2010

40 48.88637 54.26789 60.40198 75.401260 95.025516 120.79977 154.76196 259.056

3 4 3 4 6 9
41 50.37523 56.08191 62.61002 78.663298 99.826536 127.83976 165.04768 280.781
7 2 3 3 4 0
42 51.87898 57.92314 64.86222 82.023196 104.81959 135.23175 175.95054 304.243
9 1 3 8 1 5 3
43 53.39777 59.79198 67.15946 85.483892 110.01238 142.99333 187.50757 329.583
9 8 8 2 9 7 5
44 54.93175 61.68886 69.50265 89.048409 115.41287 151.14300 199.75803 356.949
7 8 7 7 6 2 6
45 56.48107 63.61420 71.89271 92.719861 121.02939 159.70015 212.74351 386.505
5 1 0 2 6 4 7
46 58.04588 65.56841 74.33056 96.501457 126.87056 168.68516 226.50812 418.426
5 4 4 8 4 5 7
47 59.62634 67.55194 76.81717 100.39650 132.94539 178.11942 241.09861 452.900
4 0 6 1 0 2 2 2
48 61.22260 69.56521 79.35351 104.40839 139.26320 188.02539 256.56452 490.132
8 9 9 6 6 3 9 4
49 62.83483 71.60869 81.94059 108.54064 145.83373 198.42666 272.95840 530.342
4 8 0 8 4 3 1 7
50 64.46318 73.68282 84.57940 112.79686 152.66708 209.34799 290.33590 573.770
2 8 1 7 4 6 5 6

Table 4. Value of 1/s n┐i = i/((1+i)n – 1)

n/i 1% 1.50% 2% 3% 4% 5% 6% 8%
1 1.000000 1.000000 1.000000 1.000000 1.000000 1.000000 1.000000 1.000000
2 0.497512 0.496278 0.495050 0.492611 0.490196 0.487805 0.485437 0.480769
3 0.330022 0.328383 0.326755 0.323530 0.320349 0.317209 0.314110 0.308034
4 0.246281 0.244445 0.242624 0.239027 0.235490 0.232012 0.228591 0.221921
5 0.196040 0.194089 0.192158 0.188355 0.184627 0.180975 0.177396 0.170456
6 0.162548 0.160525 0.158526 0.154598 0.150762 0.147017 0.143363 0.136315
7 0.138628 0.136556 0.134512 0.130506 0.126610 0.122820 0.119135 0.112072
8 0.120690 0.118584 0.116510 0.112456 0.108528 0.104722 0.101036 0.094015
9 0.106740 0.104610 0.102515 0.098434 0.094493 0.090690 0.087022 0.080080
10 0.095582 0.093434 0.091327 0.087231 0.083291 0.079505 0.075868 0.069029
11 0.086454 0.084294 0.082178 0.078077 0.074149 0.070389 0.066793 0.060076
12 0.078849 0.076680 0.074560 0.070462 0.066552 0.062825 0.059277 0.052695
13 0.072415 0.070240 0.068118 0.064030 0.060144 0.056456 0.052960 0.046522
14 0.066901 0.064723 0.062602 0.058526 0.054669 0.051024 0.047585 0.041297
15 0.062124 0.059944 0.057825 0.053767 0.049941 0.046342 0.042963 0.036830
16 0.057945 0.055765 0.053650 0.049611 0.045820 0.042270 0.038952 0.032977
17 0.054258 0.052080 0.049970 0.045953 0.042199 0.038699 0.035445 0.029629
18 0.050982 0.048806 0.046702 0.042709 0.038993 0.035546 0.032357 0.026702
19 0.048052 0.045878 0.043782 0.039814 0.036139 0.032745 0.029621 0.024128
20 0.045415 0.043246 0.041157 0.037216 0.033582 0.030243 0.027185 0.021852
21 0.043031 0.040865 0.038785 0.034872 0.031280 0.027996 0.025005 0.019832
22 0.040864 0.038703 0.036631 0.032747 0.029199 0.025971 0.023046 0.018032
23 0.038886 0.036731 0.034668 0.030814 0.027309 0.024137 0.021278 0.016422
24 0.037073 0.034924 0.032871 0.029047 0.025587 0.022471 0.019679 0.014978
25 0.035407 0.033263 0.031220 0.027428 0.024012 0.020952 0.018227 0.013679
26 0.033869 0.031732 0.029699 0.025938 0.022567 0.019564 0.016904 0.012507
27 0.032446 0.030315 0.028293 0.024564 0.021239 0.018292 0.015697 0.011448
28 0.031124 0.029001 0.026990 0.023293 0.020013 0.017123 0.014593 0.010489
29 0.029895 0.027779 0.025778 0.022115 0.018880 0.016046 0.013580 0.009619

