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Applying Annual Worth Analysis: Lecture No.20 Contemporary Engineering Economics

Apply annual worth analysis to Pricing the Use of an asset. Determine the number of units to be produced (or serviced) each year. Divide equivalent cost (worth) by number of units produced or serviced. Choose the option with the minimum unit cost.

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33 views

Applying Annual Worth Analysis: Lecture No.20 Contemporary Engineering Economics

Apply annual worth analysis to Pricing the Use of an asset. Determine the number of units to be produced (or serviced) each year. Divide equivalent cost (worth) by number of units produced or serviced. Choose the option with the minimum unit cost.

Uploaded by

m_ibal27
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
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Download as PPT, PDF, TXT or read online on Scribd
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Applying Annual Worth Analysis

Lecture No.20 Chapter 6 Contemporary Engineering Economics Copyright 2006


Contemporary Engineering Economics, 4th edition, 2007

Applying Annual Worth Analysis

Unit Cost (Unit Profit) Calculation


Make or Buy Decision
Pricing the Use of an Asset

Contemporary Engineering Economics, 4th edition, 2007

Unit Cost (Profit) Calculation

Step 1: Determine the number of units to be produced (or serviced) each year over the life of the asset. Step 2: Determine the annual equivalent cost (or worth) by owning and operating the asset. Step 3: Divide the equivalent cost (worth) by the number of units produced or service each year.
Contemporary Engineering Economics, 4th edition, 2007

Example 6.5 Unit Profit per Machine Hour


$55,760 $24,400 0 1 $75,000 2 3 $27,340

Operating Hours per Year

2,000 hrs.

2,000 hrs. 2,000 hrs.

PW (15%) = $3553 AE (15%) = $3,553 (A/P, 15%, 3) = $1,556 Savings per Machine Hour = $1,556/2,000 = $0.78/hr.
Contemporary Engineering Economics, 4th edition, 2007

Example 6.6 Unit Profit per Machine Hour When Annual Operating Hours Fluctuate
$55,760 $24,400 0 1 $75,000 2 3 $27,340

Operating Hours per Year 2,500 hrs. 2,000 hrs.

1,500 hrs.

Equivalent Annual Savings [1500C ( P / F ,15%,1) 2500C ( P / F ,15%,2) 2000C ( P / F ,15%,3)](A / P,15%,3) 1,975.16C

Savings per Machine Hour


= $1,556/1,975.16 = $0.79/hr.
Contemporary Engineering Economics, 4th edition, 2007

Make or Buy Decision


Step 1: Step 2: Step 3: Step 4:

Step 5:
Step 6: Step 7: Step 8:

Determine the time span (planning horizon) for which the part (or product) will be needed. Determine the annual quantity of the part (or product). Obtain the unit cost of purchasing the part (or product) from the outside firm. Determine the equipment, manpower, and all other resources required to make the part (or product). Estimate the net cash flows associated with the make option over the planning horizon. Compute the annual equivalent cost of producing the part (or product). Compute the unit cost of making the part (or product) by dividing the annual equivalent cost by the required annual volume. Choose the option with the minimum unit cost.
Contemporary Engineering Economics, 4th edition, 2007

Example 6.7 Outsourcing the Manufacture of Cassettes and Tapes

Make Option (annual costs): Labor $1,445,633 Materials $2,048,511 Incremental overhead $1,088,110 Total annual cost $4,582,254 Buy Option: Capital expenditure:

Acquisition of a new loading machine Salvage value at end of 7 years Labor $ 251,956 Purchasing empty cassette ($0.85/unit) Incremental overhead

$ 405,000 $ 45,000

Annual Operating Costs:


$3,256,452 $ 822,719

Total annual operating costs


Contemporary Engineering Economics, 4th edition, 2007

$4,331,127

Solution:

Make Option:

AEC(14%) = $4,582,254 Unit cost: $4,582,254/3,831,120 = $1.20

Buy Option:

AEC(14%) = $4,421,376

Unit cost: $4,421,376/3,831,120 = $1.15


Contemporary Engineering Economics, 4th edition, 2007

Pricing the Use of an Asset

The cost per square foot for owning and operating a real property (example, rental fee) The cost of using a private car for business (cost per mile) The cost of flying a private jet (cost per seat) The cost of using a parking deck (cost per hour)
Contemporary Engineering Economics, 4th edition, 2007

Example 6.8 Pricing an Apartment Rental Fee

Land investment cost = $1,000,000 Building investment cost = $2,500,000 Annual upkeep cost = $150,000 Property taxes and insurance = 5% of total investment Study period = 25 years Salvage value = Only land cost can be recovered in full
Contemporary Engineering Economics, 4th edition, 2007

Solution:

Ownership cost:

CR(15%) (3,500,000 1,000,000)( A / P,15%,25) (1,000,000)(0.15) $536,749

Annual O&M Cost

O&M cost = (0.05)($3,500,000) + $150,000 = $325,000

Total Equivalent Annual Cost

AEC (15 %) $536 ,749 $325 ,000 $861,749


Required monthly rent $861,749 12 x50 x0.85 $1,690

Required Monthly Charge

Contemporary Engineering Economics, 4th edition, 2007

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