Faculty of Applied Engineering and

Urban Planning

Civil Engineering Department

Engineering Economy

Chapter 1
Making Economic Decisions

Lecture 2
Week 2
2nd Semester 2016/2017
Why the Engineering economy
important to any engineer?

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Decision Making
* Decision making is a major aspect of everyday life.
Individuals, households, and firms face daily problems 

 
* Tools for analyzing and solving the economic problems
faced by engineers are needed. 
 
* Knowledge of the decision making process and of the tools
used to make comparisons between competing alternatives
leads to better decisions. 
 
* Complex problems can be broken down to produce
sensible solutions.
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 Classification of Eng. Economy Problems

Simple Problems
Can be analyzed in one’s head without extensive analysis
Do I take a taxi, bus, walk, or ride a bicycle to come to school?
How often should I eat lunch at cafeteria?
Intermediate Problems (Main subject of this course!!!)
They are sufficiently important to justify serious thought and action
They can’t be worked in one’s head; must be organized
The economic aspects are significant component in the analysis
leading to a decision
Complex Problems
Represent a mixture of economic, political, and social elements.
Selection of a president of a country.
Building a nuclear power plant. University Of Palestine
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 Examples of engineering economic analysis

* Focus on costs, revenues, and benefits that occur at different times

All engineer designs call for spending money.
  
* Decisions concerning the following questions may be made with the
help of economic analysis: 
 
- Which projects are worthwhile?
- Which projects should have higher priority?
- How the project should be designed?
- How to achieve long-term financial goals?
- How to compare different ways to finance purchases?
- How to make short and long-term financial decisions?

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* Questions or issues of non-monetary factors for
engineers to consider:
- Maintaining an eye-pleasing view 
- Meeting customer expectations consistently 
- Maximization of employee satisfaction -
- Maintaining flexibility to meet changing demand 
- Maintenance of a desired public image 
- Leveling cyclic fluctuations in production 
- Improvement of safety in operations 
- Reduction of pollutants

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 1. Recognize the problem
   
2. Define goal or objective
   
The 3. Assemble relevant data
Decision   
4. Identify feasible alternatives
Making
  
Process 5. Select decision criterion
  
6. Construct a model  
 
7. Predict alternative outcomes  
 
8. Choose best alternative
  
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Decision Making Process
1- Recognize the problem
You and a group of friends need a place to live in this
semester
2- Define the Goal or Objective
To find a nice apartment that is not too expensive.
3- Assemble Relevant Data
You need information on rent, utilities, apartment age,
parking, travel time to campus, travel time to shopping, the
neighborhood, other amenities provided (banking,
entertainment, etc.).
4- Identify Feasible Alternatives
Use the Yellow Pages, information from friends, apartment
finding services, information from University, the local
newspaper, and my personal experience, to look for
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Decision Making Process
5- Select Criterion to Determine the Best Alternative 
Most important is rent plus utilities cost. You should also be
concerned about travel time to campus, and kind of
neighborhood apartment in.
6- Construct the model
Make a spreadsheet. The rows will be the apartment choices, the
columns the evaluation criteria. Then try to fill in the
interactions between the apartments and the criteria. This
includes determining cash flows for
engineering economic analysis!!!
7- Predict Outcomes of Each Alternative 
Fill in the estimated costs for the spreadsheet and rate the
amenities, travel time, etc.
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Decision Making Process
8- Choose the Best Alternative 
You do not have to choose the cheapest
apartment. For a little bit more, you can get a
nicer neighborhood, and maybe a shorter walk
to campus.
9- Audit the Results
Did you make a good choice? 
After living in apartment you selected for six
months, are you very happy with your choice!

