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3 rd Year Syllabus of Engineering Economy and Construction Management

3 rd Year Syllabus of Engineering Economy and Construction Management. First Semester : Engineering Economy 1.1 Introduction and Background 1.2 The Economic Environment and Cost Concepts 1.3 Selection in Present Economy 1.4 Interest and Money-Time Relationships

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3 rd Year Syllabus of Engineering Economy and Construction Management

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  1. 3rd Year Syllabus of Engineering Economy and Construction Management First Semester: Engineering Economy 1.1 Introduction and Background 1.2 The Economic Environment and Cost Concepts 1.3 Selection in Present Economy 1.4 Interest and Money-Time Relationships 1.5 Applications of Engineering Economy 1.6 Basic Methods for making Economy Studies-five methods 1.7 Selections Among Alternatives 1.8 Economy Studies for Public Projects

  2. 2. Second Semester: Engineering Management 2.1 Introduction to General Management 2.2 The Development Process, how construction is accomplished 2.3 Construction Management: Elements and Organization 2.4 Contract Construction: Contract laws, Bidding and Contract Award 2.5 Construction Contracts: Contract Elements, Contract types 2.6 Contract Administration: General Conditions of Contracts 2.7 Planning and Scheduling 2.8 Bar Graph Method

  3. References: Text book: 3.1 W. Sullivan, E. Wicks, J. Luxhoj, “Engineering Economy”, 13th Ed.2006 Further References: 3.2 E. DeGarmo, W. Sullivan, J. Canada “Engineering Economy”, 7th Ed.1984 3.3 S. Nunnally, “Construction Methods and Management”,7th Ed.2007 3.4 General Conditions of Contracts- Part I&II 3.5 FIDIC- International Forms of Contracts

  4. Chapter 1 Introduction of Engineering Economy 1. Introduction and Background: The success of engineering and business projects is more commonly measured in terms of financial efficiency. It is unlikely that a project will achieve maximum financial success unless it is properly planned and operated with respect to its technical, social, and financial requirements. Because engineers are most likely to understand the technical requirements of a project, they are very frequently called upon to make a study combining the technical and financial details, as well as social and aesthetic values of a project. Engineers play a unique and important role in the conception of new idea and projects that will require the expenditure of capital to reach the operational stage. Economy studies are concerned with making comparisons between a numbers of alternative ways of investing resources with a view to selecting the one which will give the optimal future return for the investment. One of the objectives of the majority of business must be to make Profit-$$$$$$.

  5. DEFINITION OF ENGINEERING ECONOMY • Engineering economics, previously known as engineering economy, is a subset of economics for application to engineering projects. Engineers seek solutions to problems, and the economic viability of each potential solution is normally considered along with the technical aspects.In some U.S. undergraduate engineering curricula, engineering economics is often a required course. It is a topic on the Fundamentals of Engineering examination, and questions might also be asked on the Principles and Practice of Engineering examination; both are part of the Professional Engineering registration process.Considering the time value of money is central to most engineering economic analyses. Cash flows are discounted using an interest rate, i, except in the most basic economic studies.For each problem, there are usually many possible alternatives. One option that must be considered in each analysis, and is often the choice, is the do nothing alternative. The opportunity cost of making one choice over another must also be considered. There are also non economic factors to be considered, like color, style, public image, etc.; such factors are termed attributes.Costs as well asrevenues are considered, for each alternative, for an analysis period that is either a fixed number of years or the estimated life of the project. The salvage value is often forgotten, but is important, and is either the net cost or revenue for decommissioning the project.Some other topics that may be addressed in engineering economics are inflation, uncertainty, replacements, depreciation, resource depletion, taxes, tax credits, accounting, cost estimations, or capital financing. All these topics are primary skills and knowledge areas in the field of cost engineering.

  6. 2.Engineering Economy: Is a body of knowledge devoted to the systematic evaluation of net worth benefits resulting from proposed engineering and business projects in relation to the expenditures associated with those undertakings and objectives. 3. Engineering and Management: Engineers play an increasingly important role in management. More and more decision making in government and industry is done by engineers. Some of these decisions are based on the economic factors involved, and more often there are many others factors that must be weighed and sometimes these may prevail over purely economic considerations. When managers are not engineers, they increasingly call upon engineers to make technical- economic analysis. In such situations an engineer is essentially in the position of a consultant to management and must combine technical and economic knowledge to provide sound conclusions and recommendations.