215
 Appendix AAUCC, 2010

n/i 1% 1.50% 2% 3% 4% 5% 6% 8%
30 0.028748 0.026639 0.024650 0.021019 0.017830 0.015051 0.012649 0.008827
31 0.027676 0.025574 0.023596 0.019999 0.016855 0.014132 0.011792 0.008107
32 0.026671 0.024577 0.022611 0.019047 0.015949 0.013280 0.011002 0.007451
33 0.025727 0.023641 0.021687 0.018156 0.015104 0.012490 0.010273 0.006852
34 0.024840 0.022762 0.020819 0.017322 0.014315 0.011755 0.009598 0.006304
35 0.024004 0.021934 0.020002 0.016539 0.013577 0.011072 0.008974 0.005803
36 0.023214 0.021152 0.019233 0.015804 0.012887 0.010434 0.008395 0.005345
37 0.022468 0.020414 0.018507 0.015112 0.012240 0.009840 0.007857 0.004924
38 0.021761 0.019716 0.017821 0.014459 0.011632 0.009284 0.007358 0.004539
39 0.021092 0.019055 0.017171 0.013844 0.011061 0.008765 0.006894 0.004185
40 0.020456 0.018427 0.016556 0.013262 0.010523 0.008278 0.006462 0.003860
41 0.019851 0.017831 0.015972 0.012712 0.010017 0.007822 0.006059 0.003561
42 0.019276 0.017264 0.015417 0.012192 0.009540 0.007395 0.005683 0.003287
43 0.018727 0.016725 0.014890 0.011698 0.009090 0.006993 0.005333 0.003034
44 0.018204 0.016210 0.014388 0.011230 0.008665 0.006616 0.005006 0.002802
45 0.017705 0.015720 0.013910 0.010785 0.008262 0.006262 0.004700 0.002587
46 0.017228 0.015251 0.013453 0.010363 0.007882 0.005928 0.004415 0.002390
47 0.016771 0.014803 0.013018 0.009961 0.007522 0.005614 0.004148 0.002208
48 0.016334 0.014375 0.012602 0.009578 0.007181 0.005318 0.003898 0.002040
49 0.015915 0.013965 0.012204 0.009213 0.006857 0.005040 0.003664 0.001886
50 0.015513 0.013572 0.011823 0.008865 0.006550 0.004777 0.003444 0.001743

