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Engineering Economics
Introduction
Course Objectives
Discuss time value of money for personal & professional finance issues
Learn methods for determining whether an investment project is
acceptable (profitable) or not, and how to compare two or more
investment alternatives using these methods.
1. “Engineering Economy”,
William G. Sullivan, Elin M. Wicks, C.
Patrick Koelling. — Sixteenth edition, 2015.
ISBN-13: 978-0-13-343927-4,
– Homework in a week is due before first class of next week (at the beginning of
class).
– Homework turned in late will receive partial credit according to the following rules:
1. 10% penalty if turned in after class, but before 2:00 on the due date
2. 25% penalty if turned in after 2:00 on the due date, but by 2:00 the next school day
3. 50% penalty if turned in after 2:00 the next school day, but within one week
– Your chances of scoring well in quizzes are directly proportional to the effort put
in doing the homework.
Spring 2016 Engineering Economy : Chapter 1 9
MT 483
Chapter 1
Introduction to Engineering
Economy
Lect: 01
Introduction
• The perspective of the decision maker, which is often that of the owners
of the firm, would normally be used.
• You should also try to translate other outcomes (which do not initially
appear to be economic) into the monetary unit.
• Often, though, there are other organizational objectives you would like to
achieve with your decision, and these should be considered and given
weight in the selection of an alternative.
• Learning from and adapting based on our experience are essential and are
indicators of a good organization.
• The term feasible here means that each alternative selected for further
analysis is judged, based on preliminary evaluation, to meet or exceed the
requirements established for the situation.
4. The problem is that the new machine is really not needed (and hence
there is no need for a bank loan).
• Engineers are at the very heart of creating value for a firm by turning
innovative and creative ideas into new or reengineered commercial
products and services.
• Most of these ideas require investment of money, and only a few of all
feasible ideas can be developed, due to lack of time, knowledge, or
resources.
2. Freewheeling is welcomed.
3. Quantity is wanted.
Lect: 04
Engineering Economy and the Design Process
3. Development of Prospective Outcomes
• The net cash flow for an alternative is the difference between all cash
inflows (receipts or savings) and cash outflows (costs or expenses) during
each time period.
• The decision maker will normally select the alternative that will best serve
the long-term interests of the owners of the organization.
• When cash flow and other required estimates are eventually determined,
alternatives can be compared based on their differences as called for by
Principle 2. Usually, these differences will be quantified in terms of a
monetary unit such as dollars.
• When the first five steps of the engineering economic analysis procedure
have been done properly, the preferred alternative (Step 6) is simply a
result of the total effort.
• This final step implements Principle 7 and is accomplished during and after
the time that the results achieved from the selected alternative are
collected.
• The aim is to learn how to do better analyses, and the feedback from post
implementation evaluation is important to the continuing improvement of
operations in any organization.
• Unfortunately, like Step 1, this final step is often not done consistently or
well in engineering practice; therefore, it needs particular attention to
ensure feedback for use in ongoing and subsequent studies.
Your friend also expects that annual maintenance on the building and
grounds will be $15,000 ($1,250 per month). There are four apartments (two
bedrooms each) in the building that can each be rented for $360 per month.
f) What should your friend do based on the information you and she have
generated?
Solution (a): (Does your friend have a problem? If so, what is it?)
a) A quick set of calculations shows that your friend does indeed have a
problem. A lot more money is being spent by your friend each year
($10,500+ $15,000 = $25,500) than is being received
(4 × $360 × 12 = $17,280).
The problem could be that the monthly rent is too low. She’s losing $8,220
per year. (Now, that is a problem!)
Option (1): Raise the rent. (Will the market bear an increase?)
Option (4): Abandon the building (bad for your friend’s reputation).
Option (1). Raise total monthly rent to $1,440+$R for the four
apartments to cover monthly expenses of $2,125. Note that the
minimum increase in rent would be:
Solution (c):
Option (2). Lower monthly expenses so that these expenses are covered by
the monthly revenue of $1,440 per month. This would have to be
accomplished primarily by lowering the maintenance cost. (Mortgage cost is
fixed by the Bank.)
Solution (c):
Option (3). Try to sell the apartment building for $X, which recovers
the original $10,000 investment and (ideally) recovers the $685 per
month loss ($8,220 ÷ 12) on the venture during the time it was
owned.
Will she find a buyer willing to give her $10,685/- within a month?
Especially, when the building is obviously showing a loss!
Solution (c):
Option (4). Walk away from the venture and kiss your investment
good-bye.
The bank would likely assume possession through foreclosure and may
try to collect fees from your friend. This option would also be very bad
for your friend’s reputation.
Also your friend will face a loss of her initial investment of $10,000/-
and whatever foreclosure fees the Bank charges!
Can you think of a better Option?