PRESENT ECONOMY
SELECTIONS IN PRESENT
ECONOMY
Present Economy involves the analysis of
problems for manufacturing a product or
rendering a service upon the basis of present
or immediate costs. The period of time
involved in this study is relatively short and
the influence of time of money is not a
significant consideration
PRESENT ECONOMY STUDIES
When alternatives for accomplishing a task are
compared for one year or less (I.e., influence of time
on money is irrelevant)
Rules for Selecting Preferred Alternative
Rule 1 – When revenues and other economic benefits
are present and vary among alternatives, choose
alternative that maximizes overall profitability based
on the number of defect-free units of output
Rule 2 – When revenues and economic benefits are
not present or are constant among alternatives,
consider only costs and select alternative that
minimizes total cost per defect-free output
PRESENT ECONOMY STUDIES
Total Cost in Material Selection
In many cases, selection of among materials cannot
be based solely on costs of materials. Frequently,
change in materials affect design, processing, and
shipping costs.
Alternative Machine Speeds
Machines can frequently be operated at different
speeds, resulting in different rates of product output.
However, this usually results in different frequencies
of machine downtime. Such situations lead to
present economy studies to determine preferred
operating speed.
PRESENT ECONOMY STUDIES
Make Versus Purchase (Outsourcing) Studies
A company may choose to produce an item in house, rather
than purchase from a supplier at a price lower than
production costs if:
1. direct, indirect or overhead costs are incurred regardless of
whether the item is purchased from an outside supplier, and
2. The incremental cost of producing the item in the short run is
less than the supplier’s price
The relevant short-run costs of the make versus
purchase decisions are the incremental costs
incurred and the opportunity costs of resources
PRESENT ECONOMY STUDIES
Make Versus Purchase (Outsourcing) Studies
Opportunity costs may become significant when in-house
manufacture of an item causes other production
opportunities to be foregone (E.G., insufficient capacity)
In the long run, capital investments in additional
manufacturing plant and capacity are often feasible
alternatives to outsourcing.
Examples:
1. A diesel engine uses Type A filter and high-grade
lubricating oil costing P5.50 per liter. With this filter, the oil
and the filter have to be changed every 500 hours of
operation, and 5 liters of oil have to be added every 100
hours. This filter cost P148 a piece. Eighty liters of oil fill
the engine.
Another type, filter B, costing P120 may be used with a
lower grade of oil costing P4.80 per liter. However, if this
filter is used, the oil and filter have to be changed every
300 hours, and 10 liters are added after each 150 hours
the engine is used. Which type and filter and oil would
you recommend?
2. A contractor has 50 men of the same capacity at
work on a job. They can complete the work in 30
days, the working day being 8 hours, but the
contract expires in 20 days. He decides to put 20
additional men. If all the men get P285.00 per
day for a full or part day, and if the liquidated
damages are P10,000 for every full or part day
he requires over his contract time, will he
complete the work on time, and if not, would he
save money by putting enough men to
complete it on time?
[Link] student chapter of American Society of Mechanical
Engineers is planning a 6-day trip to the National conference
in Albany, New York. For transportation the group will rent a
car from either the State Tech Motor Pool or a local car dealer.
The Motor Pool charges $0.26 per mile, has no daily fee, and
the motor pool pays for the gas. The car dealer charges $25
per day and $0.14 per mile, but the group must pay for the
gas. The car’s fuel rating is 20 miles per gallon, and the price
of the gas is estimated to be $1.20 per gallon.
a. If the students anticipate driving 1,600 miles (total, from
whom should they rent a car?
b. At what point, in miles , is the cost of both options equal?
c. The car dealer has offered a special student discount and
will give the students 100 free miles per day. What is the
new breakeven point?
4. A machine part to be machined may be made
either from an alloy of aluminum or steel. There
is an order for 8,000 units. Steel costs P3.80 per
kg, while aluminum costs P8.70 per kg. If steel is
used, the steel per unit weighs 110 grams; for
aluminum, 30 grams. When steel is used, 50
units can be produced per hour; for aluminum,
80 units per hour with the aid of a tool costing
P640, which will be useless after the 8,000 units
are finished. The cost of the machine and
operator is P10.80 per hour. If all other costs are
identical, determine which material will be more
economical?
5. A machine part requires the making of several
holes in each piece. Two methods are available.
The first consists of laying out the position of the
holes with dividers and a center punch and the
drilling. In this method, a workman, who is paid
P28.00 per hour, can complete 2 pieces per minute.
The other method is to make a drill jig costing
P3,000 for use in drilling the holes. By this method,
a workman, who is paid P24.00 per hour, can
complete 6 pieces per minute. All other costs are
the same for both methods.
a. Determine the comparative costs for
making 24,000 pieces. Assume that the cost of the
drill jig is charged to this operation.
b. Determine the number of pieces that will
have to be made so that the costs will be the same
for both methods
6. A. Compare the probable part cost from Machine A and Machine B,
assuming each will make the part to the same specification. Which
machine yields the lowest part cost? Assume the interest rate is
negligible.
B. If the cost of labor can be cut in half by using part-time
employees, which machine should be recommended?
Machine A Machine B
Initial capital investment $35,000 $150,000
Life 10 years 8 years
Salvage value $3,500 $15,000
Parts required per year 10,000 10,000
Labor cost per hour $16 $20
Time to make one part 20 minutes 10 minutes
Maintenance cost per year $1,000 $3,000
7. An executive receives an annual salary of P300,000
and his secretary a salary P60,000 a year. A certain
task can be performed by the executive, working
alone, in 4 hours. If he delegates the task to his
secretary it will require him 30 minutes to explain
the work and another 45 minutes to check the
finished work. Due to the unfamiliarity of the
secretary to do the task it takes her an additional
time of 6 hours after being instructed. Considering
salary cost only, determine the cost of performing
the task by each method, if the secretary works
2,400 hours a year and the executive 3,000 hours a
year.