Engineering Economics Financial Decision Making for Engineers

Seventh Edition

Niall M. Fraser Open Options Corporation

Elizabeth M. Jewkes University of Waterloo

Mehrdad Pirnia University of Waterloo

Ketra Schmitt Concordia University

A01_FRAS8826_07_SE_FM.indd 1 01/10/20 12:01 PM Please contact https://support.pearson.com/getsupport/s/contactsupport with any queries on this content.

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ScoutAutomatedPrintCode Library and Archives Canada Cataloguing in Publication Title: Engineering economics : financial decision making for engineers / Niall M. Fraser (Open Options Corporation), Elizabeth M. Jewkes (University of Waterloo), Mehrdad Pirnia (University of Waterloo), Ketra Schmitt (Concordia University). Other titles: Engineering economics in Canada | Financial decision making for engineers Names: Fraser, Niall M., author. | Jewkes, Elizabeth M., 1958– author. | Pirnia, Mehrdad, author. | Schmitt, Ketra, author. Description: Seventh edition. | Includes index. | Revision of: Fraser, Niall M. (Niall Morris), 1952–. Engineering economics in Canada. Identifiers: Canadiana 20200285947 | ISBN 9780135728826 (softcover) Subjects: LCSH: Engineering economy—Canada—Textbooks. | LCSH: Engineering economy—Canada— Decision making—Textbooks. | LCGFT: Textbooks. Classification: LCC TA177.4 .F725 2020 | DDC 658.15—dc23

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Preface ix 10 Public Sector Decision Making 316 Acknowledgments xiv 11 Project Management 356 1 Engineering Decision Making 1 12 Dealing with Uncertainty and Risk 389 2 Time Value of Money 18 Appendix 12A: Basic Concepts of 3 Cash Flow Analysis 48 Probability 428 Appendix 3A: Derivation of Discrete Compound Interest Factors 82 13 Qualitative Considerations and Multiple Criteria 434 4 Comparison Methods Part 1 85 Appendix 13A: Calculating the Appendix 4A: The MARR and the Consistency Ratio for AHP 459 Cost of Capital 121

5 Comparison Methods Part 2 124 Appendix A Compound Interest Factors for Discrete Compounding, Discrete 6 Financial Accounting and Cash Flows 465 Business Plans 161 Appendix B Answers to Selected Problems 488 Appendix 6A: Cost Estimation 198 Appendix C List of Symbols 492 7 Replacement Decisions 205 Appendix D List of Formulas 494

8 Taxes 248 Glossary 496 Appendix 8A: Deriving the Capital Index 502 Tax Factor 281 Credits 509 9 Inflation 283 Appendix 9A: Computing a Price Index 313

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Preface ix Review Problems 38 Acknowledgments xiv Study Exercises 41 Mini-Case 2.1 Student Credit Cards 47 1 Engineering Decision Making 1 Engage!, Part 1A Naomi Arrives 2 3 Cash Flow Analysis 48 1.1 Engineering Decision Making 2 Engage!, Part 3A Apples and Oranges 49 1.2 What Is Engineering Economics? 3 Introduction 49 1.3 Making Decisions 4 3.1 Timing of Cash Flows and Modelling 49 Engage!, Part 1B Naomi Settles In 5 3.2 Compound Interest Factors for Discrete Compounding 50 1.4 Dealing with Abstractions 6 3.3 Compound Interest Factors for Single 1.5 The Moral Question: Three True Stories 8 Disbursements or Receipts 51 Analysis of the Examples 10 3.4 Compound Interest Factors for Annuities 53 Close-Up 1.1 Professional Engineering Associations 10 Close-Up 3.1 Capital Recovery Formula 55 Case in Point 1.1 Loss of Life in Engineering Projects 11 Close-Up 3.2 Mortgages 57 1.6 Uncertainty and Sensitivity Analysis 11 Close-Up 3.3 Linear Interpolation 58 1.7 How This Book Is Organized 12 Close-Up 3.4 Bonds 59 Engage!, Part 1C A Taste of What Is to Come 13 3.5 Conversion Factor for Arithmetic Gradient Series 60 Study Exercises 14 Case in Point 3.1 The RIM Park Scandal 62 Mini-Case 1.1 R. v. Syncrude Canada Ltd. 16 3.6 Conversion Factor for Geometric Gradient Series 63 Close-Up 3.5 Estimating Growth Rates 66 2 Time Value of Money 18 3.7 Non-Standard Annuities and Gradients 66 Engage!, Part 2A A Steal for Steel 19 3.8 Present Worth Computations When N S ` 68 Introduction 19 Summary 69 2.1 Interest and Interest Rates 19 Engage!, Part 3B No Free Lunch 70 Review Problems 70 Close-Up 2.1 Financial Terminology 20 Study Exercises 73 Close-Up 2.2 Interest Periods 21 Mini-Case 3.1 The Canadian Oil Sands 80 2.2 Compound and Simple Interest 22 Compound Interest 22 Appendix 3A: Derivation of Discrete Simple Interest 23 Compound Interest Factors 82 2.3 Effective and Nominal Interest Rates 24 2.4 Continuous Compounding 26 4 Comparison Methods Part 1 85 2.5 Cash Flow Diagrams 27 Engage!, Part 4A What’s Best? 86 Close-Up 2.3 Beginning and Ending of Periods 28 Introduction 86 2.6 Depreciation 29 Close-Up 4.1 What Happens with All Those Tax Dollars? 88 Close-Up 2.4 Willingness to Pay 29 4.1 Relations Among Projects 88 Reasons for Depreciation 30 4.2 Minimum Acceptable Rate of Return (MARR) 91 Value of an Asset 30 Case in Point 4.1 Dirk’s New Venture 91 Close-Up 2.5 Depreciation Methods 31 4.3 Present Worth (PW) and Annual Worth (AW) Straight-Line Depreciation 31 Comparisons 92 Declining-Balance Depreciation 33 Close-Up 4.2 Present Cost and Annual Cost 92 Case in Point 2.1 Guilty Figures 35 Present Worth Comparisons for Independent Projects 93 2.7 Equivalence 36 Present Worth Comparisons for Mutually Summary 37 Exclusive Projects 94 Engage!, Part 2B You Just Have to Know When 37 Annual Worth Comparisons 95

