Abstract

Engineering economy is the specialized study of financial and economic aspects of industrial decision making. Companies have realized the importance of having engineers who are familiar with the financial aspects of decision making. Universities have responded and are producing engineers who have knowledge of engineering economy principals and methodologies. At every level of manufacturing engineering economy tools provides aid for making economically rational and profitable decisions. college term paper

Table of Contents

1. Trends in Engineering and Science
2. The Evolving Role of engineering Schools and Corporations
3. What is Engineering Economy?
4. Importance of Engineering Economy in Manufacturing Corporations
5. Case Study

Trends in Engineering and Science

Ever since the 20th Century began technological development has taken place at an extremely rapid pace and has created a global business environment where competition, innovation and market edge are the key to economic and organization success. Managers, engineers, workers and sales personnel all have to work together towards the ultimate goal of product success and market capitalization. In order to achieve such harmony it is important that corporate and market knowledge exists at every level. During the 1970s and 1980s many engineers were promoted to the level of managers due to their contribution towards the development of successful product lines. These engineers were very knowledgeable, efficient and productive when it came to product design, manufacturing process, quality control and maintenance and capital machinery installation issues. But, when it came to personnel and human resource management, interest factors, cost benefit analysis, comparison of alternatives, sensitivity analysis and inflation, income taxes, depreciation, replacement cost analysis and risk and uncertainty in decision making engineers were often left in limbo. Soon it became clear that workable knowledge of financial aspects of manufacturing and production issues and their impact of market and company finance was necessary for engineers just as it was necessary that managers should have some knowledge of the manufacturing process and industry. A trend developed and still continues to this day, managers are given training for specific industries and the internal dynamics of the manufacturing process; engineers are trained in engineering economy and financial issues. (The Evolving Role of Engineering Schools in Public Institutions)

As the pace of technology continues on every front, it becomes very apparent that a fundamental industrial system exists in which universities, governments and corporations all play their role and ensure that the end consumers’ needs are satisfied. Therefore the goal of industries is to serve the needs of customers at a profit. Hence, industry is the primary wealth creating entity in any society. Since the creation of knowledge is necessary for innovation, research and development in any entity, university or corporation; then creation of knowledge is the supreme determining factor for corporate success. Engineers should know how their research will bring profits to their company in terms of present value of future profits. For this purpose engineers and managers sit together and build road maps. The semiconductor industry is a good example of successful utilization of road maps. Previous generation of engineers used checklist for planning but now due to the competitive and cost benefit approach to production decisions it is essential that a financially viable and workable road map is built. Road maps help systemize and prioritize the production process and the scope of road maps includes the product cycle from introduction to decline. (The Evolving Role of Engineering Schools in Public Institutions)

Another important trend is that industries are realizing that it is in their interest to establish a more direct connection between the engineer and customer. The age of innovation for the sake of innovation has ended and most research and development is done keeping the customer perspective in mind. In short engineering has become consumer and customer oriented. Customer needs can only be identified if engineers are included in the market analysis and feedback loop. Therefore engineers are once again filling in managerial positions and are given broad powers for carrying out decision making. But, for making decisions one has to have certain financial know how, that’s where engineering economy comes in.

The Evolving Role of Engineering Schools and Corporations

In the 1940s Vannevar Bush described science as the ‘endless frontier’ and since then universities have shifted their focus from producing practical engineers ready for jobs to producing engineers who are more acquainted with business knowledge and research and development in engineering science. Today most universities in the United States are research universities. Many research programs carried out in universities are driven by competitive needs of the industries. This has happened due to increasing pressures of globalization and contraction of private sector research capability. During the 1980s Universities shifted gear and moved towards engineering and industrial research focusing on economic development. Consequently universities became the biggest ‘free agents of intellectual capital’.
Corporations on the other hand have started investing in private research institutes to carry out the necessary research and development while they focus on the manufacturing and selling aspects of business only. The human capital injected by the universities have now become almost too research oriented with not enough practical manufacturing knowledge. To fill this gap universities have focused on training programs aimed at educating engineering students about the local manufacturing industry. The manufacturing industry in the United States has been declining in terms of employment figures. The golden age of manufacturing has ended; the service sector has gained importance while the global manufacturing industry has mostly shifted to developing countries. However, one major reason for the decline of the manufacturing base in America is that engineers made uneconomic decisions regarding costs, cash flow and future profits when deciding about capital investment and product design. Japan on the other hand always came up with cheap and economic product designs and adopted practices which reduced risk and uncertainties. Much of Japan’s success was due to the bottom up communication structure in the manufacturing organization and employee loyalty. Such a system enabled Japanese executives to make economic and financially viable decisions based on the feed back provided by their engineers on the shop floor. In the American organization this feed back was missing. The engineers who became managers were helpless and so were qualified financial managers.