Table 5 Value of a n┐i = (1-(1+i)-n)/i

n/i 1% 1.5% 2% 3% 4% 5% 6% 8%
1 0.990099 0.985222 0.980392 0.970874 0.961538 0.952381 0.943396 0.925926
2 1.970395 1.955883 1.941561 1.913470 1.886095 1.859410 1.833393 1.783265
3 2.940985 2.912200 2.883883 2.828611 2.775091 2.723248 2.673012 2.577097
4 3.901966 3.854385 3.807729 3.717098 3.629895 3.545951 3.465106 3.312127
5 4.853431 4.782645 4.713460 4.579707 4.451822 4.329477 4.212364 3.992710
6 5.795476 5.697187 5.601431 5.417191 5.242137 5.075692 4.917324 4.622880
7 6.728195 6.598214 6.471991 6.230283 6.002055 5.786373 5.582381 5.206370
8 7.651678 7.485925 7.325481 7.019692 6.732745 6.463213 6.209794 5.746639
9 8.566018 8.360517 8.162237 7.786109 7.435332 7.107822 6.801692 6.246888
10 9.471305 9.222185 8.982585 8.530203 8.110896 7.721735 7.360087 6.710081
10.36762 10.07111
11 8 8 9.786848 9.252624 8.760477 8.306414 7.886875 7.138964
11.25507 10.90750 10.57534
12 7 5 1 9.954004 9.385074 8.863252 8.383844 7.536078
12.13374 11.73153 11.34837 10.63495
13 0 2 4 5 9.985648 9.393573 8.852683 7.903776
13.00370 12.54338 12.10624 11.29607 10.56312
14 3 2 9 3 3 9.898641 9.294984 8.244237
13.86505 13.34323 12.84926 11.93793 11.11838 10.37965
15 3 3 4 5 7 8 9.712249 8.559479
14.71787 14.13126 13.57770 12.56110 11.65229 10.83777 10.10589
16 4 4 9 2 6 0 5 8.851369
15.56225 14.90764 14.29187 13.16611 12.16566 11.27406 10.47726
17 1 9 2 8 9 6 0 9.121638
16.39826 15.67256 14.99203 13.75351 12.65929 11.68958 10.82760
18 9 1 1 3 7 7 3 9.371887
17.22600 16.42616 15.67846 14.32379 13.13393 12.08532 11.15811
19 8 8 2 9 9 1 6 9.603599
18.04555 17.16863 16.35143 14.87747 13.59032 12.46221 11.46992
20 3 9 3 5 6 0 1 9.818147

216
 Appendix AAUCC, 2010

n/i 1% 1.5% 2% 3% 4% 5% 6% 8%
18.85698 17.90013 17.01120 15.41502 14.02916 12.82115 11.76407 10.01680
21 3 7 9 4 0 3 7 3
19.66037 18.62082 17.65804 15.93691 14.45111 13.16300 12.04158 10.20074
22 9 4 8 7 5 3 2 4
20.45582 19.33086 18.29220 16.44360 14.85684 13.48857 12.30337 10.37105
23 1 1 4 8 2 4 9 9
21.24338 20.03040 18.91392 16.93554 15.24696 13.79864 12.55035 10.52875
24 7 5 6 2 3 2 8 8
22.02315 20.71961 19.52345 17.41314 15.62208 14.09394 12.78335 10.67477
25 6 1 6 8 0 5 6 6
22.79520 21.39863 20.12103 17.87684 15.98276 14.37518 13.00316 10.80997
26 4 2 6 2 9 5 6 8
23.55960 22.06761 20.70689 18.32703 16.32958 14.64303 13.21053 10.93516
27 8 7 8 1 6 4 4 5
24.31644 22.72671 21.28127 18.76410 16.66306 14.89812 13.40616 11.05107
28 3 7 2 8 3 7 4 8
25.06578 23.37607 21.84438 19.18845 16.98371 15.14107 13.59072 11.15840
29 5 6 5 5 5 4 1 6
25.80770 24.01583 22.39645 19.60044 17.29203 15.37245 13.76483 11.25778
30 8 8 6 1 3 1 1 3
26.54228 24.64614 22.93770 20.00042 17.58849 15.59281 13.92908 11.34979
31 5 6 2 8 4 1 6 9
27.26958 25.26713 23.46833 20.38876 17.87355 15.80267 14.08404 11.43499
32 9 9 5 6 1 7 3 9
27.98969 25.87895 23.98856 20.76579 18.14764 16.00254 14.23023 11.51388
33 3 4 4 2 6 9 0 8
28.70266 26.48172 24.49859 21.13183 18.41119 16.19290 14.36814 11.58693
34 6 8 2 7 8 4 1 4
29.40858 27.07559 24.99861 21.48722 18.66461 16.37419 14.49824 11.65456
35 0 5 9 0 3 4 6 8
30.10750 27.66068 25.48884 21.83225 18.90828 16.54685 14.62098 11.71719
36 5 4 2 2 2 2 7 3
30.79951 28.23712 25.96945 22.16723 19.14257 16.71128 14.73678 11.77517
37 0 7 3 5 9 7 0 9
31.48466 28.80505 26.44064 22.49246 19.36786 16.86789 14.84601 11.82886
38 3 2 1 2 4 3 9 9
32.16303 29.36458 26.90258 22.80821 19.58448 17.01704 14.94907 11.87858
39 3 3 9 5 5 1 5 2
32.83468 29.91584 27.35547 23.11477 19.79277 17.15908 15.04629 11.92461
40 6 5 9 2 4 6 7 3
33.49968 30.45896 27.79948 23.41240 19.99305 17.29436 15.13801 11.96723
41 9 1 9 0 2 8 6 5
34.15810 30.99405 28.23479 23.70135 20.18562 17.42320 15.22454 12.00669
42 8 0 4 9 7 8 3 9
34.81000 31.52123 28.66156 23.98190 20.37079 17.54591 15.30617 12.04324
43 8 2 2 2 5 2 3 0
35.45545 32.04062 29.07996 24.25427 20.54884 17.66277 15.38318 12.07707
44 4 2 3 4 1 3 2 4
36.09450 32.55233 29.49016 24.51871 20.72004 17.77407 15.45583 12.10840
45 8 7 0 3 0 0 2 2
36.72723 33.05649 29.89231 24.77544 20.88465 17.88006 15.52437 12.13740
46 6 0 4 9 4 6 0 9
37.35369 33.55319 30.28658 25.02470 21.04293 17.98101 15.58902 12.16426
47 9 2 2 8 6 6 8 7
37.97395 34.04255 30.67312 25.26670 21.19513 18.07715 15.65002 12.18913
48 9 4 0 7 1 8 7 6
38.58807 34.52468 31.05207 25.50165 21.34147 18.16872 15.70757 12.21216
49 9 3 8 7 2 2 2 3

