Week 1 1 - Suhaida Ppt

7/31/2019 Week 1 1 - Suhaida Ppt

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Engineering Economic Decisions

Week #1 (1)

Suhaida Mohd Sood

Institute of Energy Policy and Research


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Introduction and Motivation

Discussion TopicsRational decision-making process

The role of engineers in business

What makes engineering economics decisions difficult? Strategic decisions

The fundamental principles in engineering economics


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Opening Story: Google


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A Little Google History

1995 Developed in dorm room by Larry Page and Sergey Brin,

graduate students at Stanford University Nicknamed BackRub (reflecting great taste )

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

Estimated market value over $100 billion As of today, the value of Google is likely to be in the

hundreds of billions range


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Figure 1.1 A helicopter lowers towers for high-voltagepower lines into place. Many say the country needs to buildmore of these lines to move renewable power and become

more efficient.


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Types of business organisations

Sole proprietorships - single owner who willbe legally responsible for all the businessdebts.

Partnerships - shared ownership by two ormore partners. The business profit/loss anddebts are shared according to their agreed

proportion.

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Types of business organisations

Limited companies or Corporation Created by law and are regarded as separate

entity from the owner.

The liabilities of the business debts arelimited to the amount of investment in thebusiness.

Two types:

Private limited - ownership limited to amongstfamily member or friends.

Public limited - ownership is open to the public.

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Types of business

Trading - the business which buy productsand then selling those products to customerse.g. wholesalers and retailers

Service industries - provide service to

customers such as doctors, lawyers,accountants etc.

Manufacturing - the business which convert

raw material into finished product and sell thefinished products to customers e.g. factorymanufacturing electrical goods, foods, carsetc.

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Rational Decision-Making Process

1. Recognize the decisionproblem

2. Collect all needed(relevant) information

3. Identify the set of feasibledecision alternatives

4. Define the key objectivesand constraints

5. Select the best possibleand implementabledecision alternative


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A Simple Illustrative Example: Car toLease Saturn or Honda?

Recognize the decisionproblem

Collect all needed(relevant) information

Identify the set of feasibledecision alternatives

Define the key objectives

and constraints

Select the best possibleand implementabledecision alternative

Need to lease a car

Gather technical and

financial data

Select cars to consider

Wanted: small cash outlay,safety, good performance,aesthetics,

Choice between Saturnand Honda (or others)

Select a car (i.e., Honda,Saturn or another brand)


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Engineering Economic Decisions

Financial

planningInvestment

and loan Marketing

Profit! Then continue

at the next stageManufacturing

Needed e.g. in the following (connected) areas:

Design


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What Makes Engineering EconomicDecisions Difficult? Predicting the Future

Estimating the requiredinvestments

Estimating productmanufacturing costs

Forecasting the demandfor a brand new product

Estimating a good

selling price

Estimating product lifeand the profitability ofcontinuing production


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Create & Design

Engineering Projects

Evaluate

ExpectedProfitability Timing of

Cash Flows Degree ofFinancial Risk

Analyze

Production Methods Engineering Safety Environmental Impacts

Market Assessment

Evaluate

Impact on FinancialStatementsFirms Market Value

Stock Price

The Role of Engineers in Business


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Present

FuturePast

Engineering EconomyAccounting

Evaluating past performance Evaluating and predicting future events

Accounting vs. Engineering Economy


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Key Factors in Selecting GoodEngineering Economic Decisions

Objectives, available resources, time and uncertainty

are the key defining aspects of all engineering economicdecisions


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Large-Scale Engineering Projects

These typically require a large sum of investment

can be very risky

take a long time to see the financial outcomes

lead to revenue and cost streams that are difficult topredict

All the above aspects (and some others not listed here)

point towards the importance of EEA


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Types of Strategic Engineering EconomicDecisions in the ManufacturingSector

Service Improvement

Equipment and Process Selection

Equipment Replacement

New Product and Product Expansion

Cost reduction or profit maximization can be seen asgeneric (common, eventual) objectives

In the most general sense, we have to make decisionsunder resource constraints, and in presence ofuncertainty not only in the EEA context


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Example 1:Healthcare Service Improvement

1 Traditional Plan: Patientsvisit the service providers

2 New Strategy: Serviceproviders visit the patients

Which one of the two plansis more economical? The

answer typically depends on

the type of patients and the

services offered. Examples?

patientsservice providers

1

2


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Example 2:Equipment Replacement Problem

Key question:

When is the right time toreplace an old machine

or equipment?


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Example 3:New Product and Product Expansion

Shall we build or acquirea new facility to meet theincreased (increasingforecasted) demand?

Is it worth spendingmoney to market a newproduct?


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Example 4: Cost Reduction

Should a company buynew equipment toperform an operation thatis now done manually?

Should we spend moneynow, in order to savemore money later?

The answer obviously

depends on a number offactors.


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Further Areas of Strategic EngineeringEconomic Decisions in the Service Sector

Commercial Transportation

Logistics and Distribution

Healthcare Industry

Electronic Markets and Auctions Financial Engineering and Banking

Retail

Hospitality and Entertainment

Customer Service and Maintenance


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Gross Domestic Product (GDP)Distribution by Sector (U.S. Example)

Manufacturing 14%

Service sector 70%

Healthcare 14%Agriculture 2%

Total 30%


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The Four Fundamental Principles ofEngineering Economics

1: An instant dollar is worth more than a distant dollar

2: Only the relative (pair-wise) difference among theconsidered alternatives counts

3: Marginal revenue must exceed marginal cost, in order tocarry out a profitable increase of operations

4: Additional risk is not taken without an expected additionalreturn of suitable magnitude


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Principle 1An instant dollar is worth more than a

distant dollar


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Principle 2Only the cost (resource) difference

among alternatives counts


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Principle 3Marginal (unit) revenue has to

exceed marginal cost, in order toincrease production

Manufacturing cost

Sales revenue

Marginalrevenue

Marginal

cost1 unit

1 unit


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Principle 4Additional risk is not taken without a

suitable expected additional returnInvestment Class Potential

Risk

Expected

Return

Savings account(cash)

Lowest 1.5%

Bond (debt) Moderate 4.8%

Stock (equity) Highest 11.5%

A simple illustrative example. Note that all investments implysome risk: portfolio management is a key issue in finance


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Summary The term engineering economic decision refers to any

investment or other decision related to an engineeringproject

The five main types of engineering economic decisions are(1) service improvement, (2) equipment and processselection, (3) equipment replacement, (4) new product andproduct expansion, and (5) cost reduction

The factors of time, resource limitations and uncertaintyare key defining aspects of any investment project

Notice that all listed decision types can be seen andmodeled as a constrained decision (optimization) problem

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Week 1 1 - Suhaida Ppt