 8.

Suppose we know that p=1,000 – D/5, where p

= price in dollars and D = annual demand. The
total cost per year can be approximated by
$1,000 + 2D2 .
 Determine the value of D that maximizes profit.
 Show that in part(a) profit has been maximized
rather than minimized.
Answer:
(a) p = 1,000 - 0.2D
TC = 1,000 + 2D2

Profit = Total Revenue - Total Cost

= (1,000 - 0.2D)D - (1,000 + 2D2)
= 1,000D - 2.2D2 - 1,000
d Profit
= 1,000 - 4.4 D* = 0
dD

D* = 227.27 units per year

d 2 (Profit)
2
= - 4.4 < 0
(b) dD

Since the second derivative is negative, profit has been maximized at

D*.
6. The fixed cost for a steam line per meter of pipe is
$450X + $50 per year. The cost for loss of heat from
the pipe per meter is $4.8/X1/2 per year. Here X
represents the thickness of insulation in meters and
X is a continuous design variable.
a. What is the optimum thickness of the insulation?
b. How do you know that your answer in (a)
minimizes total cost per year?
Answer:
(a) Total Annual Cost (TAC) = Fixed cost + Cost of Heat Loss
4.80
= 450X + 50 +
X1/ 2
d (TAC) 2.40
= 0 = 450 - 3/2
dX X
3/2 2.40
X = = 0.00533
450
X* = 0.0305 meters
(b) for X > 0.
d 2 (TAC) 3.6
= > 0
dX2 X5/ 2
Since the second derivative is positive, X* = 0.0305 meters
is a minimum cost
thickness.

(c) The cost of the extra insulation (a directly varying cost) is being traded-
off against the value of
reduction in lost heat (an indirectly varying cost).
7. A local defense contractor is considering the
production of fireworks as a way to reduce
dependence on the military. The variable cost per unit
is $40D. The fixed cost that can be allocated to the
production of fireworks is negligible. The price
changed per unit will be determined by the equation
p=$180-(5)D, where D represents demand in units
sold per week.
a. What is the optimum number of units the defense
contractor should produce in order to maximize
profit per week?
b. What is the profit if the optimum number of units are
produced?
 Seatwork:
1. A company produces and sells a consumer product and is able to control the
demand for the product bby varying the selling price. The approximate
relationship between price and demand is
2,700 5,000
p  $38   2
, forD  1
D D
Where p is the price per unit in dollars and D is the demand per month. The
company is seeking to maximize its profit. The fixed cost is $1,000 per month
and
the variable cost is $40 per unit.
a. What is the number of units that should be produced and sold each month to
maximize profit?
b. Find the maximum profit per month.
2. Suppose that the ABC Corporation has production (and sales) capacity of
$1,000,000 per month. Its fixed costs are $350,000 per month, and the variable
cost- over a considerable range of volume – are $0.50 per one dollar ($1) of
sales.
a. What is the annual break-even point volume (D’)?
b. What would be the effect on D’ of decreasing the variable cost per unit by
10%
if the fixed cost thereby increased by 10%?

BREAK – EVEN ANALYSIS, TWO ALTERNATIVES
Industry is faced with certain situations where two or more alternatives
can be
considered. When the cost for two alternatives is affected by a common decision
variable, there may exist a value of the variable for which the two alternatives
will
incur equal cost. This value is known as the break-even cost. Below this cost, one
method will be more economical, and above this cost, the other will prove to be
better economically.
TCA
TCB
Total Cost

