Fundamentals of Engineering Economics

Relate engineering economics to students’ everyday lives for theoretical and conceptual understanding

Chan Park, author of the best-selling Contemporary Engineering Economics, tells the story of engineering economy with the more concise Fundamentals of Engineering Economics by relating concepts from class to students’ everyday lives. This book provides sound and comprehensive coverage of course concepts while addressing both the theoretical and the practical concerns of engineering economics. Written to appeal to a wide range of engineering disciplines, the text helps students build skills in making informed financial decisions and incorporates all critical decision-making tools, including the most contemporary, computer-oriented ones. For the first time, MyLab™ Engineering is available for the 4th Edition, providing online homework with immediate feedback, the complete eText, and more.

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Chan S. Park is currently a Professor of Industrial and Systems Engineering at Auburn University. He received the M.S. and Ph.D. degrees in industrial engineering from Purdue University and the Georgia Institute of Technology, respectively. Over his 25-year academic career, he has been actively involved in a variety of areas of research, teaching, and professional consulting. His work has been recognized internationally in the fields of engineering economics, strategic and economic decisions within service sectors, financial engineering (real options valuation), risk analysis, and capital budgeting. He also authored or coauthored leading textbooks on the related subjects, including Contemporary Engineering Economics (Prentice Hall), and Advanced Engineering Economics (John Wiley & Sons). He is the Editor-in-Chief of the journal The Engineering Economist and is a licensed Professional Engineer.

PART 1 UNDERSTANDING MONEY AND ITS MANAGEMENT
Chapter 1 Engineering Economic Decisions
1.1 The Rational Decision-Making Process
1.1.1 How Do We Make Typical Personal Decisions?
1.1.2 How Do We Approach an Engineering Design Problem?
1.1.3 What Makes Economic Decisions Different from Other Design Decisions?
1.2 The Engineer’s Role in Business
1.2.1 Making Capital-Expenditure Decisions
1.2.2 Large-Scale Engineering Economic Decisions
1.2.3 Impact of Engineering Projects on Financial Statements
1.3 Types of Strategic Engineering Economic Decisions
1.3.1 New Products or Product Expansion
1.3.2 Equipment and Process Selection
1.3.3 Cost Reduction
1.3.4 Equipment Replacement
1.3.5 Service or Quality Improvement
1.4 Fundamental Principles in Engineering Economics
Summary
Self-Test Questions
Problems

Chapter 2 Time Value of Money
2.1 Interest: The Cost of Money
2.1.1 The Time Value of Money
2.1.2 Elements of Transactions Involving Interest
2.1.3 Methods of Calculating Interest
2.2 Economic Equivalence
2.2.1 Definition and Simple Calculations
2.2.2 Equivalence Calculations Require a Common Time Basis for Comparison
2.3 Interest Formulas for Single Cash Flows
2.3.1 Compound-Amount Factor
2.3.2 Present-Worth Factor
2.3.3 Solving for Time and Interest Rates
2.4 Uneven-Payment Series
2.5 Equal-Payment Series
2.5.1 Compound-Amount Factor: Find F , Given A , i , and N
2.5.2 Sinking-Fund Factor: Find A , Given F , i , and N
2.5.3 Capital-Recovery Factor (Annuity Factor): Find A , Given P , i and N
2.5.4 Present-Worth Factor: Find P , Given A , i , and N
2.5.5 Present Value of Perpetuities
2.6 Dealing with Gradient Series
2.6.1 Handling Linear Gradient Series
2.6.2 Handling Geometric Gradient Series
2.7 More on Equivalence Calculations
Summary
Self-Test Questions
Problems

Chapter 3 Understanding Money Management
3.1 Market Interest Rates
3.1.1 Nominal Interest Rates
3.1.2 Annual Effective Interest Rates
3.2 Calculating Effective Interest Rates Based on Payment Periods
3.2.1 Discrete Compounding
3.2.2 Continuous Compounding
3.3 Equivalence Calculations with Effective Interest Rates
3.3.1 Compounding Period Equal to Payment Period
3.3.2 Compounding Occurs at a Different Rate than That at Which Payments are Made
3.4 Debt Management
3.4.1 Borrowing with Credit Cards
3.4.2 Commercial Loans—Calculating Principal and Interest Payments
3.4.3 Comparing Different Financing Options
Summary
Self-Test Questions
Problems