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Close-Up 4.3 Car Payment Calculators 96 Close-Up 6.2 Earnings Before Interest and Income Close-Up 4.4 Future Worth 96 Tax (EBIT) 168 4.4 Comparison of Alternatives with Unequal Lives 97 Estimated Values in Financial Statements 169 4.5 Payback Period 101 Financial Ratio Analysis 170 Advantages and Disadvantages of the Close-Up 6.3 NAICS Codes 170 Payback Period Method 103 Financial Ratios 172 Close-Up 4.5 Discounted Payback Period 103 Close-Up 6.4 Extraordinary Items 173 Summary 104 6.2 Preparing a Business Plan 176 Engage!, Part 4B Doing It Right 105 Case in Point 6.1 Dirk’s Business Plan 177 Review Problems 106 Executive Summary 177 Study Exercises 109 Company Description 177 Mini-Case 4.1 Rockwell International 119 Case in Point 6.2 Dirk’s Business Plan: Company Appendix 4A: The MARR and the Description 178 Cost of Capital 121 Market Analysis/Future Outlook 178 Case in Point 6.3 Dirk’s Business Plan: Market Analysis 179 5 Comparison Methods Part 2 124 Management and Organization 179 Funding Requirements 179 Engage!, Part 5A What’s Best? Revisited 125 Case in Point 6.4 Dirk’s Business Plan: Management and Introduction 125 Funding Requirements 180 5.1 The Internal Rate of Return 125 Sales and Marketing 180 5.2 Internal Rate of Return Comparisons for Case in Point 6.5 Dirk’s Business Plan: Sales and Marketing 180 Independent Projects 128 Appendix 180 5.3 Internal Rate of Return Comparisons for Close-Up 6.5 Outstanding Business Plan 181 Mutually Exclusive Projects 130 Summary 181 Systematic Analysis of Mutually Exclusive Alternatives with the IRR Method 133 Engage!, Part 6B Finding Treasure 181 Case in Point 5.1 The Economics of Electric Vehicles 136 Review Problems 182 Study Exercises 185 5.4 Multiple IRRs 136 Mini-Case 6.1 BlackBerry 195 Close-Up 5.1 The Ethics of Profits 138 5.5 External Rate of Return Methods 138 Appendix 6A: Cost Estimation 198 When to Use the ERR 140 5.6 Equivalence of Rate of Return and Present/Annual Replacement Decisions 205 Worth Methods 141 7 5.7 Levelized Cost 145 Engage!, Part 7A You Need the Facts 206 5.8 Why Choose One Method over the Other? 146 Introduction 206 Close-Up 5.2 Examples of Assessing the Economic 7.1 A Replacement Example 207 Feasibility of Investments 147 7.2 Reasons for Replacement or Retirement 210 Summary 148 7.3 Capital Costs and Other Costs 210 Engage!, Part 5B The Invisible Hand 149 Close-Up 7.1 Estimating Salvage Values and Review Problems 149 Scrap Values 212 Study Exercises 153 7.4 Defender and Challenger Are Identical 212 Mini-Case 5.1 The Galore Creek Project 159 7.5 Challenger Is Different from Defender; Challenger Repeats Indefinitely 216 6 Financial Accounting and Business Converting from Subcontracted to In-House Plans 161 Production 218 Case in Point 7.1 Nuclear Power in Ontario 218 Engage!, Part 6A Digging up Dirt 162 7.6 The Irrelevance of Sunk Costs 219 Introduction 162 7.7 When Capital or Operating Costs Are 6.1 Elements of Financial Accounting 162 Non-monotonic 221 Measuring the Performance of a Firm 163 7.8 Challenger Is Different from Defender; The Balance Sheet 163 Challenger Does Not Repeat 223 Close-Up 6.1 Types of Business Ownerships 167 Summary 225 The Income Statement 167 Engage!, Part 7B Decision Time 226