  7. 4. The decision-making process: Following is a list of six interrelated phases which make up that process: 4.1 Recognition of the problem 4.2 Definition of the goals or objectives 4.3 Identification of feasible alternatives 4.4 Selection of a criterion for judging which alternative is considered as a best 4.5 Prediction of the outcomes for each alternative 4.6 Choice of the best alternative to achieve the objective

  8. 5. Requirements of Economy Studies: Following steps are required for such studies: 5.1 Should be based on consideration of all available factors, both monetary and nonmonetary. Multiple objectives should be incorporated into analysis when they are apparent. 5.2 Should be made relative to stated viewpoint of stakeholder, organization, and customer. 5.3 Estimates for future should be made intelligently, in light of experience and sound judgment. 5.4 Decisions should be based on differences that exist among alternatives 5.5 The risks and uncertainties inherent to each alternative should be recognized and their effects considered. 5.6 Some valid measures of financial productivity, such as the internal rate of return or the net present worth, should be determined. 5.7 Should make use of some factors that will be used to judge in the worthiness of the investment after it has been made. 5.8 A recommended course of action, together with the reasons for the recommendation should be clearly stated.

  9. Chapter 2 – The Economic Environment and Cost Concepts 1. NECESSITIES, LUXURIES, AND PRICE-DEMAND Goods and services may be divided into two types; necessities and luxuries. Obviously, these terms are relative, because for most goods and services what one person may consider to be a necessity may consider by another to be luxury. Economic status is an important factor in one’s views regarding luxuries and necessities. Other factors also may be determining, for example, a man living in one community may find that an automobile is an absolutenecessity for him to be able to get to and from his place of employment. If the same man lived and worked in a different city, he might have adequate public transportation available and an automobile would be strictly a luxury.

  10. However, it is clear that for all goods and services, there is a relationship between the price that must be paid and the quantity that will be demand, or purchased. The general relationship is depicted in Figure 2-1 as the selling price is increased, there will be less demand (purchased) for the product; and as selling price is decreased, the demand (purchased) will increase. The relationship between price and demand can be expressed as a linear function: • P = a – bD for 0 ≤ D ≤ a/b ……………….(2-1) • Where (a) is the intercept on the price axis and (-b) is the slope. Thus b is the amount by which demand increase for each unit decrease in p . Both a&b are constants: • then : • D =( a – p) /b ………….(2-2)

  11. P a P = a – bD, (y = a – bx), straight line eq. -b = slope Price$ a\b D Units of Demand Figure 2-1 General price-demand relationship

  12. 2. THE TOTAL-REVENUE FUNCTION * The total revenue (TR), that will result from a business venture during a given period is the product of selling price per unit and the number of units sold. Thus: TR = Price x Demand …….(2-3) TR = PD If the relationship between price and demand as given in equation 2-1 is used: TR = (a – bD)D = aD - bD² for 0 ≤ D ≤ a/b …..(2-4)

  13. If we neglect any cost functions, the relationship between total revenue and demand for the condition expressed in Equation 2-4 may be represented by the curve shown in Figure 2-2. Under these conditions, the maximum total revenue also would produce maximum total profit. From determingthe demand, D, that will produce maximum total revenue can be obtained by solving: dTR/dD = a – 2bD = 0 ………..(2-5) thus: D* = a/2b …………(2-6) D* means the optimal value of demand(D)

  14. By substituting D* = a/2b in equ. (2-4), we obtain that: Maximum TR = aD* -bD*² = a²/2b - a²/4b = a²/4b Max.TR= a²/4b TR Demand D*=a/2b Figure 2-2 Total –revenue function as a function of demand

  15. Example: If the equation for price is given as P= 50000 – 200D, what is the demand D that maximizes total revenue? Solution: P = a – bD, a=50000, and b=200 D* =a/2b ------- equ. (2-6) Then: D* = 50000/2x200= 125 units. Substitute in equ. 2-4, that Max.TR= aD* - bD*² =50000x125-200x125x125=$3125000