217
 Appendix AAUCC, 2010

n/i 1% 1.5% 2% 3% 4% 5% 6% 8%
39.19611 34.99968 31.42360 25.72976 21.48218 18.25592 15.76186 12.23348
50 8 8 6 4 5 5 1 5

n /i 1% 1.50% 2% 3% 4% 5% 6% 8%
1.01000
1 0 1.015000 1.020000 1.030000 1.040000 1.050000 1.060000 1.080000
0.50751
2 2 0.511278 0.515050 0.522611 0.530196 0.537805 0.545437 0.560769
0.34002
3 2 0.343383 0.346755 0.353530 0.360349 0.367209 0.374110 0.388034
0.25628
4 1 0.259445 0.262624 0.269027 0.275490 0.282012 0.288591 0.301921
0.20604
5 0 0.209089 0.212158 0.218355 0.224627 0.230975 0.237396 0.250456
0.17254
6 8 0.175525 0.178526 0.184598 0.190762 0.197017 0.203363 0.216315
0.14862
7 8 0.151556 0.154512 0.160506 0.166610 0.172820 0.179135 0.192072
0.13069
8 0 0.133584 0.136510 0.142456 0.148528 0.154722 0.161036 0.174015
0.11674
9 0 0.119610 0.122515 0.128434 0.134493 0.140690 0.147022 0.160080
0.10558
10 2 0.108434 0.111327 0.117231 0.123291 0.129505 0.135868 0.149029
0.09645
11 4 0.099294 0.102178 0.108077 0.114149 0.120389 0.126793 0.140076
0.08884
12 9 0.091680 0.094560 0.100462 0.106552 0.112825 0.119277 0.132695
0.08241
13 5 0.085240 0.088118 0.094030 0.100144 0.106456 0.112960 0.126522
0.07690
14 1 0.079723 0.082602 0.088526 0.094669 0.101024 0.107585 0.121297
0.07212
15 4 0.074944 0.077825 0.083767 0.089941 0.096342 0.102963 0.116830
0.06794
16 5 0.070765 0.073650 0.079611 0.085820 0.092270 0.098952 0.112977
0.06425
17 8 0.067080 0.069970 0.075953 0.082199 0.088699 0.095445 0.109629
0.06098
18 2 0.063806 0.066702 0.072709 0.078993 0.085546 0.092357 0.106702
0.05805
19 2 0.060878 0.063782 0.069814 0.076139 0.082745 0.089621 0.104128
0.05541
20 5 0.058246 0.061157 0.067216 0.073582 0.080243 0.087185 0.101852
0.05303
21 1 0.055865 0.058785 0.064872 0.071280 0.077996 0.085005 0.099832
0.05086
22 4 0.053703 0.056631 0.062747 0.069199 0.075971 0.083046 0.098032
0.04888
23 6 0.051731 0.054668 0.060814 0.067309 0.074137 0.081278 0.096422
0.04707
24 3 0.049924 0.052871 0.059047 0.065587 0.072471 0.079679 0.094978
0.04540
25 7 0.048263 0.051220 0.057428 0.064012 0.070952 0.078227 0.093679
0.04386
26 9 0.046732 0.049699 0.055938 0.062567 0.069564 0.076904 0.092507

