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Contemporary Engineering Economics, 4th

edition, 2007 1

IE 305

Engineering Economy

Dr. Dave Sly, PE, MBA

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2

My Background

President, Proplanner Web Based Process Engineering Software

Past President Cimtech (sold to EDS) Education

BS, MS, PhD Industrial Engineering

MBA, PE, Commercial Pilot

Other Madison Properties (current)

Indian Motorcycle Okoboji (previous)

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Contemporary Engineering Economics, 4thedition, 2007 3

Contact Info

[email protected] or 296-3120

Office 2102 Black Engr

Office Hours MW 2-3, 4-5pm, Wed 12-1pm, or by

appt.

Prefer that you use web-ct mail for personalissues and the discussion board for all

Project and HW questions. TA info on web-ct (office hours to be

determined)
mailto:[email protected]:[email protected]

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Grading

Straight Scale

100-92.5 = A

89.5-92.4=A-

Exams = 60% (20/20/20) Homework = 20%

Inclasses = 5%

Project = 15%

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In class assignments

Simple assignments during class using theclickers (purchase at bookstore by end ofweek).

I drop one of the assignments.

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MBA option in Engineering

Get your MBA in 1 more year

Pay undergrad tuition

Have your undergrad electives count towardsyour MBA

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8

Why you are taking this course

Engineers are employed by businesses Accountable to shareholders to make a profit

Frequently responsible for economic justification ofprojects

Many move into management (economic decision-making) positions

Engineers make money and have the luxury of Spending

Saving and investing Borrowing

Same economic principles at home or at work

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Are You Rich Yet?Barrons, September 20, 1999

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Filet Mignon & Champagne Rich

A portfolio of $4.55million

1% of U.S. individual

taxpayers An annual investment

income of $227,546

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Yacht & Limousine Rich


Annual investment

income of $966,621 Whos Who Y&L Rich:

Jack Welch of GE,

Mike Armstrong of

AT&T

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Really Really Rich


An annual investment

income of $1.9 million Only 110,672 U.S.

taxpayers reportedincome above $1

million (1996)

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Damn Filthy Rich

A portfolio of $1 billion

267 individuals in U.S.(1999)

Bill Gate: $85 billion Mike Dell: $20 billion

Jerry Yang: $3.8 billion

Don Trump:$1.6 billion

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Your Goal -Beer & Pretzels Rich at the

age of 65

Your current age: 20 years old

Amount of savings desired: $2 million

Interest earned on your savings: 10%

Required monthly savings: $987

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Monthly Savings Required

(to save $2M at age 65)

StartingAge

Required Monthly Savings at Varying InterestRates

5% 7% 10% 12% 15%

20 $987 $527 $190 $93 $31

30 $1,760 $1,110 $527 $311 $136

40 $3,358 $2,469 $1,507 $1,064 $617

50 $7,483 $6,310 $4,825 $4,003 $2,998

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Returns from Various Investment Classes

Average AnnualReturn 1970-1997

Best Year Worst year

U.S. Stocks 13.0% 37.6%

(1995)

-26.5% (1974)

InternationalStocks

12.7% 39.4%(1993)

-26.2% (1974)

CashEquivalent

6.8% 14.1%(1981)

3.0% (1991)

Real Estate 8.8% 20.5%(1979)

-5.6% (1991)

U.S. Bonds 9.3% 33.5%(1982)

-5.6% (1994)

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Whats the Engineering Degree Worth

in 2003?Majors Average Starting Salary

Chemical Engineering $52,169

Electrical Engineering $50,566

Mechanical Engineering $50,120

Computer Sciences $46,536

Industrial Engineering $46,123

Civil Engineering $41,067

For any engineering graduate, it is not difficult to set aside

$100 each month from his or her salary.

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Retirement Options

Start saving $2K/year upon graduation (age25) for 10 years, then stop (notrecommended).

Start saving $2K/year 10 years aftergraduation (age 35) and save for 30 years.

Using an interest rate of 8% per year, whichis best?

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Conclusion?

Start saving Early!

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edition, 2007 21

Engineering Economic

Decisions

Lecture No.1

Chapter 1

Contemporary Engineering Economics

Copyright 2006

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Chapter Opening StoryGoogle Inc.

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A Little Google History

1995 Developed in dorm room of Larry Page and Sergey Brin, graduate students

at Stanford University Nicknamed BackRub

1998 Raised $25 million to set up Google, Inc. Ran 100,000 queries a day out of a garage in Menlo Park

2005 Over 4,000 employees worldwide Over 8 billion pages indexed Market value of $110 billion

2007 Over 8,000 employees worldwide Over 380 million unique users per month Market value of $144.3 billion

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Rational Decision-Making Process

1. Recognize a decisionproblem

2. Define the goals orobjectives

3. Collect all the relevantinformation

4. Identify a set of feasibledecision alternatives

5. Select the decision criterionto use

6. Select the best alternative

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Which Car to Lease?