D’ Volume (D)
TCA = TCB
Examples
1. Two manufacturing methods are being
considered. Method A has a fixed cost of
P5,000 and a variable cost of P50. Method B
has a fixed cost of P2500 and a variable cost
of 150. For what production volume would
one prefer (a) Method A, and (b) Method B?
2. Two companies are engaged in the manufacture of shirts.
Company A, using mostly handwork, has a fixed cost
monthly expense of P45,000 and a variable cost of P15.00
per shirt. Company B has been able to mechanize most of
its operations, and it finds its fixed monthly expenses are
P80,000 and the variable cost per shirt is P12.50.
a. How many shirts should be manufactured by
each month so that the total cost will be the same for the
two companies?
b. If each shirt sells for P32.00 to the retailers,
determine the monthly profit for each company.
PRESENT ECONOMY
 SELECTIONS IN PRESENT
ECONOMY
Present Economy involves the analysis of
problems for manufacturing a product or
rendering a service upon the basis of present
or immediate costs. The period of time
involved in this study is relatively short and
the influence of time of money is not a
significant consideration
PRESENT ECONOMY STUDIES
When alternatives for accomplishing a task are
compared for one year or less (I.e., influence of time
on money is irrelevant)
Rules for Selecting Preferred Alternative
Rule 1 – When revenues and other economic benefits
are present and vary among alternatives, choose
alternative that maximizes overall profitability based
on the number of defect-free units of output
Rule 2 – When revenues and economic benefits are
not present or are constant among alternatives,
consider only costs and select alternative that
minimizes total cost per defect-free output
PRESENT ECONOMY STUDIES
Total Cost in Material Selection
In many cases, selection of among materials cannot
be based solely on costs of materials. Frequently,
change in materials affect design, processing, and
shipping costs.
Alternative Machine Speeds
Machines can frequently be operated at different
speeds, resulting in different rates of product output.
However, this usually results in different frequencies
of machine downtime. Such situations lead to
present economy studies to determine preferred
operating speed.
PRESENT ECONOMY STUDIES
Make Versus Purchase (Outsourcing) Studies
A company may choose to produce an item in house, rather
than purchase from a supplier at a price lower than
production costs if:
1. direct, indirect or overhead costs are incurred regardless of
whether the item is purchased from an outside supplier, and
2. The incremental cost of producing the item in the short run is
less than the supplier’s price
The relevant short-run costs of the make versus
purchase decisions are the incremental costs
incurred and the opportunity costs of resources
PRESENT ECONOMY STUDIES
Make Versus Purchase (Outsourcing) Studies
 Opportunity costs may become significant when in-house
manufacture of an item causes other production
opportunities to be foregone (E.G., insufficient capacity)
 In the long run, capital investments in additional
manufacturing plant and capacity are often feasible
alternatives to outsourcing.
Examples:
1.The student chapter of American Society of Mechanical Engineers is
planning a 6-day trip to the National conference in Albany, New
York. For transportation the group will rent a car from either the
State Tech Motor Pool or a local car dealer. The Motor Pool charges
$0.26 per mile, has no daily fee, and the motor pool pays for the
gas. The car dealer charges $25 per day and $0.14 per mile, but the
group must pay for the gas. The car’s fuel rating is 20 miles per
gallon, and the price of the gas is estimated to be $1.20 per gallon.