218
 Appendix AAUCC, 2010

n /i 1% 1.50% 2% 3% 4% 5% 6% 8%
0.04244
27 6 0.045315 0.048293 0.054564 0.061239 0.068292 0.075697 0.091448
0.04112
28 4 0.044001 0.046990 0.053293 0.060013 0.067123 0.074593 0.090489
0.03989
29 5 0.042779 0.045778 0.052115 0.058880 0.066046 0.073580 0.089619
0.03874
30 8 0.041639 0.044650 0.051019 0.057830 0.065051 0.072649 0.088827
0.03767
31 6 0.040574 0.043596 0.049999 0.056855 0.064132 0.071792 0.088107
0.03667
32 1 0.039577 0.042611 0.049047 0.055949 0.063280 0.071002 0.087451
0.03572
33 7 0.038641 0.041687 0.048156 0.055104 0.062490 0.070273 0.086852
0.03484
34 0 0.037762 0.040819 0.047322 0.054315 0.061755 0.069598 0.086304
0.03400
35 4 0.036934 0.040002 0.046539 0.053577 0.061072 0.068974 0.085803
0.03321
36 4 0.036152 0.039233 0.045804 0.052887 0.060434 0.068395 0.085345
0.03246
37 8 0.035414 0.038507 0.045112 0.052240 0.059840 0.067857 0.084924
0.03176
38 1 0.034716 0.037821 0.044459 0.051632 0.059284 0.067358 0.084539
0.03109
39 2 0.034055 0.037171 0.043844 0.051061 0.058765 0.066894 0.084185
0.03045
40 6 0.033427 0.036556 0.043262 0.050523 0.058278 0.066462 0.083860
0.02985
41 1 0.032831 0.035972 0.042712 0.050017 0.057822 0.066059 0.083561
0.02927
42 6 0.032264 0.035417 0.042192 0.049540 0.057395 0.065683 0.083287
0.02872
43 7 0.031725 0.034890 0.041698 0.049090 0.056993 0.065333 0.083034
0.02820
44 4 0.031210 0.034388 0.041230 0.048665 0.056616 0.065006 0.082802
0.02770
45 5 0.030720 0.033910 0.040785 0.048262 0.056262 0.064700 0.082587
0.02722
46 8 0.030251 0.033453 0.040363 0.047882 0.055928 0.064415 0.082390
0.02677
47 1 0.029803 0.033018 0.039961 0.047522 0.055614 0.064148 0.082208
0.02633
48 4 0.029375 0.032602 0.039578 0.047181 0.055318 0.063898 0.082040
0.02591
49 5 0.028965 0.032204 0.039213 0.046857 0.055040 0.063664 0.081886
0.02551
50 3 0.028572 0.031823 0.038865 0.046550 0.054777 0.063444 0.081743
-n
Table 6. Value of 1/ a n┐I = i/(1-(1+i) )

219