  16. 3. COST – VOLUME RELATIONSHIPS Fixed costs: In all business there are certain costs that remain constant over a wide range of activity as long as the business does not permanently discontinue operations. Such costs as property taxes, interest on borrowed capital, and many of the overhead costs are of this type. Variable costs: There are other costs, however, that vary more or less directly with the volume of output, such as the cost of materials, labor, and equipments. Using this concept of fixed and variable costs, their relationship to the total-cost function is portrayed in Figure 2-3, thus at any demand D: C-total = CF + Cv (2-7) Where CF and Cv denote fixed and variable costs respectively.

  17. Cost $ Ctotal Cv = ѵ D CF Volume (Demand) Figure 2-3 .Typical fixed, variable and total costs as a function of volume

  18. For the linear relationship, assumed here; Cv = ѵ D where ѵ is the variable cost per unit (slope of the line in Fig.2-3 C total = CF + ѵ D -----(2-8) When the total revenue-demand relationship, as depicted in Fig.2-2 and the total cost-demand relationship as depicted in Fig.2-3 are combined, Figure 2-4 results for the case where(a-ѵ)>0, And the volumes for which profit and loss result are clearly evident. We obviously are interested in the condition for which maximum profit will be obtained: Profit = total revenue – total cost =( aD - bD²) – (CF + ѵ D) = - CF + (a- ѵ)D - bD² for 0≤D≤a/b We now take the first derivative with respect to D and set it equal to zero: d(profit)/dD = a- ѵ – 2bD = 0 The value of D that maximizes profit is: D* =( a- ѵ)/2b …………..(2-9)

  19. To illustrate equation 2-9, suppose again as example that P = 50000-200D, where D is demand per month and P is the price in dollars. The fixed costs are $500/month and variable costs is $5000/unit. Determine the number of units that maximizes monthly profits is? Solution: D* =( a- ѵ)/2b =50000-5000/400 =112.5 units And the corresponding maximum profit = - CF + (a- ѵ)D - bD² -500+(45000)112.5-200(112.5x112.5)=$2530750 Of course D* would probably be rounded to 112 or 113 in an actual production problem, assuming that more than 0.5 rounded to 1.0 The condition for maximum profit as expressed Equation 2-9 becomes more meaningful and useful when it is related to the incremental revenue, Equation 2-5. If we substitute Equation 2-9, the condition for maximum profit, into Equation 2-5 we obtain: dTR/dD=a-2b(a- ѵ)/2b = ѵ ……….(2-10) Because ѵ is the variable cost per unit, Equation 2-10 means that in order to obtain maximum profit, we should increase the output as long as the incremental revenue exceeds the incremental production cost, stopping when they are equal.

  20. Max.Profit C total Cost & TR revenue Profit Loss Cv= vD Cf   D (Demand)-volume Figure 2-4 combined cost and revenue functions as functions of volume, and their effect on profit.

  21. 4. THE LAW OF SUPPLY AND DEMAND As was discussed previously and as illustrated in Fig. 2-1, under competitive conditions there is a relationship between the price customers must pay for a product and the amount that they will buy. There is a similar relationship between the price at which a product can be sold and the amount that will be made available. If the price they can get for their products is high, more producers will be willing to work harder, or perhaps risk more capital, in order to reap the greater reward. If the price they can obtain for their products declines, they will not produce as much because of the smaller reward that they can obtain for their labor and risk. Some will stop producing and turn their efforts to other endeavors. This relationship between price and he volume of product produced can be portrayed by the curve shown in Figure 2-5 :

  22.   Price (P) Supply (S) Figure 2-5 General Price –supply relationship. Note that “price” is considered to be the independent variable but is shown as the vertical axis.

  23. If Fig. 2-1 and 2-5 are combined, RESULTS Fig.2-6. Fig. 2-6 illustrates the basic economic law of supply and demand, which states that under conditions of perfect competition, the price at which a given product will be supplied and purchased is the price that will result in the supply and the demand being equal. Because many economy studies deal with investments that will increase the amount of a given product that will be available on the market, we are interested in what will happen to the selling price of the commodity under the proposed conditions. If a producer is willing to supply additional volume of a product to the market at existing prices, this means that a new price-supply condition has been created.