Universities realized that it is imperative that an engineer should know the financial aspects of manufacturing. For example, it is only the engineer who can successfully find out the useful life of plant, equipment and machinery. It is the engineer who can suggest compromises in product design which would not affect quality but would reduce costs. It is the engineer who can suggest plant and equipment necessary for manufacturing and guarantee at the same time that the no of units of products produced would generate a positive net present value for the asset. The engineer can also carry out cost estimation of product design and plant and machinery replacement studies. It is very apparent that for any cost effective and economic manufacturing process to be discovered an engineer should have financial knowledge so that he can clearly identify the most cost effective method.

What is Engineering Economy?

Engineering economy involves the financial and economic evaluation of manufacturing projects. In short, 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. The objective of engineering economy is to familiarize and develop the commercial and financial knowledge of engineers.
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. Engineers can recommend quality control check points and they can introduce cost effective measures more effectively. Engineers are able to give the precise break up of all variable and fixed costs relating to each marginal unit produced. In order to perform all these functions with the ultimate objective of making a profit for the organization it is necessary for engineers to have some know how of financial analysis and evaluation methodologies.
Engineering economy focuses on those economic and financial aspects which affect the decision making capacity of the engineer. In today’s competitive world of business it has become essential that engineers should practice financial project analysis for engineering projects and make rational decisions.
Fundamental topics covered in engineering economy are:
Interest factors and time value of money

Importance of Engineering Economy in Manufacturing Corporations

Knowledge of engineering economy is useful at every level of engineering work in an organization. In a manufacturing concern such knowledge is useful when for example a company is evaluating three different inputs of raw materials in different quantities with market surveys for the resulting products. The engineer would then have to decide which one of the raw material compositions would give maximum profits. High quality is not always the objective of most manufacturing processes.
The manufacturing industry is capital intensive. For every new innovation, development or improvement the manufacturing concerns have to introduce new plant and machinery in order to change the specifications of their products. Before undertaking such extensive and expensive investments in plant and machinery, the company has to make sure that its costs can be justified by future benefits and revenues. For this purpose companies have to carry out various forms of investment appraisal techniques, the role of the engineer during such decision making processes is very important. For example a food processing company wants to introduce new packaging for its products. For this purpose new packaging machinery has to be installed. The company will have to carry out investment appraisal for the new machinery and determine if it is profitable to install such machinery or not. Alternatives will also be evaluated and the best option in terms of future profits would be chosen. (Eschenbach, Ted G)

Since manufacturing requires heavy investment in capital such as plant and machinery, it becomes important to know the depreciation rates for the machinery. This involves finding out how soon such machinery would become obsolete, what are the maintenance costs and how does the wear and tear of the machinery relate to activity levels. Depreciation would be charged after considering all these aspects. The company would then be able to determine the retirement and replacement of an asset.

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, activity based costing and absorption costing. In order to operate efficiently and have control over various costs it is important for manufacturing concerns to adopt these types of accounting. Stock valuation and stock level control is perhaps the most vital aspect of manufacturing processing. Every thing depends on the availability of raw materials and their storage capacity, therefore it is important to know hoe to manage stocks. Value added tax and income taxes are the main types of taxes levied on manufacturing companies. Determining the affect of value added tax on sales is important and affects the pricing policy of the company. Manufacturing companies also carry out sensitivity analysis which measures the impact of factors on profitability. Price changes due to inflation and deflation also have to be incorporated in any analysis report which predicts future cash flows. Manufacturing in every industry has become very complex and for each industry different economic factors have different impacts. It is necessary for every manufacturing company to analyze each investment and determine its profitability; the same is true for any change in process or input of raw materials.

This case study involves a manufacturing plant of company XYZ’s Menominie, WI facility. The plant produces two products for two different business groups. Controllers are built for the CCF business group and graphical display terminals are built for the terminal TCF business group. The CCF business group wants to transfer its facilities to another location in Baltimore. The financial and cost affects of this move has to be evaluated and its impact on the TCF group of product has to be determined.

After analyzing the current financial structure of Menomonie WI facility of post transfer affects on remaining products it was found that the affect of consolidation and movement of CCF business goup would have a profound affect on the WI facility. Expenses for TCF would increase by $1.4 million and product cost and per hour burden rate for TCF products would also increase drastically.

In this study it was recommended that the board should consider before making a final decision, ‘Prior to making the final decision to consolidate manufacturing into the Alabama facility, the current CCF production expenses should be evaluated in the context of how they would affect the Alabama facility’s burden rates. There must be enough savings realized in the transfer to not only save the $1.4M annually, but also to provide a timely return on investment for the one-time transfer and severance costs.’ (Swan, Rodney B)

Such considerations for costs are necessary for making any decision at any level of business in a manufacturing company.