Engineering Economic

Decisions
Lecture No.1
Professor C. S. Park
Fundamentals of Engineering Economics
Copyright 2005

What is Engineering Economy?

Economic decision making for engineering systems is called engineering

economy. This definition may seem restricted to engineering projects and
systems only, engineering economy however is also the study of industrial
economics and the economic and financial factors which influence industry.

Engineers are the people who are familiar with all the technicalities of
machinery and production therefore they are the best judges of the useful
lives of an asset and they also have the technical knowledge to calculate
the number of units a proposed plant would produce when operational.

In todays competitive world of business it has become essential that

engineers should practice financial project analysis for engineering projects
and make rational decisions.

Engineering economy also includes the study of accounting practices for

manufacturing concerns. Unique features of accounting for manufacturing
concerns are process costing, batch costing, cost allocation.

Engineering economy deals with justification and selection of projects. Many

engineers work on projects which address a specified activity or a problem.
Any decision regarding the project must be justified.

In business environments, many if not all, decisions are justified using

monetary criteria 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.

Even though, engineering economy deals mostly with selection of projects in

business environment, the tools and methods can be and are used by
individuals and non-profit organizations such as government, hospitals, and
charitable entities, etc.

SOME EXAMPLES
Let us present few examples in different environments where engineering
economy can facilitate the decision making process.

Business Environment: A small manufacturing company needs to buy a

forklift truck for material handling. Two different brands, say A and B, are
being considered. 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 lanes 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.
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Economic factors are as important as regard for the physical laws and
science that determine what can be accomplished with engineering. The
following figure shows how engineering is composed of physical and
economic components:

Physical Environment: Engineers produce products and services

depending on physical laws. Physical efficiency takes the form:

Physical

System output(s)
(efficiency) = ------------------------System input(s)

Economic Environment: Much less of a quantitative nature is known about

economic environments -- this is due to economics being involved with the
actions of people, and the structure of organizations.

Satisfaction of the physical and economic environments is linked through

production and construction processes. Engineers need to manipulate
systems to achieve a balance in attributes in both the physical and
economic environments, and within the bounds of limited resources.
5

Following are some examples

economy plays a crucial role:
1.
2.

3.

4.

where

engineering

Choosing the best design for a high-efficiency gas furnace

Selecting the most suitable robot for a welding operation on an
automotive assembly line
Making a recommendation about whether jet airplanes for an overnight
delivery service should be purchased or leased
Considering the choice between reusable and disposable bottles for highdemand beverages

With items 1 and 2 in particular, note that coursework in

engineering should provide sufficient means to determine
a good design for a furnace, or a suitable robot for an
assembly line, but it is the economic evaluation that allows
the further definition of a best design or the most suitable
robot.
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Engineering Economic
Decisions

Rational Decision- making

Process
The Engineers Role in
Business
Types of Strategic
Engineering Economic
Decisions
Fundamental Principles in
Engineering Economics

Bose Corporation

Engineering Economics
Overview

Rational Decision-Making Process

Economic Decisions
Predicting Future
Role of Engineers in Business
Large-scale engineering projects
Types of strategic engineering economic
decisions
8

Rational Decision-Making
Process
1.

2.

3.

4.

5.

6.

Recognize a decision
problem
Define the goals or
objectives
Collect all the relevant
information
Identify a set of feasible
decision alternatives
Select the decision criterion
to use
Select the best alternative

Which Car to Lease?

Saturn vs. Honda
1.

2.

3.

4.

5.

6.

Recognize a decision
problem
Define the goals or
objectives
Collect all the relevant
information
Identify a set of feasible
decision alternatives
Select the decision
criterion to use
Select the best alternative

Need a car

Want mechanical
security
Gather technical as well
as financial data
Choose between Saturn
and Honda
Want minimum total
cash outlay
Select Honda

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Financial Data Required to Make an

Economic Decision

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Engineering Economic
Decisions
Manufacturing

Planning

Profit

Investment
Marketing
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Predicting the Future

Estimating a Required
investment
Forecasting a product
demand
Estimating a selling
price
Estimating a
manufacturing cost
Estimating a product
life
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Role of Engineers in
Business
Create & Design
Engineering Projects

Analyze

Evaluate

Evaluate

Production Methods
Engineering Safety
Environmental Impacts
Market Assessment

Expected
Profitability
Timing of
Cash Flows
Degree of
Financial Risk

Impact on
Financial Statements
Firms Market Value
Stock Price

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Two Factors in Engineering

Economic Decisions
The factors of time and uncertainty
are the defining aspects of any
engineering economic decisions

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Summary

The term engineering economic decision

refers to all investment decisions relating to
engineering projects.
The five main types of engineering economic
decisions 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 time and uncertainty are the
defining aspects of any investment project.
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