  24. Price(P) Supply P1 Demand S1 , D1 Figure 2-6 Price-Supply- Demand relationship, showing equal supply and demand at a given price

  25. As shown in Fig. 2-7, at the original price P1, an additional amount of a product is made available and a new price-supply curve exists. Because there has no change in the price- demand relationship meanwhile, the intersection of the new supply curve results in a new and lower price, P2, corresponding to the new demand, D2. Obviously, a reverse situation results from a decrease in the amount of a product offered to the market at a given price.

  26. P (Supply)1 (Supply)2 P1 P2 Demand D1 D2 S1 S2 Supply and Demand Figure 2-7 Price-supply-demand relationship, showing how the addition of supply at a given price will cause a new and lower price to be established. Note that “price” is considered to b the independent variable but is shown as the vertical axis.

  27. 5. BREAKEVEN CHARTS: The total revenue function expressed in Equation 2-4 and illustrated in Figure 2-2 was a generalized relationship involving a straight line relationship between price and demand, as illustrated in Figure 2-1. For a specific business the revenue function is the product of price and volume sold and thus is essentially a straight line over a considerable range of volume change. For this condition the relationship between volume and fixed costs, and revenue is shown in Figure 2-8.

  28. Total revenue S profit + V Breakeven point + Cost total cost Variable costs - - Loss F’ - -- Fixed cost F O’ O Output - Q Figure 2-8 Typical breakeven chart for a business enterprise

  29. These commonly are called breakeven charts. Breakeven charts are very useful in portraying and understanding the effects of variations in fixed and variable costs on the profitability of a business. Thus they may be used to portray the effects of proposed changes in operational policy. In breakeven charts the fixed costs, variable costs, and revenue are plotted against output, either in units, dollar volume, or percent of capacity. Thus in Fig.2-8 the line F’F represents the fixed costs of production. The line F’V shows the variation intotal variable cost with production; because it’s starting point is at F’, it actually represents the sum of all production costs. The gross revenue from sales is represented by the line O’S. Because F’V represents the total costs of production and O’S the total revenue from sales, the intersection of these two lines is often calledbreakeven point or Equilibrium point.

  30. When units of output during a year are denoted Q, the total revenues equal total costs at the breakeven point, Q’: Q’(Selling price/unit – variable cost/unit) = fixed cost/yr…(2-11) Thus the breakeven point becomes: Q’=( fixed cost/yr)/selling price/unit – variable cost/unit ..(2-12) Or: Profit= TR – CT , at B.E. point Profit=0, then TR= CT PQ’ = CF + Cv Q’ …(2-11), then PQ’ _CvQ’ = CF Q’ = CF /P- Cv With the rate of production at the breakeven point the business will make no profit and have no loss. If the production rate is greater than that at the breakeven point, a profit will result. When the rate is less than that at the breakeven point, a loss will be sustained. By representing the revenue and costs of a business in this manner, we can easily determine the possibility of profit for any rate of production. Because these breakeven charts show the relationship between revenue and costs for all possible volumes of activity, they are, in effect, continuous income (profit and loss) statements.

  31. One of the most satisfactory uses of breakeven charts is to show the relative effects of changes in fixed and variable costs of a business. This is illustrated in Figure 2-9. Figure 2-9a shows the breakeven chart for a certain business that has a sales capacity of $300000 per year. For the values of revenue and cost shown, the breakeven point occurs at 50% of sales capacity. For any volume of sales over $150000, the business will make a profit.

  32. Figure 2-9 Effect of changes in fixed and variable costs on the location of the breakeven point. Maximum sales capacity (100%) corresponds to $300000 per year. (a) Before change (b) with a 10% decrease in variable costs S V B.E. F’ F O’ 41% O S V B.E F’ F O’ 50% O

  33. The chart in Figure 2-9b is drawn to determine what the effect will be if the variable costs are decreased 10%, with all other factors remaining constant. The profits are increased by $20000 when the business is operated at 100% of sales capacity. However, a more significant effect is the change in the breakeven point. The 10% decrease in variable costs lowers the breakeven point to approximately 41% of sales capacity. This means that some profit will be earned if operations are greater than 41% rather than 50% of capacity. Figure 2-9c was drawn to determine to what extent the breakeven point will be shifted if the same saving of $20000 is effected out of the fixed costs.The solid lines in Fig.2-9c give the solution to this equation. It is shown that this change in fixed costs will lower the B.E. point from 41% to approximately 29% of sales capacity. This makes the importance of controlling fixed costs very apparent. The saving of $20000 in fixed costs lowers the breakeven point nearly 12% more than would be the case if the same saving were made in variable costs at maximum sales capacity.