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Review Problems 227 Mini-Case 9.1 Economic Comparison of High-Pressure and Study Exercises 231 Conventional Pipelines: Associated Engineering 312 Mini-Case 7.1 How Green Is Your Data? 246 Appendix 9A: Computing a Price Index 313

8 Taxes 248 10 Public Sector Decision Making 316 Engage!, Part 8A It’s in the Details 249 Engage!, Part 10A New Challenges Down Under 317 Introduction 249 Introduction 317 8.1 Personal Income Taxes and Corporate Income Case in Point 10.1 Private Ownership, Public Goods 319 Taxes Compared 250 10.1 Market Failure 320 8.2 Corporate Tax Rates 250 Market Failure Defined 320 Close-Up 8.1 Incentives 251 Remedies for Market Failure 321 Close-Up 8.2 Small Company Tax Rules 252 10.2 Decision Making in the Public Sector 323 8.3 Before- and After-Tax MARR 252 The Point of View Used for Project Evaluation 324 8.4 The Effect of Taxation on Cash Flows 253 Close-Up 10.1 Public–Private Partnerships 324 The Effect of Taxes on First Cost 253 Close-Up 10.2 Government Cost–Benefit Analysis Guides 325 The Effect of Taxes on Savings 255 10.3 Identifying and Measuring the Costs and Benefits The Effect of Taxes on Salvage or Scrap Value 256 of Public Projects 326 8.5 Present Worth and Annual Worth Tax Calculations 256 Identifying and Measuring the Costs of Public 8.6 IRR Tax Calculations 258 Projects 326 Approximate After-Tax Rate of Return Calculations 258 Identifying and Measuring the Benefits 8.7 The Capital Cost Allowance System 259 of Public Projects 326 8.8 Undepreciated Capital Cost and the Half-Year Rule 263 10.4 Benefit–Cost Ratios 330 8.9 The Capital Tax Factor and Capital Salvage Factor 265 10.5 The MARR in the Public Sector 335 8.10 Components of a Complete Tax Calculation 267 Summary 336 Summary 270 Engage!, Part 10B Look at It Broadly 337 Close-Up 8.3 Tax Rules in Other Countries 270 Review Problems 337 Engage!, Part 8B The Work Report 271 Study Exercises 342 Review Problems 271 Mini-Case 10.1 Carbon Neutrality vs. Food Security in the North 355 Study Exercises 275 Mini-Case 8.1 Tax Flight—Myth or Reality? 280 11 Project Management 356 Appendix 8A: Deriving the Capital Engage!, Part 11A Filling a Vacuum 357 Tax Factor 281 Introduction 357 11.1 Project Management Life Cycle 357 Initiation 358 9 Inflation 283 Planning 359 Engage!, Part 9A The Inflated Expert 284 Execution 360 Introduction 284 Monitoring and Controlling 360 9.1 Measuring the Inflation Rate 284 Closure 360 Close-Up 9.1 Statistics Canada 285 11.2 Work Breakdown Structure 361 Close-Up 9.2 Hyperinflation 287 11.3 Gantt Charts 363 9.2 Economic Evaluation with Inflation 287 Close-Up 11.1 Henry Gantt 363 Converting Between Real and Current Dollars 287 11.4 Network Representation of the Schedule: CPM 9.3 The Effect of Correctly Anticipated Inflation 289 and PERT 364 The Effect of Inflation on the MARR 289 Case in Point 11.1 Waterloo Light Rail Transit 367 The Effect of Inflation on the IRR 292 Project Scheduling and the Critical Path Method 368 9.4 Project Evaluation Methods with Inflation 293 Project Crashing and Time–Cost Tradeoffs 371 Close-Up 9.3 Relative Price Changes 295 Summary 376 Summary 299 Engage!, Part 11B A Crash Course 376 Engage!, Part 9B Exploiting Volatility 299 Review Problems 376 Review Problems 299 Study Exercises 380 Study Exercises 302 Mini-Case 11.1 No Longer LEEDing 387