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 Example
Bad news – your brother just wrecked his car!   
- An automobile wholesaler offers him $2,000 for the car “as is.”
  - His insurance company estimates that there is $2,000 of damage to his
car.
- He has a collision insurance with a $1,000 deductibility provision. 
- The insurance company can fix the car right away in a repair shop
belonging to this company. Otherwise, insurance company can mail him a
check for $1,000.
- If repaired, the wrecked car can be sold for $4,500.
- The odometer reading on the wrecked car is 58,000 miles.
- Your brother can buy a newer car for $10,000 with an odometer
reading of 28,000 miles.
- A discount repair shop can repair it for $1,100 but requires 1 month.
- A car rental for one month is $400.
- You brother has $7,000 in savings. University Of Palestine
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 Solution
Alternatives  
1. Don`t repair, sell now, and buy new car:
Cash flow = $1K + $2K - $10K = -$7K 
2. Repair at insurance shop, sell, and buy the newer car:
Cash flow = -$1K + $4.5K - $10K = -$6.5K  
3. Repair at discount shop , rent a car, sell, and buy the newer car:
Cash flow = $1K - $1.1K - $0.4+ $4.5K - $10K = -$6.0K  
4. Repair at insurance shop, and keep your car:
Cash flow = -$1K  
5. Repair at discount shop, rent a car, then keep your car:
Cash flow = $1K - $1.1K - $0.4 = -$0.5K  

NOTE: Keep in mind other non-monetary factors such as mileage, repair shop reliability,
investment opportunity for savings etc.

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 The Role of Engineering Economic Analysis
* Assists in making decisions where:
- the decision is sufficiently important that serious thought and effort is
required.
- careful analysis requires that the decision variables be carefully
organized and the consequences be understood.
- economic issues are a significant component of the analysis leading to a
decision.  
* The following standards should always be considered:
- Minimize costs.
- Ensure the gains of winners exceed the losses of losers.
- Maximize profit or sales.
- Minimize project completion time.
- Improve the distribution of income or wealth.
- Minimize negative environmental consequences.
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 Example:
A concrete aggregate mix is required to contain at least 31% sand by
volume for proper batching. One source of material, which has 25%
sand and 75% coarse aggregate, sells for $3 per cubic meter (m3).
Another source, which has 40% sand and 60% coarse aggregate,
sells for $4.4/m3.

Determine the least cost per cubic meter of blended aggregates.

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 Solution
 The least cost of blended aggregates will result from maximum use
of the lower-cost material. The higher-cost material will be used to
increase the proportion of sand up to the minimum level (31%)
specified. ..

Let x = Portion of blended aggregates from $3.00/m3 source

1 - x =Portion of blended aggregates from $4.40/m3 source
Sand Balance
 x(0.25) + (1 -x) (0.40) = 0.31
 0.25x + 0.40- 0.04x =0.31 =0.60
 Thus the blended aggregates will contain
 60% of $3.00/m3 material
 40% of $4.40/m3 material
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 Solution
 The least cost per cubic meter of blended.aggregates.is

0.60($3.00) + 0.40($4.40) = 1.8+1.76

 =$3.56/m3

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 Example:
 A machine part is manufactured at a unit cost of 0.4$ for material
and 0.15$ for direct labor. An investment of $500,000 in tooling is
required. The order calls for 3 million pieces. Halfway through the
order, a new method of manufacture can be put into effect that wi11
reduce the unit costs to 0.34$ for material and 0.1$ for direct labor
but it will require 100,000$ for additional tooling. This tooling will
not be useful for future orders. Other costs are allocated at 2.5 times
the direct labor cost. What if anything, should be done?

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 Solution
 Since there is only one way to handle first 1.5 million pieces, our
problem concerns only the second half of the order.

 Alternative A: Continue with Present Method

Material cost 1,500,000pieces x 0.4= $600,000

Direct labor cost 1,500,000pieces x 0.15= $225,000

Other costs 2.50 x direct labor cost = $562,500

 Cost for remaining 1,500,000 pieces = $1,387,500

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 Solution
 Alternative B: Change the Manufacturing Method
Additional tooling $100,000
cost

Material cost 1,500,000pieces x 0.34= $510,000

Direct labor cost 1,500,000pieces x 0.1= $150,000

Other costs 2.50 x direct labor cost = $375,000

Cost for remaining 1,500,000 pieces = $1,135,000


 Before making a final decision, one should closely examine the
Other costs to see that they do, in fact, vary as the Direct labor cost
varies. Assuming they do, the decision would be to change the
manufacturing method. University Of Palestine
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Thank you

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 Next Class
Read Chapter 1 of textbook
Try to do some of the problems at end of Chap
1
Next time we’ll learn cost types and cost
estimating

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