  34. (c) with a $20000 decrease in fixed costs. S V1 E V B.E. B.E. F” F F’ F O’ 29% x= 41% O 41% -29% = 12% the saving more in fixed cost than variable cost if both reduces $20000

  35. Unfortunately, it is usually easier to affect savings in variable cost than in fixed costs. We might wish to know what saving in fixed costs would give the same result as a greater economy in variable costs, and the dashed lines in Figure 2-9c provide this information. A vertical line XE is drawn upward from a point corresponding to 41% of sale capacity until it intersects the revenue line O’S at point E. through point E a line F’’V1 is drawn parallel to F’V. F’’F1 is the fixed-cost line that will give the required breakeven point of 41% of sales capacity. The fixed costs are determined by the ordinate O’F’’, corresponding to $42000, this means that in this case a saving of only $8000 in fixed costs will lower the breakeven point as much as a saving of $20000 in variable costs. Thus the effect of fixed costs upon the breakeven point is evident.

  36. Problem 2-1:A company produces an electronic timing switch that it used in consumer and commercial products made by several other manufacturing firms. The fixed cost (CF) is $73000 per month, and variable cost is $83 per unit. The selling price per unit is given as: P=$180- 0.02D, determine the following:1. The optimal volume for this product and confirm that a profit occurs (instead of a loss) at this demand?.2. Find the volumes at which breakeven occurs, and what is the domain of profitable demand? Solution: 1. Profit = Total revenue – Total costs = TR- (CF+Cv) = PD – (CF +vD)=(180-0.02D)D –(73000+83D) =180D - 0.02D² -73000- 83D = 97D - 0.02D² - 73000 d(profit)/dD = 97 – 0.04D =0, then; D=2425 units /month To check the result by using direct method: D=a-v/2b = (180 – 83)/2(0.02)=2425 units/month Max Profit = TR – CT =180D -0.02D² - 73000 – 83D =180(2425)-0.02(2425x2425)-73000-83(2425)=$44612 2. Total revenue =Total cost, and profit= 0 at breakeven point Profit = TR – CT =180-0.02D² - 73000 – 83D =97D- 0.02D² -73000, and =D² - 4850D + 3650000 =0 By using quadratic equation , a=1, b= -4850, c=3650000 = X1=932, X2=3918 units per month (the domain of profitable demand)

  37. Problem 2-2 An engineering consulting firm measures its output in a standard service hour unit, which is a function of the personnel grade levels in professional staff. The variable cost is $62 per standard service hour. The charge-out rate(i.e. selling price is 85.56 per hour). The maximum output of the firm is 160000 hours per year, and its fixed cost is $2024000 per year. Determine: (a: the breakeven point in standard service hours and in percentage of total capacity. (b1: what is the percentage reduction in the breakeven point (sensitivity) if fixed costs are reduced 10%? (b2: if variable cost per hour is reduced 10%? (b3: if both costs are reduced 10%? (b4: if selling price per unit is increased by 10%?