a. If the students anticipate driving 1,600 miles (total, from whom

should they rent a car?
b. At what point, in miles , is the cost of both options equal?
c. The car dealer has offered a special student discount and will give
the students 100 free miles per day. What is the new breakeven
point?
2. A contractor has a job which should be completed in
100 days. At present, he has 80 men on the job and it
is estimated that they will finish the work in 130
days. Of the 80 men 50 are each paid P120.00 a day,
25 at P180.00 a day, and 5 at P250.00 a day. For each
day beyond the original 100 days, the contractor has
to pay P500.00 liquidated damages.
a) How many more men should the contractor add so
that he can complete the work on time?
b) If of the additional men, 2 are paid P180.00 a day,
and the rest at P120.00 a day, would the contractor
save money by employing more men and not paying
the fine?
3. A machine part to be machined may be made
either from an alloy of aluminum or steel. There
is an order for 8,000 units. Steel costs P3.80 per
kg, while aluminum costs P8.70 per kg. If steel is
used, the steel per unit weighs 110 grams; for
aluminum, 30 grams. When steel is used, 50
units can be produced per hour; for aluminum,
80 units per hour with the aid of a tool costing
P640, which will be useless after the 8,000 units
are finished. The cost of the machine and
operator is P10.80 per hour. If all other costs are
identical, determine which material will be more
economical?
4. A company finds that, on the average, two of its engineers,
always travelling together, spend 60 hours each month in flying
on commercial airlines in making service calls to customer’s
plants. Also, the cost for airline tickets, airport buses, car rental,
and so on is approximately $2,000 per person per month. An air
charter service offers to supply a small business jet and pilot on
24-hour notice at a cost of $1,200 per month plus $125 per hour
of flying time and $25 per hour of waiting time on the ground at
the destination. It states that experience for similar situations has
shown that using the charter service will reduce total travel time
by 50%. The company estimates that the cost of car rental at
destinations probably would amount to about $250 per month if
the charter service is used, and the average waiting time will be
about 40 hours to the company.It is also estimated that each
engineer’s time is worth $40 per hour to the compnay. Should
the charter service be used?
5. A machine part requires the making of several
holes in each piece. Two methods are available.
The first consists of laying out the position of the
holes with dividers and a center punch and the
drilling. In this method, a workman, who is paid
P28.00 per hour, can complete 2 pieces per minute.
The other method is to make a drill jig costing
P3,000 for use in drilling the holes. By this method,
a workman, who is paid P24.00 per hour, can
complete 6 pieces per minute. All other costs are
the same for both methods.
a. Determine the comparative costs for
making 24,000 pieces. Assume that the cost of the
drill jig is charged to this operation.
b. Determine the number of pieces that will
have to be made so that the costs will be the same
for both methods
6. An executive receives an annual salary of P300,000
and his secretary a salary P60,000 a year. A certain
task can be performed by the executive, working
alone, in 4 hours. If he delegates the task to his
secretary it will require him 30 minutes to explain
the work and another 45 minutes to check the
finished work. Due to the unfamiliarity of the
secretary to do the task it takes her an additional
time of 6 hours after being instructed. Considering
salary cost only, determine the cost of performing
the task by each method, if the secretary works
2,400 hours a year and the executive 3,000 hours a
year.
7. A. Compare the probable part cost from Machine A and Machine B,
assuming each will make the part to the same specification. Which
machine yields the lowest part cost? Assume the interest rate is
negligible.
B. If the cost of labor can be cut in half by using part-time
employees, which machine should be recommended?

Machine A Machine B
Initial capital investment $35,000 $150,000
Life 10 years 8 years
Salvage value $3,500 $15,000
Parts required per year 10,000 10,000
Labor cost per hour $16 $20
Time to make one part 20 minutes 10 minutes
Maintenance cost per year $1,000 $3,000
8.A bicycle component manufacturer produces hubs for bike
wheels. Two processes are possible for manufacturing, and the
parameters of each process are as follows:

Process 1 Process 2

Production Rate 35 parts/ hr 15 parts / hr

Daily Production Time 4 hr/day 7 hr/day

Percent of Parts 20% 9%

Rejected Passed on
Visual Production
Assume that the daily demand for hubs allows all defect-
free hubs to be sold. Additionally, tested ore rejected hubs
cannot be sold.
Find the process that maximizes profit per day if each rat
is made from Php200 worth of material and can be sold for Php
1500. Both processes are fully automated, and variable
overhead cost is charge at the rate of Php 2000 per hour.
9.One method for developing a mine containing an
estimated 100,000 tons of ore will result in the
recovery of 62% of the available ore deposit and will
cost $23 per ton of material removed. A second
method of development will recover only 50% of the
ore deposit, but it will cost only $15 per ton of
material removed. Subsequent processing of the
removed ore recovers 300 pounds of metal from each
ton of processed ore and costs $40 per ton of ore
processed. The recovered metal can be sold for $0.80
per pound. Which method for developing the mine
should be used if your objective is to maximize total
profit from the mine?
 10. Two alternative designs are under consideration for a
tapered fastening pin. The fastening pins are sold for
$0.70 each. Either design will serve equally well and will
involve the same material and manufacturing cost except
for the lathe and drill operations.
design A will require 16 hours of lathe time and 4.5
hours of drill time per 1,000 units. Design B will require 7
hours of lathe time and 12 hours of drill time per 1,000
units. The variable operating cost of the lathe, including
labor, is $18.60 per hour. The variable operating cost of
the drill, including labor, is $16.90 per hour. Finally, there is
a sunk cost of $5,000 for Design A and $9,000 for design
B due to obsolete tooling.
a. Which design should be adopted if 125,000 units are
sold per year?
b. What is the annual saving over the other design?