Saturn vs. Honda

1. Recognize a decisionproblem

2. Define the goals orobjectives

3. Collect all the relevantinformation

4. Identify a set of feasibledecision alternatives

5. Select the decisioncriterion to use

6. Select the best alternative

Need a car

Want mechanicalsecurity

Gather technical as wellas financial data

Choose betweenSaturn and Honda

Want minimum totalcash outlay

Select Honda

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Engineering Economic Decisions

Planning Investment

Marketing

ProfitManufacturing

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What Makes the Engineering Economic

Decision Difficult? - Predicting the Future

Estimating a Requiredinvestment

Forecasting a product

demand Estimating a selling

price

Estimating a

manufacturing cost Estimating a product

life

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edition, 2007 29

Create & Design

Engineering Projects

Evaluate

ExpectedProfitabilityTiming of

Cash FlowsDegree ofFinancial Risk

Analyze

Production MethodsEngineering SafetyEnvironmental Impacts

Market Assessment

Evaluate

Impact onFinancial StatementsFirms Market Value

Stock Price

Role of Engineers in Business

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edition, 2007 30

Present

FuturePast

Engineer ing EconomyAccount ing

Evaluat ing past performance Evaluat ing and predict ing future events

Accounting Vs. Accounting

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edition, 2007 31

Two Factors in Engineering

Economic Decisions

The factors of time and uncertainty

are the defining aspects of anyengineering economic decisions

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edition, 2007 32

A Large-Scale Engineering Project

Requires a large sumof investment

Takes a long time to

see the financialoutcomes

Difficult to predict therevenue and cost

streams

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edition, 2007 33

Types of Strategic Engineering

Economic Decisions in Manufacturing

Sector Service Improvement

Equipment and Process Selection

Equipment Replacement

New Product and Product Expansion

Cost Reduction

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edition, 2007 34

Service Improvement - Healthcare

Delivery

Which plan is moreeconomically viable?

Traditional Plan: Patientsvisit each service provider.

New Plan: Each serviceprovider visits patients

: patient

: serv ice provider

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edition, 2007 35

Equipment & Process Selection

How do you choose between the Plastic SMCand the Steel sheet stock for an auto bodypanel?

The choice of material will dictate themanufacturing process for an automotivebody panel as well as manufacturing costs.

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edition, 2007 36

Equipment Replacement Problem

Now is the time toreplace the oldmachine?

If not, when is the righttime to replace the oldequipment?

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edition, 2007 37

New Product and Product Expansion

Shall we build oracquire a new facility tomeet the increaseddemand?

Is it worth spendingmoney to market a newproduct?

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edition, 2007 38

Example - MACH 3 Project

R&D investment: $750

million Product promotion through

advertising: $300 million

Priced to sell at 35% higherthan Sensor Excel (about$1.50 extra per shave).

Question 1: Wouldconsumers pay $1.50 extrafor a shave with greatersmoothness and lessirritation?

Question 2: What wouldhappen if the bladeconsumption dropped morethan 10% due to the longerblade life of the new razor?

Gillettes MACH3

Project

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edition, 2007 39

Cost Reduction

Should a company buyequipment to performan operation now donemanually?

Should spend moneynow in order to savemore money later?

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edition, 2007 40

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

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edition, 2007 41

U.S. Gross Domestic Products (GDP)

Manufactur ing

(14%)

Service secto r

(80%)

Healthc are (14%)

Ag ricu lture (2%)

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edition, 2007 42

Industrial Employment

Industry 1993Employmentdistribution

1983-94National

Average

1994-2005ProjectedChange

Manufacturing 12.6% -0.70% -7.2%

Services 30.5% 60.0% 39.0%

Retail trade 16.7% 31.1% 13.0%

Financial 8.0% 26.8% 6.3%

Source: Bureau of Econom ic Analysis/Bureau of Labo r Stat is t ics

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edition, 2007 43

Employment Growth (industry)

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Employment (trends)

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edition, 2007 45

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 takenwithout the expected additional return

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edition, 2007 46

Principle 1: A nearby dollar is worth

more than a distant dollar

Today 6-month later

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edition, 2007 47

Principle 2: All it counts is the

differences among alternatives

Option MonthlyFuelCost

MonthlyMaintenance

Cashoutlay atsigning

Monthlypayment

SalvageValue atend ofyear 3

Buy $960 $550 $6,500 $350 $9,000

Lease $960 $550 $2,400 $550 0

Irrelevant items in decision making

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edition, 2007 48

Principle 3: Marginal revenue must

exceed marginal cost

Manufacturing cost

Sales revenueMarginal

revenue

Marginal

cost

1 unit

1 unit

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edition, 2007 49

Principle 4:Additional risk is not

taken without the expected additional

returnInvestment Class Potential

Risk

Expected

Return

Savings account(cash)

Low/None 1.5%

Bond (debt) Moderate 4.8%Stock (equity) High 11.5%

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Summary

The term engineering economic decisionrefers to any investment decision related toan engineering project.

The five main types of engineering economicdecisions 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 timeand uncertaintyare the

defining aspects of any investment project.

S08 Chapter 1

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