CHAPTER 1

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INTRODUCTION TO ENGINEERING
ECONOMICS
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 Objective of this module
• Engineering economy deals with the methods used in evaluation of
projects.
• Many engineers work on projects which address a specified activity
or a problem.
• Any decision regarding the project must be justified in monetary
terms such as “profit”.
• Such decisions are made at the managerial level and many
engineers become managers in manufacturing environment.
• 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.
 WHAT IS ECONOMICS ?
The study of how limited
resources, used to satisfy
unlimited human wants
 Resources
• Land
• Labor
• Capital
 LAND
All gifts of nature, such as: water, air,
minerals, sunshine, plant and tree
growth, as well as the land itself which is
applied to the production process.
 LABOR
The efforts, skills, and knowledge of
people which are applied to the
production process.
 CAPITAL
• Real Capital (Physical Capital )
– Tools, buildings, machinery -- things which have been
produced which are used in further production
• Financial Capital
– Assets and money which are used in the production
process
• Human Capital
– Education and training applied to labor in the
production process
 WHO IS
ENGINEER?
An engineer is person who is
trained or professionally
engaged in a branch of
engineering.
Engineers use technology,
mathematics, and scientific
knowledge to solve practical
problems.
 Engineering
• The Accreditation Board for Engineering and
Technology (ABET) states that engineering "is
the profession in which a knowledge of the
mathematical and natural sciences gained by
study, experience, and practice is applied with
judgment to develop ways to utilize,
economically, the materials and forces of
nature for the benefit of mankind"
 Origins of Engineering Economy

• Pioneer: Arthur M. Wellington, civil

engineer in the latter part of nineteenth
century he addressed role of economic
analysis in engineering projects; (e.g railroad
building )
•
 Engineering Economics
• Engineering economy deals with justification
and methods used in selection of projects.
– In business environment
– Non profit organizations
– Individuals

The main objective is to determine the "best"

project or projects.
 SOME EXAMPLES
• Business Environment: A small manufacturing company needs to buy a
forklift truck for material handling. Two different brands, A and B, are
available. Which truck should be bought? The decision will probably be
based on minimization of cost.
• Non-profit Organizations: A project for widening a two lane highway to
four lane is being considered by the county board. A four lane highway
may reduce the traffic accident rate but is expected to lower property
values in the immediate neighborhood of the highway. Should the
proposed highway be built? The county board must weigh the relative
benefit of lower accident rates against the possible loss in value of homes
as well as the construction cost.
• Individuals: 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
 PRINCIPLES OF ENGINEERING ECONOMY

1. Develop the Alternatives;

2. Focus on the Differences;
3. Use a Consistent Viewpoint;
4. Use a Common Unit of Measure;
5. Consider All Relevant Criteria;
6. Make Uncertainty Explicit;
7. Revisit Your Decisions
 DEVELOP THE ALTERNATIVES
The final choice (decision) is among
alternatives. The alternatives need to be
identified and then defined for
subsequent analysis.
 PIZZA DELIVERY

how to satisfy the hunger

of three students--
 Principle 1 - Develop the Alternatives
• i) Alternative A is to order a pizza from “Pizza
hut.”
• ii) Alternative B is to order a pizza from
“Domino’s.”
• Other options probably exist but we’ll stick to
these two alternatives.
 FOCUS ON THE DIFFERENCES
Only the differences in expected future
outcomes among the alternatives are
relevant to their comparison and should be
considered in the decision.
 Principle 2 - Focus on the Differences
Difference in delivery time could be an issue.
A perceived difference in the quality of
the ingredients used to make the pizza could
be another factor to consider.
We’ll concentrate our attention on cost
differences.
 USE A CONSISTENT VIEWPOINT
The prospective outcomes of the alternatives,
economic and other, should be consistently
developed from a defined viewpoint
(perspective).
 Principle 3 - Use a Consistent Viewpoint

Consider your problem from the perspective of

three customers wanting to get a good
deal.
Does it make sense to buy a pizza having a crust
that your dog enjoys, or ordering a pizza from
a shop that employs only college students?
Use the customers’ point of view in this
situation rather than that of the owner of the
pizza shop or the driver of the delivery vehicle.
USE A COMMON UNIT OF MEASURE

Using a common unit of measurement to

enumerate as many of the prospective
outcomes as possible will make easier the
analysis and comparison of alternatives.
Principle 4 - Use a Common Unit of Measure

Most people use “dollars” as one of the most

important measures for examining
differences between alternatives. In deciding
which pizza to order, we’ll use a cost based
metric
 CONSIDER ALL RELEVANT CRITERIA
Selection of a preferred alternative (decision
making) requires the use of a criterion (or several
criteria).

