Lecture 1 Introduction. NE 364 Engineering Economy

Transcription

1 NE 364 Engineering Economy Lecture 1 Introduction 1

2 Course Objectives Introduction to the basic cost concepts and economic environment. Familiarization with the principles of money- time relations and basics of investments opportunities assessment and evaluation. NE 364 Engineering Economy 2

3 Lecturer: Course Info Dr. Mohamed Mourad Office: 424 Textbook: William G. Sullivan, E.M. Wicks, J.T. Luxhoj, Engineering Economy, the 15th Edition, 2010 Lecture notes & Assignments: 3

4 What is Engineering Economy? Economic decision making for engineering systems is called engineering economy. This definition may seem restricted to engineering projects and systems only, engineering economy however is also the study of industrial economics and the economic and financial factors which influence industry. 4

5 What is Engineering Economy? Engineering economy is a collection of techniques that simplify comparisons of alternatives on an economic basis. Engineering economy is not a method or process for determining what the alternatives are. 5

6 What is Engineering Economy? Engineering Economy involves the systematic evaluation of the economic merits of proposed solutions to engineering problems. 6

7 What is Engineering Economy? Engineering economy deals with justification and selection of projects. Many engineers work on projects which address a specified activity or a problem. Any decision regarding the project must be justified. 7

8 What is Engineering Economy? In business environments, many if not all, decisions are justified using monetary criteria such as profit. Such decisions are made at the managerial level and many engineers become managers in manufacturing environment. 8

9 What is Engineering Economy? Therefore, all engineers, regardless of their employment, should know methods and tools used in evaluation of projects. The purpose of engineering economy is to expose all engineering students to the methods which are widely used for evaluation of projects.. 9

10 SOME EXAMPLES Let us present few examples in different environments where engineering economy can facilitate the decision making process. Business Environment: A small manufacturing company needs to buy a forklift truck for material handling. Two different brands, say A and B, are being considered. Which truck should be bought? The decision will probably be based on minimization of cost. 10

11 Individuals: SOME EXAMPLES A new college graduate needs a new car. Should this new car be bought or leased? -Methods from engineering economy can be used for determining the best choice. 11

12 SOME EXAMPLES The following figure shows how engineering is composed of physical and economic components: 12

13 SOME EXAMPLES Physical Environment: Engineers produce products and services depending on physical laws. Physical efficiency takes the form: Economic Environment:: Much less of a quantitative nature is known about economic environments -- this is due to economics being involved with the actions of people, and the structure of organizations. 13

14 Predicting the Future Estimating a Required investment. Forecasting a product demand. Estimating a selling price. Estimating a manufacturing cost. Estimating a product life. 14

15 Engineering Economic Decisions 15

16 Cost-Driven Design Optimization Two main tasks are involved in cost-driven design optimization. 1. Determine the optimal value for a certain alternative s design variable. 2. Select the best alternative, each with its own unique value for the design variable. 16

17 Course Outline Introduction and Overview Cost Concepts Time money Relationships & Equivalence Simple Interest Compound Interest Cash flow Diagrams (Single cash flows, annuity, uniform series, uniform gradient Nominal & Effective interest rates Applications of Money-Time Relationships (PW, AW, FW) Comparing Alternatives Benefit-to-Cost Analysis Depreciation 17

18 ABET Student Outcomes a An ability to apply knowledge of mathematics, science, and engineering. c An ability to design a system, component, or process to meet desired needs within realistic constraints such as economic, environmental, social, political, ethical, health and safety, manufacturability, and sustainability. e An ability to identify, formulate, and solve engineering problems. g An ability to communicate effectively. h The broad education necessary to understand the impact of engineering solutions in a global, economic, environmental, and societal context. 18

19 Grading System 7 th Week Assessment Exam (20pt.) + Quizzes (10pt) Exam at 4 PM and the location will be announced at exam time. Quizzes in the tutorial. 12 th Week Assessment Exam (15 pt.) + Quizzes (5 pt.) Exam at 4 PM and the location will be announced at exam time. Quizzes in the tutorial. Continuous Assessment (10 pt.) Participation in Lecture + Attendance +Assignments 19

20 Cost Concepts and Design Economics Lecture 1 Cost Analysis 20

21 Cost Estimating A term used to describe the process by which the present and future cost consequences of engineering designs are forecast. 21

22 Cost estimating used to 1. Provide information used in setting a selling price for quoting, bidding, or evaluating contracts 2. Determine whether a proposed product can be made and distributed at a profit (for simplicity, price = cost + profit) 3. Evaluate how much capital can be justified for process changes or other improvements 22

23 Cost Classifications Fixed and Variable Costs Direct and Indirect Costs 23

24 Cost Classifications (cont.) Fixed costs are those unaffected by changes in activity level over a feasible range of operations for the capacity or capability available. (e.g. insurance and taxes on facilities, general management and administrative salaries, license fees, and interest costs on borrowed capital). 24

25 Cost Classifications (cont.) Variable costs are those associated with an operation that vary in total with the quantity of output or other measures of activity level. Example of variable costs include : costs of material and labor used in a product or service, because they vary in total with the number of output units -- even though costs per unit remain the same. 25

