Ch 9-1© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Cost Analysis and Estimatingfor Engineering and Management

Chapter 9

Cost Analysis

Ch 9-2© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Overview

Making Decisions (Tradeoffs) Cash Flow Effects Variations on Breakeven Analysis Marginal Costs, Revenues, Profits Life Cycle Costs

Ch 9-3© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Tradeoffs

Between/Among Design Alternatives Proceed or Terminate Make or Buy Current or Proposed Product/Method Often Before or During Design

Ch 9-4© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Product Development

Ch 9-5© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Tradeoff Study

Search for Alternatives Determine Cost Estimates Use Comparative Economy Consider Constraints Understand Irreducible Factors Make Decisions

Ch 9-6© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Considering Cash Flow

Amount and Timing of Cash Coming In, From SalesGoing Out, In Expenses

AlsoDepreciationTaxesInflation/Deflation

Ch 9-7© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Taxation Effects on Cash Flow

Property TaxesFixed, Comparatively Small

Sales TaxesPart of Material/Equipment Cost

Income TaxesFederal and Sometimes State

Ch 9-8© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Income Taxes

Proportion of Gross Income

Net Income: What’s Left After Taxes Paid

Eq 9.1

deductionson depreciati -

es)expenditur capital(except expenses all -

income gross =income Taxable

Ch 9-9© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Graduated Tax ScheduleIf Income is

Between 

 and 

The tax isof the Amount

Over

$ 0 $50,000 15% 0

50,000 75,000 $ 7,500 + 25% 50,000

75,000 100,000 13,750 + 34% 75,000

100,000 335,000 22,500 + 39% 100,000

335,000 10,000,000 113,900 + 34% 335,000

10,000,000 15,000,000 3,400,000 + 35% 10,000,000

15,000,000 18,333,333 5,150,000 + 38% 15,000,000

18,333,333 …. 6,416,667 + 35% 0

Ch 9-10© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Inflation/Deflation

“Value” of Dollar ChangesPurchasing PowerQuantized Through Indices

For Comparisons Over Long Times

Eq 9.3 1

1kn

arf

DD

Ch 9-11© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Calculating Cash Flow

Usually for Annual Basis Only for Top/High Level Mathematically:

Eq 9.4 1 ccc DtCDGF

Ch 9-12© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Breakeven

How Many Must Be Sold to Recover Costs

RelationshipCostPriceVolume Profit

Ch 9-13© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Linear Cost Case

Fixed Cost Is Constant for PeriodDoes Not Change with Quantity

Variable Cost Is LinearConstant per Unit CostNo Production, No Variable Cost

Ch 9-14© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Calculations

Total Cost

Cost per Unit

Total Revenue

Eq 9.6

Eq 9.7

Eq 9.8

vfT nCCC

n

CC T

u

vT nRR

Ch 9-15© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Breakeven Point

For Linear Variable Cost

Higher Quantities Reduce Fixed Cost per Unit

Eq 9.9 vv

fBE

CR

Cn

Ch 9-16© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Breakeven Chart

Ch 9-17© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Per Unit Chart

Ch 9-18© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Linear Comparisons

Breakeven Process Can Be Used to Compare Alternatives

Between Two Processes (Isocost Point)Make-or-BuyReducing Material CostsTax Effects

Ch 9-19© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Process Comparison

Ch 9-20© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Make or Buy

Ch 9-21© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Material Cost Reduction

Ch 9-22© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Tax Effects

Ch 9-23© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Semi-Fixed Costs

Cost Changes In Steps Changes Infrequent During Scope Examples

Add Another ShiftAdd Another Machine/Line

Total CostEq 9.10 vsffT nCCCC

Ch 9-24© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Semi-Fixed Cost Chart

Ch 9-25© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Semi-Fixed per Unit Chart

Ch 9-26© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Nonlinear Cost

Per Unit Variable Cost Is Not Constant Per Unit Revenue May Also Vary Add Nonlinear Variable and Fixed Costs Divide By Number of Units to Get