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12 Dealing with Uncertainty and Risk 389 13.3 Decision Matrixes 439 13.4 The Analytic Hierarchy Process 442 Engage!, Part 12A Trees from Another Planet 390 13.5 The Consistency Ratio for AHP 447 Introduction 390 Summary 447 12.1 Sensitivity Graphs 391 Engage!, Part 13B: Moving On 448 Case in Point 12.1 Oil Spills 394 Review Problems 448 12.2 Break-Even Analysis 395 Study Exercises 451 Break-Even Analysis for a Single Project 395 Mini-Case 13.1 Northwind Stoneware 458 Break-Even Analysis for Multiple Projects 397 Appendix 13A: Calculating the Consistency 12.3 Structuring Decisions with Decision Trees 401 Ratio for AHP 459 Summary 406 Engage!, Part 12B Chances Are Good 407 Review Problems 407 Appendix A Compound Interest Factors Study Exercises 412 for Discrete Compounding, Discrete Mini-Case 12.1 China Steel Australia Limited 426 Cash Flows 465 Appendix 12A: Basic Concepts of Appendix B Answers to Selected Problems 488 Probability 428 Appendix C List of Symbols 492 13 Qualitative Considerations and Appendix D List of Formulas 494 Multiple Criteria 434 Engage!, Part 13A Don’t Box Them In 435 Glossary 496 13.1 Qualitative Considerations 435 Index 502 Close-Up 13.1 B Certification 437 Credits 509 13.2 Efficiency 437

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ourses on engineering economics are found in accommodating an increasingly global perspective in engineering curricula in Canada and throughout business. Updates have also included changes in the Cthe world. The subject matter generally deals with expectations for engineering training, such as project deciding among alternative engineering projects with management and case-based learning, as required by the respect to expected costs and benefits. This area of study is Canadian Engineering Accreditation Board, and respond- so fundamental to engineering knowledge that the ing to the fervent interest many engineering students Canadian Engineering Accreditation Board requires all now have in starting new innovative companies. Our accredited professional engineering programs provide in adaptability and willingness to incorporate user input is depth studies in engineering economics. Many engineers probably one of the many reasons Engineering Economics have perceived that a course in engineering economics can has been the text of choice for Canadian educators for be as useful in their practice as some of their more techni- over twenty years. cal courses. As the world shifts to a greater reliance on digital There are several important stages involved in making media, it is appropriate that this text evolves as well. This a good decision. The viability stage identifies whether a seventh edition is the first fully digital version of Engineer- solution to a problem is technically feasible. Appropriately, ing Economics. Instructors and students will find that, this is one of the many roles assigned to the engineer, who although the medium has changed, the content is fully has the specialized training required to make such techni- consistent with prior editions. cal judgments. Another stage entails deciding which of Canadian engineers have a unique set of circum- several technically feasible alternatives is likely to be best. stances that warrant a text with a specific Canadian focus. Deciding among alternatives often does not necessitate the Canadian firms make decisions according to norms and technical competence needed to determine which alterna- standards that reflect Canadian views on social responsi- tives are feasible, but it is equally essential in making the bility, environmental concerns, and cultural diversity. This final choice. Engineers have found that choosing among perspective is reflected in the content and tone of much of competing alternatives can sometimes be more difficult the material in this text. Furthermore, Canadian tax regula- than deciding what possibilities actually exist. tions are complicated and directly affect engineering eco- The role of engineers in Canadian society has changed nomic analysis. These regulations and their effect on over time. In the past, engineers tended to have a fairly decision making are covered in detail in Chapter 8. narrow focus, concentrating on the technical aspects of a This text also relates to students’ everyday lives. In problem and on strictly computational aspects of engineer- addition to examples and problems with an engineering ing economics. As a result, many engineering economics focus, there are a number of scenarios involving decisions texts focused mainly on the mathematics of the subject. that many students might face, such as renting an apart- Today, engineers are more likely to be involved in many ment, getting a job, or buying a car. Other references in the stages of an engineering project, to be starting their own text are adapted from familiar sources, such as Canadian businesses, or to have varying levels of equity within an newspapers and websites, and well-known Canadian enterprise. Thus, they need to be acquainted with strategic companies. methodology and policy issues. This text is designed for teaching a course on engineering economics, and intended to match engineering Content and Organization practiced in Canada today. It recognizes the role of the Since the mathematics of finance has not changed dramati- engineer as a decision maker who has to make and defend cally over the past number of years, there is a natural order sensible recommendations. Such choices must not only to the presentation of course material. Nevertheless, a take into account a correct assessment of costs and bene- modern view of the role of the engineer flavours this entire fits, they must also reflect an understanding of the envi- resource and provides a balanced exposure to the subject. ronment in which the decisions are made. Chapter 1 frames the problem of engineering decision This text has had six previous editions. We have making as one involving many issues. Manipulating the striven in every edition to meet and/or exceed the chang- cash flows associated with an engineering project is an ing needs of our users. This has necessitated important process for which useful mathematical tools exist.

