Chapter 1: Economic Decisions, Engineering Costs, and Cost Estimating
Decision making process:
Costs:
Fixed: Constant, unchanging costs
Variable: Depends on the level of output or activity
Marginal: Variable cost for one or more unit
Average: Total cost divided by the number of units
Break-even-point: Total cost = Total revenue
Profit Region: Values greater than break-even-point
Loss region: Values less than break-even-point
Sunk Costs: Money spent due to a past decision
Opportunity Costs: Costs associated with a resource being used for an alternate task
Recurring Costs: Cost that reoccurs at regular intervals
Non-Recurring Costs: One of a kind cost recurring at irregular intervals
Incremental Costs: Cost differences between alternatives
Cash Costs: Cash transaction
Book Costs: Recorded, not in transactions
Lifecycle Costs: Cost associated with the lifetime of a product
Estimates:
Rough: -30% - +60%
Budget: -15% - +20%
Detailed: -3% - +5%
One-of-a-Kind Estimates: First-run projects and projects that have never been done before
Time and Effort Available: Human resources and time available for making estimates
Per-Unit Model: Per-Unit factor (e.g. cost per square meter)
Segmenting Model: Individual and component estimates are added together
Cost indexes: Historical Change in costs as a ration relationship
Power Sizing Model: Used to scale up or down known costs
Triangulation: Approaching the estimate using different sources of data or different quantitative
models to confirm the value initially calculated
Improvement and the Learning Curve: A percentage or rate at which output is increased due to
repetition
Cost Index:
Power Sizing Model:
Learning Curve:
Cash Flow:
First Cost: Expense of building or buying and installing
Operations and Maintenance: Annual expense (Electricity, labour, repairs, etc.)
Salvage Cost/Value: Receipt at project termination for sale or transfer of the equipment
Revenues: Annual Receipts due to sale of products or services
Overhaul: Major capital expenditure that occurs during the life of the asset
Chapter 2: Accounting and Engineering Economy
Balance Sheet: Financial condition at a specific time
Income Statement: Performance over a period of time
Assets: Owned by the firm and have monetary value
Liabilities: Dollar claims against the firm
Short-Term: Due within one year
Long-Term: Due later than one year (Mortgages, Bonds, Loans, etc.)
Equity/Net worth: Represents funding from the firm and its owners (shareholders)
Assets = Liabilities + Equity
Working Capital = Current Assets - Current Liabilities
Current Ratio = Current Assets / Current Liabilities
Acid Test/Quick Ratio = Quick Assets / Total Current Liabilities **(Current inventories excluded)
Net Income = Revenues - Expenses (Before Tax)
Net Profit = Revenues - Expenses (After Tax)
Net Profit Ratio = Net Profit / Net Sales Revenue
Interest Coverage Ratio = Total Income / Interest Payments
Change in Retained Earnings (RE) = REend = REbeg + Net Income + New Stock - Dividends
Cost Accounting: Used to develop product costs, determine the mix of labour, materials, and other costs in a
production setting, and to evaluate outsourcing and subcontracting possibilities
Direct Costs: Activities directly associated with the final product or service produced (e.g., materials, labour,
etc.)
Indirect costs: Costs not easily linked directly to individual products or services (e.g., machine depreciation,
management/sales/administration costs, etc.)
Chapter 3 & 4: Interest and Equivalence, Equivalence for Repeated Cash Flows
Receipts: Cash IN | Disbursements: Cash OUT
i = Interest rate per interest period
ie, ia = Annual effective interest rate (compounded annually)
m = Number of compounding periods per year
n = Number of compounding periods
r = Nominal annual interest rate
P = Present worth
F = Future worth
A = Uniform amount per interest period
G = Uniform gradient amount per interest period
Simple Interest:
Pin = P * i * n
Single Payment Compound Interest (F/P):
F = P(1 + i)n
SPCI Equivalence (P/F):
P = F(1 + i)-n
Nominal Interest Rate:
r=i*m
Effective Annual Interest Rate:
i = r/m
ia = (1 + r/m)m - 1
ia = (1 + i)m - 1
Infinite Compounding Periods (Continuously Compounded):
i-a = (er) - 1
**DON’T FORGET TO MULTIPLY THE FACTOR BY THE GIVEN VALUE**
Arithmetic/Uniform Gradient Present Worth (Formula seen in class):
Geometric Series Present Worth ( i != g ):
Geometric Series Present Worth ( i == g ):
**CC = Continuous Compounding
CC Compound Amount: (F/P):
F = P(ern) = P[F/P, r, n]
CC Present Worth: (P/F):
F = P(e-rn) = F[P/F, r, n]
CC Sinking Fund (A/F):
CC Capital Recovery (A/P):
CC Series Compound Amount (F/A):
CC Series Present Worth (P/A):
Chapter 5: Interest and Equivalence, Equivalence for Repeated Cash Flows
Assumptions in Solving Economic Analysis Problems:
End-of-Year Convention: All cash flow amounts are calculated as amounts at the end of each year
period
No sunk costs: Only the current situation and potential future is considered
Economic Analysis Study Viewpoint: Generally want to take the p.o.v. of a total firm
Borrowing Money Viewpoint:
Financing: The obtaining of the money
Investment: The spending of the money
Income Taxes: Must be considered to find real payoff of project, will often affect alternatives, allowing
the comparison without considering income taxes
Effect of Inflation or Deflation: Must be considered to find the real payoff of a project
Criteria:
- Alternatives are judged based on economic efficiency
- Present: Present Worth Analysis
- Future: Future Worth Analysis
- Series of equal cash flows at regular intervals: Annual Cash Flow Analysis
NPW/Net Present Worth = Present Worth Benefits - Present Worth of Costs
- The alternative with the higher NPW is selected
- Do not analyze alternatives using NPW with different lives, use LCM of lives or an analysis period if
LCM is too large
Infinite Analysis Period:
Large scale infrastructure projects are considered to have an infinite analysis period.
Capitalized Cost is the present sum that is required to provide the service indefinitely.
A = Pi for n = Infinity
Capitalized Cost = P = A/i
Quiz 2 Definitions:
Disbursements: An amount of money paid out
Effective Interest Rate: The annual interest rate when the effect of any compounding during the titles is
subtracted from the appraised value
Equivalence: Any engineering economy concept that allows us to use compound-interest calculations to
compare sums of money occuring at different times
Interest: Rent paid for the use of money
Nominal Interest Rate: The annual interest rate without the effect of any compounding
Annuity: A level stream of cash flows for a fixed period of time
Arithmetic gradient series: Cash flows that increase or decrease by a constant amount
Perpetuity: A series of constant payments lasts forever