Engineering Economic Decisions: Lecture No.1 Contemporary Engineering Economics

Engineering Economic Decisions
Lecture No.1 Chapter 1 Contemporary Engineering Economics Copyright 2006

Contemporary Engineering Economics, 4th edition, 2007
Chapter 1 Engineering Economic Decisions making Rational Decision
Process Role of Engineers in Business What Makes the Engineering Economic Decision Difficult? Types of Strategic Engineering Economic Decisions Fundamental Principles in Engineering Economics
Contemporary Engineering Economics, 4th edition, 2007 2
Chapter Opening Story Google Inc.
A Little Google History
1995

Developed in dorm room of Larry Page and Sergey Brin, graduate students at Stanford University Nicknamed BackRub Raised $25 million to set up Google, Inc. Ran 100,000 queries a day out of a garage in Menlo Park Over 4,000 employees worldwide Over 8 billion pages indexed Market value of $110 billion
1998

2005

Rational Decision-Making Process

1. 2.
3.
4.
5.
6.
Recognize a decision problem Define the goals or objectives Collect all the relevant information Identify a set of feasible decision alternatives Select the decision criterion to use Select the best alternative
Which Car to Lease? Saturn vs. Honda

1. 2.
3.
4.
5.
6.
Recognize a decision problem Define the goals or objectives Collect all the relevant information Identify a set of feasible decision alternatives Select the decision criterion to use Select the best alternative
Need a car
Want mechanical security Gather technical as well as financial data Choose between Saturn and Honda Want minimum total cash outlay Select Honda
6
Engineering Economic Decisions

Manufacturing Profit
Planning
Investment Marketing
What Makes the Engineering Economic Decision Difficult? Estimating a RequiredFuture Predicting the
investment Forecasting a product demand Estimating a selling price Estimating a manufacturing cost Estimating a product life
Role of Engineers in Business

Create & Design Engineering Projects
Analyze Production Methods Engineering Safety Environmental Impacts Market Assessment
Evaluate Expected Profitability Timing of Cash Flows Degree of Financial Risk
Evaluate Impact on Financial Statements Firms Market Value Stock Price
Accounting Vs. Accounting

Evaluating past performance Evaluating and predicting future events
Accounting
Past
Engineering Economy
Future Present
10
Two Factors in Engineering Economic Decisions

The factors of time and uncertainty are the defining aspects of any engineering economic decisions
11
A Large-Scale Engineering Project

Requires a large sum of investment Takes a long time to see the financial outcomes Difficult to predict the revenue and cost streams
12
Types of Strategic Engineering Economic Decisions in Manufacturing Service Improvement Sector

Equipment and Process Selection Equipment Replacement New Product and Product Expansion Cost Reduction
13
Service Improvement Healthcare Delivery

Which plan is more economically viable?
Traditional Plan: Patients visit each service provider. New Plan: Each service provider visits patients
: patient : service provider

Equipment & Process Selection
How do you choose between the Plastic SMC and the Steel sheet stock for an auto body panel? The choice of material will dictate the manufacturing process for an automotive body panel as well as manufacturing costs.
15
Equipment Replacement Problem
Now is the time to replace the old machine? If not, when is the right time to replace the old equipment?
16
New Product and Product Expansion
Shall we build or acquire a new facility to meet the increased demand? Is it worth spending money to market a new product?
17
Example - MACH 3 Project

R&D investment: $750 million Product promotion through advertising: $300 million Priced to sell at 35% higher than Sensor Excel (about $1.50 extra per shave). Question 1: Would consumers pay $1.50 extra for a shave with greater smoothness and less irritation? Question 2: What would happen if the blade consumption dropped more than 10% due to the longer blade life of the new razor?
Gillettes MACH3 Project
18
Cost Reduction
Should a company buy equipment to perform an operation now done manually? Should spend money now in order to save more money later?
19
Types of Strategic Engineering Economic Decisions in Service Sector

Commercial Transportation Logistics and Distribution Healthcare Industry Electronic Markets and Auctions Financial Engineering Retails Hospitality and Entertainment Customer Service and Maintenance
20
U.S. Gross Domestic Products (GDP)

Manufacturing (14%)
Service sector (80%)

Healthcare (14%) Agriculture (2%)
21
Industrial Employment
Industry 1993 1983-94 Employment National distribution Average 12.6% 30.5% 16.7% 8.0% -0.70% 60.0% 31.1% 26.8% 1994-2005 Projected Change -7.2% 39.0% 13.0% 6.3%
Manufacturing Services Retail trade Financial
Source: Bureau of Economic Analysis/Bureau of Labor Statistics

Fundamental Principles of Engineering Economics
Principle 1: A nearby dollar is worth more than a distant dollar Principle 2: All it counts is the differences among alternatives Principle 3: Marginal revenue must exceed marginal cost Principle 4: Additional risk is not taken without the expected additional return
Principle 1: A nearby dollar is worth more than a distant dollar
Today
6-month later
24
Principle 2: All it counts is the differences among Monthly Salvage Option Monthly Monthly Cash alternatives Fuel Cost Maintenan outlay at payment Value at
ce signing end of year 3
Buy Lease
$960 $960
$550 $550
$6,500 $2,400
$350 $550
$9,000 0
Irrelevant items in decision making

Principle 3: Marginal revenue must exceed marginal cost

Marginal cost Manufacturing cost 1 unit
Sales revenue
1 unit
Marginal revenue
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Principle 4: Additional risk is not taken without the expected additional return
Investment Class Savings account (cash) Bond (debt) Stock (equity) Potential Risk Low/None Expected Return 1.5%
Moderate High
4.8% 11.5%
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Summary
The term engineering economic decision refers to any investment decision related to an engineering project. The five main types of engineering economic decisions are (1) service improvement, (2) equipment and process selection, (3) equipment replacement, (4) new product and product expansion, and (5) cost reduction. The factors of time and uncertainty are the defining aspects of any investment project.

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Engineering Economic Decisions: Lecture No.1 Contemporary Engineering Economics

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Engineering Economic Decisions

Lecture No.1 Chapter 1 Contemporary Engineering Economics Copyright 2006

Chapter 1 Engineering Economic Decisions making Rational Decision

Chapter Opening Story Google Inc.

Contemporary Engineering Economics, 4th edition, 2007

A Little Google History

Rational Decision-Making Process

Which Car to Lease? Saturn vs. Honda

Contemporary Engineering Economics, 4th edition, 2007