MODULE 01
ENGINEERING ECONOMY
INTRODUCTION
ENGR. LEO VICTOR B. AMORES, CIE, CLSSYB, CLSSGB
TRAINED
INDUSTRIAL ENGINEERING DEPARTMENT
Topics to be PRINCIPLES OF
Engineering
COST
discussed ENGINEERING
Economic
CONCEPTS
Analysis
ECONOMICS Procedures
TOPIC 01
“PRINCIPLES OF ENGINEERING
ECONOMICS”
What
IS A SOCIAL SCIENCE
COMES FROM THE
is THAT STUDIES THE 2 GREEK WORDS
PRODUCTION,
economics? DISTRIBUTION AND
CONSUMPTION OF • Eco, Means home
GOODS AND
SERVICES. • nomos, means accounts
Learn More
Wikipedia
is a subset of economics concerned with the use and
application of economic principles in the analysis of
engineering decisions
02 What is Economics
“ it is about the study of scarcity & choice”
“find ways of reconciling unlimited wants with limited
resources”
“ one of the most practical subject matters in the
engineering curriculum”
ENGINEER’S ROLE IN BUSINESS
01 02
Making an LARGE SCALE
MAKING A
Engineering ENGINEERING ECONOMIC
Economics Decision CAPITAL DECISION
EXPENDITURE
Refers to any investment decision related to an 03
engineering project. The facet of an economic IMPACT OF
decision that is of most interest from an ENGINEERING PROJECT
ON FINANCIAL
engineer’s point of view is the evaluation of STATEMENTS
costs and benefits associated with making a
capital investment.
ENGINEERING ECONOMIC DECISIONS
MAKING CAPITAL one of the engineer’s priority tasks is
EXPENDITURE to plan for the acquisition of
equipment (capital expenditure) that
will enable the firm to design and
manufacture products economically
LARGE SCALE projects of these nature involves large
IMPACT OF
ENGINEERING sums of money invested over long
ENGINEERING
ECONOMIC periods of time, and it is difficult to
PROJECT ON
DECISIONS predict their market demand accurately.
FINANCIAL
STATEMENTS
▪ engineers must also understand the
business environment in which a
company’s major business decision
are made.
▪ it is important for an engineering
project to generate profits but the
project also must strengthen the
firm’s overall financial position.
ENGINEERING ECONOMIC DECISIONS
IMPACT OF ENGINEERING PROJECT ON FINANCIAL STATEMENTS
TYPICAL DECISION MAKING PROCESS
STEP 1
Establishing a
goal or objective STEP 3
Knowing other
opportunities
STEP 2
Evaluation of
Feasible
alternatives STEP 4
Decision Making
Process
TOPIC 02
“ENGINEERING ECONOMIC
ANALYSIS PROCEDURES”
ENGINEERING ECONOMIC ANALYSIS PROCEDURES
02 04 06
Development Selection of a Selection of
of feasible Criterion or the best
alternatives criteria alternatives
01 03 05 07
Problem Development Analysis & Performance
Definition, of cash flow comparison of evaluation &
formulation for each alternatives post
and evaluation alternatives evaluation
results
PROBLEM DEFINITION, FORMULATION AND EVALUATION
• PROBLEM MUST BE UNDERSTOOD AND STATED IN AN
EXPLICIT FORM BEFORE THE PROJECT TEAM PROCESS WITH
THE REST OF THE ANALYSIS.
“I PROBLEM CLEARLY STATED IS ALREADY 50%
SOLVED”
DEVELOPMENT OF FEASIBLE ALTERNATIVES
• SEARCHING FOR POTENTIAL ALTERNATIVES, SCREENING THEM TO SELECT A SMALLER GROUP
OF FEASIBLE ALTERNATIVES FOR DETAILED ANALYSIS
DEVELOPMENT OF CASH FLOW FOR EACH ALTERNATIVE.
• DEVELOPMENT OF THE
OUTCOMES AND CASH
FLOWS FOR EACH
ALTERNATIVE, CASH FLOW
APPROACH AND OTHER
FACTORS
SAMSUNG NOTE 10+ PLANS
• GLOBE – 80,376
• SMART – 84,376
SELECTION OF A CRITERION (OR CRITERIA)
• IF A PROBLEM INVOLVES FIXED INPUT
AMONG THE POSSIBLE ALTERNATIVES,
THEN THE APPROPRIATE
GENERAL CRITERION IS TO MAXIMIZE
OUTPUT. ... IF A PROBLEM INVOLVES
FIXED OUTPUT AMONG THE POSSIBLE
ALTERNATIVES, THEN THE APPROPRIATE
GENERAL CRITERION IS TO MINIMIZE
INPUT.