The decision process should consider the

outcomes enumerated in the monetary unit and
those expressed in some other unit of
measurement or made explicit in a descriptive
manner.
 Principle 5 - Consider All Relevant Criteria
Factors other than cost may affect the decision about which
pizza to order.
For example, variety and quality of toppings
and delivery time may be extremely
important to your choice
 MAKE UNCERTAINTY EXPLICIT
Uncertainty is inherent in projecting (or
estimating) the future outcomes of the
alternatives and should be recognized in their
analysis and comparison.
Principle 6 - Make Uncertainty Explicit
The variability in quality of the pizza, its delivery
time and even its price should be carefully
examined in making your selection.
(Advertised prices are often valid under special conditions--call first to
check on this!)
 REVISIT YOUR DECISIONS
Improved decision making results from an
adaptive process; to the extent practicable,
the initial projected outcomes of the selected
alternative should be subsequently compared
with actual results achieved.
 Principle 7 - Revisit Your Decision
After you’ve consumed your pizza, then revisit
your decision,
⮚ were you pleased with the taste of the
toppings?
⮚ was the crust like cardboard?
You’ll keep these sorts of things in mind (good
and bad) when you order your next pizza!
 ENGINEERING ECONOMIC ANALYSIS PROCEDURE
1. Problem recognition, formulation, and
evaluation.
2. Development of the feasible alternatives.
3. Development of the cash flows for each
alternative.
4. Selection of a criterion ( or criteria).
5. Analysis and comparison of the alternatives.
6. Selection of the preferred alternative.
7. Performance monitoring and post-evaluation
results.
WHY DO ENGINEERS NEED TO LEARN ABOUT
ECONOMICS?
Ages ago, the most significant barriers to engineers were
technological.
The things that engineers wanted to do, they simply did
not yet know how to do, or hadn't yet developed the
tools to do.
There are certainly many more challenges like this which
face present-day engineers. However, we have reached
the point in engineering where it is no longer possible,
in most cases, simply to design and build things for the
sake simply of designing and building them. Natural
resources (from which we must build things) are
becoming more scarce and more expensive. We are
much more aware of negative side-effects of
engineering innovations (such as air pollution from
automobiles) than ever before.
 Cont……
For these reasons,. Engineers must ask themselves if a particular project will
offer

• net benefit to the people who will be affected by the project,

• plus any negative side-effects (externalities),
• Plus the cost of consuming natural resources, both in the price that must
be paid for them and the realization that once they are used for that
project, they will no longer be available for any other project(s).

Simply, engineers must decide if the benefits of a project exceed its costs, and
must make this comparison in a unified framework. The framework within
which to make this comparison is the field of engineering economics
Engineering economy -- what is it and why is it
important?
The initial reaction of many engineering students to these questions is,
"Money matters will be handled by someone else. It is not something I
need to worry about." In reality, any engineering project must be not only
physically realizable but also economically feasible. For example, a child's
tricycle could be built with an aluminum frame or a composite frame.
Some may argue that because the composite frame will be stronger and
lighter, it is a better choice. However, there is not much of a market for
thousand dollar tricycles.
One might suggest that the above argument is ridiculously simplistic and
that common sense would dictate choosing aluminum for the framing
material. Although the scenario is an exaggeration, it reinforces the idea
that the economic factors of a design weigh heavily in the design process,
and that engineering economy is an integral part of that process,
regardless of the engineering discipline
THANKYOU
 Buy or lease a car?
• 1) Recognize a decision problem
• ……………………………………………………….need a car
• 2) Define the goals/objectives
• ……………………………………………………mechanical security and low cost
• 3) Collect all relevant information
• ……………………………………………………….technical and financial data
• 4) Identify a set of feasible decision alternatives
• ……………………………………………choose between Toyota and Honda
• 5) Select the decision criterion to use
• ……………………………….minimum total cash outlay to satisfy driving needs
• 6) Select the best alternative