Chapter 4 Equivalence Calculations under Inflation
4.1 Measure of Inflation
4.1.1 Consumer Price Index
4.1.2 Producer Price Index
4.1.3 Average Inflation Rate
4.1.4 General Inflation Rate ( f ) versus Specific Inflation Rate ( f j )
4.2 Actual versus Constant Dollars
4.2.1 Conversion from Constant to Actual Dollars
4.2.2 Conversion from Actual to Constant Dollars
4.3 Equivalence Calculations under Inflation
4.3.1 Market and Inflation-Free Interest Rates
4.3.2 Constant-Dollar Analysis
4.3.3 Actual-Dollar Analysis
4.3.4 Mixed-Dollar Analysis
Summary
Self-Test Questions
Problems

PART 2 EVALUATING BUSINESS AND ENGINEERING ASSETS
Chapter 5 Present-Worth Analysis
5.1 Loan versus Project Cash Flows
5.2 Initial Project Screening Methods
5.2.1 Benefits and Flaws of Payback Screening
5.2.2 Discounted-Payback Period
5.3 Present-Worth Analysis
5.3.1 Net-Present-Worth Criterion
5.3.2 Guidelines for Selecting a MARR
5.3.3 Meaning of Net Present Worth
5.3.4 Net Future Worth and Project Balance Diagram
5.3.5 Capitalized-Equivalent Method
5.4 Methods to Compare Mutually Exclusive Alternatives
5.4.1 Doing Nothing Is a Decision Option
5.4.2 Service Projects versus Revenue Projects
5.4.3 Analysis Period Equals Project Lives
5.4.4 Analysis Period Differs from Project Lives
Summary
Self-Test Questions
Problems

Chapter 6 Annual-Equivalence Analysis
6.1 Annual-Equivalent Worth Criterion
6.1.1 Benefits of AE Analysis
6.1.2 Capital (Ownership) Costs versus Operating Costs
6.2 Applying Annual-Worth Analysis
6.2.1 Unit-Profit or Unit-Cost Calculation
6.2.2 Make-or-Buy Decision
6.3 Comparing Mutually Exclusive Projects
6.3.1 Analysis Period Equals Project Lives
6.3.2 Analysis Period Differs from Project Lives
Summary
Self-Test Questions
Problems

Chapter 7 Rate-of-Return Analysis
7.1 Rate of Return
7.1.1 Return on Investment
7.1.2 Return on Invested Capital
7.2 Methods for Finding Rate of Return
7.2.1 Simple versus Nonsimple Investments
7.2.2 Computational Methods
7.3 Internal-Rate-of-Return Criterion
7.3.1 Relationship to the PW Analysis
7.3.2 Decision Rule for Simple Investments
7.3.3 Decision Rule for Nonsimple Investments
7.4 Incremental Analysis for Comparing Mutually Exclusive Alternatives
7.4.1 Flaws in Project Ranking by IRR
7.4.2 Incremental-Investment Analysis
7.4.3 Handling Unequal Service Lives
Summary
Self-Test Questions
Problems

Chapter 8 Benefit–Cost Analysis
8.1 Evaluation of Public Projects
8.1.1 Valuation of Benefits and Costs
8.1.2 Users’ Benefits
8.1.3 Sponsor’s Costs
8.1.4 Social Discount Rate
8.2 Benefit–Cost Analysis
8.2.1 Definition of Benefit–Cost Ratio
8.2.2 Incremental B/C-Ratio Analysis
8.3 Profitability Index
8.3.1 Definition of Profitability Index
8.3.2 Incremental PI Ratio for Mutually Exclusive Alternatives
8.4 Highway Benefit–Cost Analysis
8.4.1 Define the Base Case and the Proposed Alternatives
8.4.2 Highway User Benefits
8.4.3 Sponsors’ Costs
8.4.4 Illustrating Case Example
Summary
Self-Test Questions
Problems