  38. Solution:Cv=$62/hour; selling price=$85.56/hour; Max.output= 160000hr/year; Cf=$2024000/year (a): B.E. point at Q’ =(fixed costs/year)/selling price per hour – Cv Q’=(2024000)/85.56 – 62 =85908hrs/year Percentage of total capacity= (85908/160000)x100=53.7% (b)1: fixed cost reduced 10%=2024000-(2024000x0.1)=$1821600 per year Q’=(1821600)/(85.56-62) =77317 hour/year Q=(85908-77317)/85908=0.10 or 10% reduction in Q’ (b)2: variable cot reduced by 10% = 62-6.2=$55.8/hr Q’=(2024000)/(85.56-55.8) = 68010 hrs/year Q=(85908-68010)/85908 =0.208 =21.0% reduction in Q’ (b)3: both costs reduced by 10%, Cf=$1821600, Cv=$55.8 Q’ =(1821600)/(85.56-55.8) =61209hrs/year Q=(85908-61209)/85908 =0.287 =28.7% reduction in Q’ (b)4: Selling price (increased by 10%) =85.56 +8.556 =$94.116 Q’=2024000/(94.116-62)=63021 hrs/year Q=(85908-63021)/(85908)=0.266 =26.6% reduction in Q’ Note: the breakeven point is more sensitive to a reduction in variable cost per hour than the same percentage reduction in the fixed cost, but reduced costs in both areas should be sought. Furthermore, notice that the B.E. point is highly sensitive to the selling price/unit as shown: 10% reduction in Cf decrease in B.E.10%, and10% reduction in Cv decrease in B.E. 20.8% 10% reduction in Cf&Cv decrease in B.E. 28.7%, and 10% increase in selling price decrease in B.E. point 26.6%

  39. Problem 2-3: A company produces and sells a product and seeking to maximize its net profit. It has concluded that the relationship between price and demand per month is approximately: D=500-5P, where P is the price in dollars. The company’s fixed costs are $1000 per month and the variable costs are $20 per unit, find the following: (a): what number of units, D should be produced and sold to maximize the net profit? (b): calculate; breakeven point, total costs, total revenues, and maximum profit? (c): draw breakeven chart showing all parameters calculated in( a) and (b)?

  40. Solution: (a): D=500-5P ; P= 100 – 0.2D ; a=100, b=0.2 Profit=TR-CT =100D -0.2D² -(1000+20D) =80D-0.2D² -1000 d(profit)/dD=80-0.4D=0 for max. profit thus D=80/0.4= 200 units Or for checking use directly method: D= a-v/2b =(100-20)/2(0.2) =200 units Profit = 80x200-0.2x200x200-1000=$7000 (b): B.E. = Cf/P –v P = 100- 0.2(200) = $60 per unit BE = 1000/60-20 =25 units Total cots= Cf +vD =1000+20(200) =$5000 TR =PD=100D-0.2D² =100x200 -0.2x200x200=$12000 Profit=80D-0.2D² -1000= 80x200-0.2x200x200-1000=$7000

  41. (c): graphically drawn: TR=$12000 Profit=$7000 Total cost=$5000 B.E. Fixed Cost=$1000 0 25 200 units Demand

  42. Home work1: Solve the problem 2-3 to determine what are required in a, b, and c, using the relationship between price and demand as P=100-0.1D? Submit the solution in next week QUIZ NEXT WEEK IN CHPTER1 &2

  43. Quiz group(B): A manufacturing plant operation has fixed cost of $2,000,000 per year and its output capacity is 100,000 electrical appliances per year. The variable cost is $40 per unit, and the product sells for $90 per unit, find the following: 1. Compare annual profit when the plant is operating at 90% of capacity with the plant operating at 100% capacity? 2. What is the percentage change in breakeven point value if plant operated at 90% compared with that operated at 100%?

  44. Quiz group(A): A local construction company producing concrete blocks. The variable cost per unit is $40 and the fixed cost that can be allocated to the production is negligible. Work out the complete solution by differential formula for profit to determine: The optimum number of blocks should be produced in order to maximize profit per week? For given equation. The relationship between demand and price is approximately : A: D = 36 – 0.20P B: P = 100 – 0.1 D

  45. Quiz group -C • Draw diagram showing price-supply-demand relationship, and showing how the addition of supply at a given price will cause a new price? 2. Determine the equation of breakeven point in terms of selling price, fixed cost and variable cost?

  46. QUIZ A company produces an electronic timing switch that it used in consumer and commercial products made by several other manufacturing firms. The fixed cost (CF) is $73000 per month, and variable cost is $83 per unit. The selling price per unit is given as: P=$180- 0.02D, determine the following:1. The optimal volume for this product and confirm that a profit occurs (instead of a loss) at this demand?.2. Find the volumes at which breakeven occurs, and what is the domain of profitable demand?

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