26 Cost Classifications (cont.) Direct costs can be reasonably measured and allocated to a specific output or work activity -- labor and material directly allocated with a product, service or construction activity. Indirect costs are difficult to allocate to a specific output or activity -- costs of common tools, general supplies, equipment maintenance and overhead costs. 26

27 Cost Terminology Investment Cost or capital investment is the capital (money) required for most activities of the acquisition phase; Working Capital refers to the funds required for current assets needed for start-up and subsequent support of operation activities; Operation and Maintenance Cost includes many of the recurring annual expense items associated with the operation phase of the life cycle; Disposal Cost includes non-recurring costs of shutting down the operation; 27

28 Total Cost Calculation Total Cost (TC) = Fixed Costs (C F ) + Variable Costs (C V ) TC = C F + C V TC = CF + c v * D cost C T C v C F Quantity (D) 28

29 Profit Calculation Profit = Total Revenue (TR) Total Cost (TC) Scenario1: Constant Price Scenario2: Variable Price 29

30 Scenario 1: Constant Price Profit = Total Revenue (TR) Total Cost (TC) TR = p * D, where p is constant Profit = p * D TC Break-even point occurs when Profit = 0 TR = TC p * D =C F + c v * D D = C F / (p c v ) 30

31 Breakeven Chart (Scenario 1) TR cost C T C v C F BEP (D ) Quantity (D) 31

32 Scenario 2: Variable Price Profit = Total Revenue (TR) Total Cost (TC) TR = p * D, where p is variable p = a b*d Price (p) a is the intercept at the price axis -b is the slope p D is the selling price per unit is the demand p = a - b D Demand (D) 32

33 The Total Revenue Function TR TR = Max D=a/2b Total Revenue = p x D = (a bd) x D =ad bd 2 QUANTITY ( OUTPUT ) 33

34 Breakeven Chart (Scenario 2) Maximum Profit (not necessarily at max revenue) Cost / Revenue Profit D 1 D* D 2 D 1 and D 2 are breakeven points C T Total Revenue Quantity ( Output ) Demand 34

35 Finding BEP: Scenario 2 35

36 Scenario 2: Profit Maximization D* Occurs where total revenue exceeds total cost by the greatest amount; Occurs at d(profit)/dd=0 36

37 Solved Examples 37

38 Example 1: Finding BEP: Scenario 1 A engineering consulting firm measures its output in a standard service hour unit, which is a function of the personnel grade levels in the professional staff. The variable cost is $62 per standard service hour. The charge-out rate (i.e., selling price) is $85.56 per hour. The maximum output of the firm is hours per year, and its fixed cost is $2,024,000 per year. For this firm: 38

39 Example 1 (cont.) 1. what is the breakeven point in standard service hours and in % of total capacity 2. What is the % reduction in the breakeven point a. if fixed cost s are reduced by 10%; b. if variable cost per hour is reduced by 10%; c. if both costs are reduced by 10%; and d. if the selling price per unit is increased by 10%? 39

40 Example 1: Solution 1. At BEP: TR=TC p D = C F + c v D D = C F / (p c v ) D =$2,024,000/($85.56 $62)=85,908 hours per year D =85,908/160,000=0.537 (or 53.7% of capacity) 2. Sensitivity Analysis a. BEP at 10 % reduction in C F : D = 0.9($2,024,000)/($85.56 $62)=77,318 hours per year (85,908 77,318)/85,908=0.10 (or a reduction of 10% in D ) 40

41 Example 1: Solution (cont.) b. BEP at 10% reduction in c v : D = ($2,024,000)/($ ($62))=68,011 hours per year (85,908 68,011)/85,908=0.208 (or a reduction of 20.8% in D ) c. 10 % reduction in both costs D =$(0.9)(2,024,000)/($85.56 (0.9)$62)= 61,210 hours per year (85,908 61,210)/85,908=0.287 (a reduction of 28.7% in D ) d. 10% increase in p D =$2,024,000/((1.1)$85.56 $62)=63,021 hours per year (85,908-63,021)/85,908=0.266 (26.6% reduction in D ) 41

42 Example 1: Solution Summary Change in Factor value (s) Decrease in BEP 10% reduction in C F 10.0% 10% reduction in c v 20.8% 10% reduction in C F and in c v 28.7% 10% increase in p 26.6% 42

43 Example 2: Finding BEP: Scenario 2 A company has established that the relationship between the sales price for one of its products and the quantity sold per month is approximately D= p units. (D is the demand or quantity sold per month, and p is the price per dollars.) The fixed cost is $800 per month, and the variable cost is $30 per unit produced. a. What number of units, D*, should be produced per month and be sold to maximum net profit? b. What is the maximum profit per month related to the product? c. Determine D' 1 and D' 2. 43

44 Example 2: Solution Given: D = p (units/month) Fixed Cost (C F ) = $800/month Variable Cost per Unit (c v ) = $30/unit p= (780 D )/10 p = * D D* = (78 30)/0.2 = 240 units/month 44

45 Example 2: Solution (cont.) D* = 240, Profit = 48D - 0.1D Profit = 48(240) - 0.1(240) = $4,960 Maximum Profit = $4,960/month 45

46 Example 2: Solution (cont.), = ( )± ( ) (. )( ) (. ) D1' = or 18 units/month D2' = or 462 units/month Profitable range of demand: 18 units/month To 462 units/month 46

47 See you next week! 47