ANALYSIS AND COMPARISON OF ALTERNATIVES
• THE PRESENT WORTH, ANNUAL COST,
AND RATE OF RETURN METHODS
OF COMPARING ALTERNATIVES YIELD
EQUIVALENT RESULTS, BUT THEY ARE
DISTINCTLY DIFFERENT APPROACHES
SELECTION OF THE BEST ALTERNATIVE
• DON'T CONSIDER
ANY ALTERNATIVE AS "PERFECT
SOLUTION." IF THERE WERE, THERE
PROBABLY WOULDN'T BE A PROBLEM
IN THE FIRST PLACE.
• CONSIDER YOUR INTUITION, OR INNER
FEELINGS IN DECIDING ON A COURSE
OF ACTION.
• RETURN TO YOUR TRUSTED OUTSIDER:
IS THERE SOMETHING YOU MISSED? ...
• COMPROMISE.
PERFORMANCE EVALUATION AND POST EVALUATION RESULTS
• PERFORMANCE
EVALUATION IS DEFINED AS A
FORMAL AND PRODUCTIVE
PROCEDURE TO MEASURE AN
FIRM’S ACTIONS
AND RESULTS BASED ON THEIR
EXPECTED OUTPUTS
TIME
01 The time value of
money
Differential
FUNDAMENTAL
PRINCIPLES OF
Differential
(incremental) cost
and revenue
02
ENGINEERING Marginal
ECONOMY 03 Marginal cost and
revenue
04
Trade off
Trade off between
risk and reward
THE TIME VALUE OF MONEY
• AN EARLIER DOLLAR IS WORTH MORE THAN A LATER DOLLAR.
• IN ENGINEERING ECONOMICS, MONEY HAS A TIME VALUE
ASSOCIATED WITH IT. BECAUSE WE CAN EARN INTERESTS ON
MONEY RECEIVED TODAY.
• ACCORDING TO ALBERT EINSTEIN “THE MOST POWERFUL FORCE IN
THE UNIVERSE IS COMPOUND INTERESTS”
DIFFERENTIAL (INCREMENTAL) COST AND REVENUE
• ALL THAT COUNTS IS THE
DIFFERENCE BETWEEN
ALTERNATIVES
MARGINAL COST AND REVENUE
TRADE OFF BETWEEN RISK AND REWARD
ADDITIONAL RISK IS NOT
TAKEN WITHOUT
EXPECTED ADDITIONAL
RETURN
TOPIC 03
“COST CONCEPTS”
01
Equipment
Or
Process Selection 04
FIVE MAIN TYPES OF Cost Reduction
ENGINEERING
ECONOMIC 02
Equipment 5 Types
DECISIONS Replacement
03 05
New Product Improvement in
Or Service Quality
Product Expansion
EQUIPMENT OR PROCESS SELECTION
• INVOLVES SELECTING THE BEST COURSE OF ACTION OR
ALTERNATIVE WHERE THERE ARE SEVERAL WAYS TO MEET A
PROJECT’S REQUIREMENT.
EQUIPMENT REPLACEMENT
• THIS CATEGORY OF INVESTMENT DECISION INVOLVES
CONSIDERING THE EXPENDITURE NECESSARY TO REPLACE WORN-
OUT OR OBSOLETE EQUIPMENTS.
• EXAMPLE ARE PURCHASING EQUIPMENT WHICH HAS A LIFE CYCLE
OF 10 YEARS. WILL PARTS AND MAINTENANCE BE AVAILABLE AFTER
10 YEARS?
NEW PRODUCT OR PRODUCT EXPANSION
• INVESTMENTS IN THIS CATEGORY ARE THOSE THAT WOULD
INCREASE PROFITS OF A COMPANY.
TWO COMMON TYPES
1. EXPENDITURES THAT WOULD INCREASE THE OUTPUT OF EXISTING
PRODUCTION OR DISTRIBUTION FACILITIES.
2. CONSIDERATION OF EXPENDITURES NECESSARY TO PRODUCE A
NEW PRODUCT OR TO EXPAND INTO A NEW GEOGRAPHIC AREA.
COST REDUCTION
• IS THE REDUCTION OF THE FIRM’S OPERATING COSTS.
• CONSIDERATION OF WHETHER THE FIRM SHOULD BY A NEW EQUIPMENT TO PERFORM THE
OPERATION WHICH IS MANUALLY DONE OR IN SOME OTHER WAY SPEND MONEY NOW IN
ORDER TO SAVE MONEY LATER..
“MAKE OR BUY DECISIONS”
IMPROVEMENT IN SERVICE OR QUALITY
• INCLUDES ACTIVITIES TO SUPPORT THE
IMPROVEMENT OF PRODUCTIVITY,
QUALITY, AND CUSTOMER SATISFACTION
IN THE SERVICE SECTOR, SUCH AS IN THE
FINANCIAL, HEALTHCARE, AND RETAIL
INDUSTRIES.
FACTORS
“TIME AND UNCERTAINTY OF
ANY INVESTMENT PROJECT”
END OF MODULE 01