Principles of engineering economics and decision making

Principles of engineering economics

1. Develop the alternatives (including "do nothing").
2. Focus on the differences between alternatives.
3. Use a consistent viewpoint.
4. Use a common unit of measure (money).
5. Consider all relevant criteria, monetary and non-monetary.
6. Make uncertainty explicit.
7. Revisit the decision and compare the results with the estimates.
8. Money has a time value; compare cash flows at the same time.

How it helps the decision-making process

Engineering economics fits into a rational decision process:

 Recognise problem
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 Define goals and alternatives
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 Estimate cash flows of each
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 Select criterion (PW, AW, IRR, B/C)
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 Analyse, compare, include risk
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 Select best alternative
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 Implement and post-audit

• It forces the problem to be defined clearly and many alternatives to be listed.
• It converts the cost and benefit of each alternative to a comparable money basis by considering time value of money.
• Tools such as PW, AW, IRR, B/C ratio, payback and break-even give a clear numerical ranking.
• Sensitivity and risk analysis show how safe the decision is if estimates change.
• It combines money results with non-monetary factors for the final choice.
• A post-audit compares the actual and predicted results and improves future decisions.

Therefore the decision is objective, consistent and defensible rather than guesswork.