MSE 604 CHAPTER ONE

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MSE 604CHAPTER ONE

• FOUNDATIONS OF ENGINEERING ECONOMY

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Learning Objectives

• Importance of engineering economy in engineering
  practice
• Origins of engineering economy
• Principles of engineering economy
• Engineering economy and the design process
• Accounting and engineering economy studies

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Why Engineering Economy

• Utilization of scientific and engineering
  knowledge
• Achieved through the design we use
• Achievements do not occur without a price
• Purpose of this course
• Develop and illustrate the principles required to
  answer the basic economic question
• Do its benefits exceed its costs?

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Engineering Economy Definition

• Involves systematic evaluation of economic merits
  of proposed solutions to engineering problems
• Solutions to engineering problems
• Must demonstrate a positive balance of long-term
  benefits over long-term costs
• Must promote the well-being and survival of an
  organization
• Involves technical analysis with emphasis on
  economic aspects

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Origins of Engineering Economy

• Development of engineering economy is relatively
  recent
• Arthur Wellington addressed the role of economic
  analysis in engineering projects
• Emphasis was primarily on financial and
  statistical mathematics
• Eugene Grant published the first edition of
  engineering economy
• Milestone in the development of engineering
  economy as we practice it today

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Engineering Economy and the Design Process

• Engineering Economic Analysis (Steps)
• Problem recognition
• Development of the feasible alternatives
• Development of the outcomes and cash flows
• Selection of a criterion
• Analysis and comparison of alternatives
• Selection of the preferred alternative
• Performance monitoring

• Engineering Design Process (Activities)
• Problem definition
• Problem formulation and evaluation
• Synthesis of possible solutions
• Analysis, optimization, and evaluation
• Specification of preferred alternative
• Communication

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Step 1. Problem Definition

• Must be well understood and stated in an explicit
  form
• Provides the basis for the rest of the analysis
• Formulation should be viewed from systems
  perspective
• Boundary needs to be carefully defined

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Step 2. Development of Alternatives

• Two primary actions are
• Searching for potential alternatives
• Depends largely on an individuals or groups
  problem-solving efficiency
• Screening them to select a smaller group of
  feasible alternatives
• Existence of usual limitations screens the
  alternatives
• Lack of time and money
• Lack of knowledge
• Preconceptions of what will and what will not work

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Step 3. Development of Prospective Outcomes

• Uses basic cash-flow approach employed in
  engineering economy
• Occurs when money is transferred from
  organization or individual to another
• Represents economic effects of an alternative in
  terms of money spent and received
• Nonmonetary factors (attributes) play a
  significant role in the final recommendation

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Step 4. Selection of a Decision Criterion

• Select the alternative that will best serve
  long-term interests of organization
• Should reflect a consistent and proper viewpoint

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Step 5. Analysis and Comparison of Alternatives

• Largely based on cash-flow estimates
• Effort is required to obtain reasonable accurate
  forecasts of cash flow
• When cash flow and other required estimates are
  determined
• Alternatives can be compared based on their
  differences

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Step 6. Selection of the Best Alternative

• Best alternative is simply a result of the total
  effort
• Dictates the quality of the results obtained and
  recommended course of action

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Step 7. Performance Monitoring

• Improves the achievement of related goals and
  objectives
• Reduces the variability in desired results
• Aim is to learn how to do better analyses
• Feedback is important in any organization

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Example

• While studying for the Engineering Economy, you
  and two friends find yourselves craving for a
  fresh pizza
• Cant spare the time to pick up the pizza
• Pick-Up-Sticks offers a 1 thick, 20 square
  pizza with your choice of two toppings for 15
  plus 5 sales tax and a 1.50 delivery charge
• Freds offers the round, deep-dish Sasquatch
  which is 20 inches in diameter
• It is 1-3/4 thick, which includes two toppings,
  and costs 17.25 plus 5 sales tax and free
  delivery

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Questions

• What is the problem in this situation? Please
  state it in a lucid manner.
• Systematically apply the seven principles of
  engineering economy to the problem you have
  defined in part (a).
• Assuming that your common unit of measure is
  (i.e., cost), what is the better value for
  getting a pizza based on the criterion of
  minimizing cost per unit of volume?
• What other criteria might be used to select which
  pizza to purchase?

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Answer to Part a

• Involves how to satisfy the hunger of three
  students--assume a delicious pizza will satisfy
  this need
• Learn enough about Engineering Economy to
  pass--or better yet earn an A or a B
• Use hunger satisfaction with a pizza as the
  problem definition

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Answer to Part b

• Principle 1 - Develop the Alternatives
• i) Order a pizza from Pick-Up-Sticks.
• ii) Order a pizza from Freds.
• Other options probably exist
• Principle 2 - Focus on the Differences
• Difference in delivery time could be an issue
• Quality of the ingredients used to make the pizza
  could be another factor to consider
• Concentrate our attention on cost differences in
  part (c) to follow

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Answer to Part b-Cont.

• Principle 3 - Use a Consistent Viewpoint
• Consider problem from perspective of three
  customers
• Use the customers point of view in this
  situation rather than that of the owner of the
  pizza shop
• Principle 4 - Use a Common Unit of Measure
• Use dollar as one of the most important
  measures
• Which pizza to order, well use a cost based
  metric in part (c)
• Principle 5 - Consider All Relevant Criteria
• Factors other than cost may affect the decision
• For example, variety and quality of toppings and
  delivery time may be important to your choice

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Answer to Part b-Cont.

• Principle 6 - Make Uncertainty Explicit
• Variability in quality of the pizza, its delivery
  time and even its price should be carefully
  examined
• Principle 7 - Revisit Your Decision
• After youve consumed your pizza, were you
  pleased with the taste of the toppings?
• Keep these sorts of things in mind when you order
  your next pizza!

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Answer to Part c

• Determine better value based on minimized cost
• List any key assumptions that underpin your
  analysis to minimize the cost per unit of volume
• Assumptions
• (i) weight is directly proportional to volume
  with
• (ii) you and your friends will eat the entire
  pizza
• (iii) data provided in the Example Problem are
  accurate
• Analysis
• Total volume and total cost are calculated

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Answer to Part d

• Typical other criteria you and your friends could
  consider
• (i) cost per square inch of pizza (select
  Pick-Up-Sticks)
• (ii) minimize total cost regardless of area or
  volume (select Pick-Up-Sticks)
• (iii) Freds can deliver in 30 minutes but
  Pick-Up-Sticks cannot deliver for one hour

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Accounting and Engineering Economy Studies

• Engineering economy studies
• Engineers and managers use the principles of
  engineering economy to assist decision making
• Provide information pertaining to the future
  operation
• Accounting
• Financial results after a decision has been made
• Procedures are established
• Financial events relating to the investment can
  be recorded and summarized

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Agenda of Next Session

• Selected cost concepts important in engineering
  economy studies are presented
• Emphasis is placed on economic principles of
  engineering design
• Application of life cycle cost concepts is also
  discussed