Engineering Economics Introduction

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Engineering EconomicsIntroduction
ELE 2EMT
George Alexander G.Alexander_at_latrobe.edu.au http/
/www.latrobe.edu.au/eemanage/
27 July, 2007
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Topics

• Introduction the need for Economics
• Foundations of Engineering Economics
• Formulae used in economic analysis
• Annual Worth Analysis
• Payback Period Analysis Life Cycle Cost
• Breakeven Analysis
• Replacement and Retention Decisions
• System Reliability Considerations

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What is Economics?

• Its about -
• Alternatives
• Choosing between alternatives
• Getting best value
• Assumption is that resources (usually ) are
  limited.
• How then to best allocate scarce resources?

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Economics in government policy

• How much to tax?
• How to tax? GST? Personal? Business?
• What are spending priorities?
• Defence? Social services health, education?
• What level of services to provide?

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Economics in our personal lives

• Which mobile phone plan?
• Pay HECS-HELP up-front?
• Borrow to pay off credit card?
• How to invest savings (if any)?
• Which home mortgage?
• Replace the car?
• Buy or lease a car? Which car?

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Economics in Engineering
Systems (or devices, equipment, etc.) perform the
specified functions for which they were
designed. System performance is a measure of how
well the system performs its specified functions.
As a rule, functions and performance are directly
proportional to cost
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Design for Economic Feasibility (Life-Cycle
Costing)
System Design Requirements
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Life Cycle

• Conceptual design
• Preliminary design
• Detail design and development
• Production
• System operation (consumer use)
• System retirement

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Monitoring Adjustment
production
I/P
O/P
Marketing
I/P
O/P
Financial
I/P
O/P
Monitor
Evaluate
Adjust
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Definition

• Engineering Economics is involved with the
• formulation,
• estimation, and
• evaluation
• of economic outcomes when alternatives to
  accomplish a defined purpose are available.

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The Key Word ALTERNATIVES

• Economic evaluation is always preceded by a
  technical evaluation.
• Apply engineering economic analyses ONLY to
  select one from a number of technically feasible
  alternative solutions.
• An alternative solution can satisfy or exceed the
  functional and performance requirements.
• To satisfy the technical requirements, a solution
  must meet the minimum requirements.

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NOTE!

• It is quite possible that after evaluating the
  alternatives, the best decision is
• DO NOTHING
• RETAIN THE STATUS QUO
• REVIEW AT A LATER DATE

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The need for engineering economics

• Engineers play a major role in capital investment
  decisions based on their analysis, synthesis, and
  design efforts.
• Engineering economics is a mathematical tool for
  aiding in the evaluation of alternative
  solutions.
• Alternative solutions must be capable of meeting
  the minimum technical requirements.
• Relationship Functions - Performance - Cost

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Role of Engineering Economics

• The parameters within an engineering economics
  problem can and will vary over time.
• Engineering economics is based on estimates of
  future events must deal with the future,
  including risk and uncertainty.
• Sensitivity Analysis plays a major role in the
  assessment of most, if not all, engineering
  economics problems.

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Problem Solving Process
Current Situation
Problem
Objectives
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Example

• Barristers Chambers Limited operate a large PABX
  (2,500 Ext.)
• The system doesn't meet all their communication
  requirements
• They had 3 alternatives
• Buy new PABX
• Upgrade existing PABX
• Outsource the telephone service

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Solution

• Survey user requirements
• Formulate corporate requirements
• Formulate user requirements
• Technical requirements specification
• Request for quotations
• Evaluate alternatives (technically
  economically)
• Select the best alternative
• Make recommendations

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Problem-Solving Approach

• Understand the Problem
• Collect all relevant data/information
• Identify the feasible (technical) alternatives
• Evaluate (technically) each alternative
• Evaluate (economically) each alternative
• Select the best alternative
• Implement and monitor

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Problem-Solving Approach

• Understand the Problem
• Collect all relevant data/information
• Define the feasible alternatives
• Evaluate each alternative
• Select the best alternative
• Implement and monitor

Major Role of Engineering Economics
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Problem-Solving Approach

• Understand the Problem
• Collect all relevant data/information
• Define the feasible alternatives
• Evaluate each alternative
• Select the best alternative
• Implement and monitor

One of the more difficult tasks
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Problem-Solving Approach

• Understand the Problem
• Collect all relevant data/information
• Define the feasible alternatives
• Evaluate each alternative
• Select the best alternative
• Implement and monitor

Where the major tools of Engineering Economics
are applied
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Problem-Solving Approach

• Understand the Problem
• Collect all relevant data/information
• Define the feasible alternatives
• Evaluate each alternative
• Select the best alternative
• Implement and monitor

Tools Present Worth, Future Worth Annual Worth,
Rate of Return Benefit/Cost, Payback, Capitalized
Cost, Value Added
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Time Value of Money

• Time Value of Money
• Money can make money if invested
• Centres around an interest rate

The change in the amount of money over a given
time period is called the time value of money by
far, the most important concept in engineering
economics
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Cash Flow Diagram
P 5,000
Positive
0 1 2 3 4
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Negative
A -1,100/yr
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Needed Parameters

• First cost (investment amounts)
• Estimates of useful or project life
• Estimated future cash flows (revenues and
  expenses and salvage values)
• Interest rate
• Inflation and tax effects

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Typical Applications

• Tendering for the supply of equipment
• Useful life (MTBF, MTTR, etc.)
• Capital cost (purchase)
• Installation cost (labour, material, space, etc.)
• Operational cost (labour, training, power, etc.)
• Maintenance cost (labour, parts, down time, etc.)
• Salvage value

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Typical Applications (continued)

• Input to marketing decisions (entry and exit)
• Make/buy decisions
• Automation decisions
• Capacity expansion
• Lease/buy decisions
• Organisational decisions

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References

• Blank, L., Tarquin, A., Engineering Economy,
  McGraw-Hill, 5/e

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Thanks for your attention