PART 3 DEVELOPMENT OF PROJECT CASH FLOWS
Chapter 9 Accounting for Depreciation and Income Taxes
9.1 Accounting Depreciation
9.1.1 Depreciable Property
9.1.2 Cost as Basis
9.1.3 Useful Life and Salvage Value
9.1.4 Depreciation Methods: Book and Tax Depreciation
9.2 Book Depreciation Methods
9.2.1 Straight-Line Method
9.2.2 Declining-Balance Method
9.2.3 Units-of-Production Method
9.3 Tax Depreciation Methods
9.3.1 MACRS Recovery Periods
9.3.2 MACRS Depreciation: Personal Property
9.3.3 MACRS Depreciation: Real Property
9.4 Corporate Taxes
9.4.1 How to Determine “Accounting Profit”
9.4.2 U.S. Corporate Income Tax Rates
9.4.3 Gain Taxes on Asset Disposals
Summary
Self-Test Questions
Problems

Chapter 10 Project Cash-Flow Analysis
10.1 Understanding Project Cost Elements
10.1.1 Classifying Costs for Manufacturing Environments
10.1.2 Classifying Costs for Financial Statements
10.1.3 Classifying Costs for Predicting Cost Behavior
10.2 Why Do We Need to Use Cash Flows in Economic Analysis?
10.3 Income-Tax Rate to Be Used in Project Evaluation
10.4 Incremental Cash Flows from Undertaking a Project
10.4.1 Operating Activities
10.4.2 Investing Activities
10.4.3 Financing Activities
10.5 Developing Project Cash Flow Statements
10.5.1 When Projects Require Only Operating and Investing Activities
10.5.2 When Projects Are Financed with Borrowed Funds
10.6 Effects of Inflation on Project Cash Flows
10.6.1 Depreciation Allowance under Inflation
10.6.2 Handling Multiple Inflation Rates
Summary
Self-Test Questions
Problems

Chapter 11 Handling Project Uncertainty
11.1 Origins of Project Risk
11.2 Methods of Describing Project Risk
11.2.1 Sensitivity Analysis
11.2.2 Sensitivity Analysis for Mutually Exclusive Alternatives
11.2.3 Break-Even Analysis
11.2.4 Scenario Analysis
11.3 Probabilistic Cash Flow Analysis
11.3.1 Including Risk in Investment Evaluation
11.3.2 Aggregating Risk over Time
11.3.3 Estimating Risky Cash Flows
11.4 Considering the Project Risk by Discount Rate
11.4.1 Determining the Company Cost of Capital
11.4.2 Project Cost of Capital: Risk-Adjusted Discount Rate Approach
Summary
Self-Test Questions
Problems

PART 4 SPECIAL TOPICS IN ENGINEERING ECONOMIC
Chapter 12 Replacement Decisions
12.1 Replacement-Analysis Fundamentals
12.1.1 Basic Concepts and Terminology
12.1.2 Approaches for Comparing Defender and Challenger
12.2 Economic Service Life
12.3 Replacement Analysis when the Required Service Period is Long
12.3.1 Required Assumptions and Decision Frameworks
12.3.2 Handling Unequal Service Life Problems in Replacement Analysis
12.3.3 Replacement Strategies under the Infinite Planning Horizon
12.4 Replacement Analysis with Tax Considerations
Summary
Self-Test Questions
Problems

Chapter 13 Understanding Financial Statements
13.1 Accounting: The Basis of Decision Making
13.2 Financial Status for Businesses
13.2.1 The Balance Sheet
13.2.2 The Income Statement
13.2.3 The Cash-Flow Statement
13.3 Using Ratios to Make Business Decisions
13.3.1 Debt Management Analysis
13.3.2 Liquidity Analysis
13.3.3 Asset Management Analysis
13.3.4 Profitability Analysis
13.3.5 Market-Value Analysis
13.3.6 Limitations of Financial Ratios in Business Decisions
13.3.7 Where We Get the Most Up-to-Date Financial Information
13.4 Principle of Investing in Financial Assets
13.4.1 Trade-Off between Risk and Reward
13.4.2 Broader Diversification Reduces Risk
13.4.3 Broader Diversification Increases Expected Return
Summary
Self-Test Questions
Problems

Appendix A Self-Test Questions with Answers
Appendix B Interest Factors for Discrete Compounding
Appendix C How to Read the Cumulative Standardized Normal Distribution Function

Appendix D Summary of Essential Interest Formulas, Decision Rules, and Excel Functions

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