Average Unit Cost

Ch 9-27© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Cost ScheduleUnits Cf nCv CT CT/n

0 $4,000   $4,000  

1 4,000 $800 4,800 $4,800

2 4,000 1,120 5,120 2,560

3 4,000 1,340 5,340 1,780

4 4,000 1,600 5,600 1,400

5 4,000 1,900 5,900 1,180

6 4,000 2,520 6,520 1,087

7 4,000 3,520 7,520 1,074

8 4,000 4,800 8,800 1,100

Ch 9-28© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Marginal Cost, Revenue, Profit

Associated with an Additional Unit of Production

Can Be Nonlinear Marginal Cost = CT / n

Marginal Revenue = RT / n

Marginal Profit = RT / n - CT / n

Ch 9-29© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Product Analysis n

Marginal Cost

Marginal Revenue

Marginal Profit

0      

1 $800 $2,000 $1,200

2 320 2,000 1,680

3 220 2,000 1,780

4 260 1,800 1,540

5 300 1,500 1,200

6 620 1,200 580

7 1,000 1,100 100

8 1,280 1,100 (180)

Ch 9-30© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Total Revenue and Cost

Ch 9-31© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Marginal Plots

Ch 9-32© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Revised Breakeven Analysis

Find Linear Approximation for Revenue Data

Regression Analysis

BreakevenEq 9.11

Eq 9.13

fvT RnRR

vv

ffBE

CR

RCn

Ch 9-33© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Linear Breakeven

Ch 9-34© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Higher Order Solutions

To Fit Some Data Higher Order Polynomial Regression Is Needed

Marginal Cost/Revenue Determined Using Derivation of Regressed Models

Eq 9.14 Eq 9.15

dn

dCC T

m dn

dRR T

m

Ch 9-35© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Nonlinear Cost & Revenue

Ch 9-36© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Marginal Plots

Ch 9-37© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Consequences Minimum & Maximum Production Limits

Marginal Profit = Zero

Optimum Sales Revenue, Production Cost, ProfitBut Not All at the Same Point

Eq 9.17 0dn

dC

dn

dR

dn

dZ TT

Ch 9-38© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Life Cycle Cost

Considers Costs for Entire LifeProduction / AcquisitionOperationMaintenance / UpkeepSalvage Value / DisposalRecycling

Sum of All Costs from Concept Forward

Ch 9-39© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

LCC Use

Used for Comparing Alternatives Initial Cost and Operating /Use Cost For Example

High Cost, Reliable ItemLow Cost, More Repair / ReplacementPay Now or Pay Later

Ch 9-40© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Estimates Required for LCC

Design Capital Investment Operation, Maintenance, Use Replacement Upgrading Salvage

Ch 9-41© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Phases of Project Life

Ch 9-42© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

End of Life

Worn Out Ceases Function

Loss of ProfitCosts Too Much to Continue Operation

ObsoletePurpose No Longer ExistsSuperior Replacement Available

Ch 9-43© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Operating & Maintenance Costs

NeedOperating ProfileMaintenance ScheduleRepair Data

Scheduled Maintenance (Preventative)

Eq 9.18 timecycle

=actions PM

SOHPM

Ch 9-44© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Breakdown Costs

Mean Time Between Failure (MTBF) Mean Time to Repair (MTTR)

Eq 9.19 mcm CMTTRMTBF

SOHC

Ch 9-45© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

LCC Comparison

Ch 9-46© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Long Life Costs

Life in Multiple Years Interest Rate Considerations

Time Value of Money$1 in 5 Years Is Worth Less Today

Impacts LCC Calculations Covered In Chapter 10

Ch 9-47© 2004 Pearson Education, Inc.Pearson Prentice Hall, Pearson Education, Upper Saddle River, NJ 07458Ostwald and McLaren / Cost Analysis and Estimating for Engineering and Management

Summary

Methods for Making Tradeoff Decisions Considerations Involving Cash Flow More Complicated Breakeven Models Marginal Costs, etc. Limits on Production Costs for Entire Life Cycle