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These tools form the bulk of the remaining chapters. How- to the chapter material and raises difficult and some- ever, throughout the text, students are continually reminded times unanswerable questions. They provide an oppor- that the eventual decision depends not only on the cash tunity for the individual student to challenge their own flows, but also relies on less easily quantifiable considerations thinking. They also are ideal material for initiating lively related to business policy, social responsibility, and ethics. class discussions intended to enhance the students’ Chapters 2 and 3 present tools for manipulating mon- understanding of the core topics as well as broaden their etary values over time. Chapter 2 also explains the idea of perspectives generally. depreciation. Chapters 4 and 5 show how students can use • Similarly, we have updated several of our Mini-Case their knowledge of manipulating cash flows to make com- features. These end-of-chapter case studies are similar parisons among alternative engineering projects. to the Case in Point features, but are deeper views of Chapter 6 provides an understanding of the environ- significant Canadian issues. ment in which the decisions are made by focusing on two • A new section on calculation of levelized cost has been aspects of business. The first half of the chapter discusses added to Chapter 5. This method has become very financial accounting and the role of financial statements. popular in recent years, especially in studying the fea- The second half provides information about the uses of a sibility of energy resource planning projects. business plan and how to write one. Chapter 7 deals with the analysis of replacement deci- • Chapter 13, “Qualitative Considerations and Multiple sions. Chapters 8 and 9 are concerned with taxes and infla- Criteria,” has been restored to the text. This topic has tion, which affect decisions based on cash flows. Chapter 10 become more critical as a tool for engineers in recent provides an introduction to public sector decision making. years as engineers have taken on more responsibility Chapter 11 presents the fundamentals of project man- for managing decisions in the public interest. agement. It is intended to impart an appreciation of the • We have expanded the use of colour to help communi- phases that all engineering projects pass through, and to cate ideas. meet the requirements of the CEAB. • A selection of graphs in the text are now interactive, so Most engineering projects involve estimating future that students can explore key relationships more fully cash flows as well as other project characteristics. Since by testing out changes in parameters. estimates can be made in error and the future is unknown, • Minor changes to all other chapters have been made to 10 CHAPTER 1 Engineering Decision Making it is important for engineers to take uncertainty and risk update and improve the overall flow and presentation into account as completely as possible. Chapter 12 In each of these three examples, the technical issues are overwhelmed by the of the material. non-technical ones. For Preston Sandpapers, the chief engineer was pressured to be addresses several approaches for dealing with uncertainty dishonest by his social responsibility and self-preservation and to recommend a decision • We have created a robust MyLab Engineering to not justified by the facts. In the Hespeler Meats case, the engineer had to choose between and risk in economic evaluations. stating the truth—that future sales were unknown—which would deny the company a very accompany the text. For a full description of the useful grant, and selecting a convenient number that would encourage government sup- After a 12-year hiatus, we are re-introducing our chap- port. For Galt Casting Grinders, the issue was marketing. The company did not recognize MyLab, please see the Supplements section, below. that a product must be more than technically good; it must also be saleable. ter reviewing formal decision-making methods for qualita- However, beyond these principles, there is a moral component to each of these anec- dotes. As guardians of knowledge, engineers have a vital responsibility to society to behave tive considerations and multiple criteria. This final chapter • Some educators have reported that students have ethically and responsibly in all ways. When so many different issues must be taken into account in engineering decision making, it is often difficult to determine what course of underscores the fact that engineering economics is not just trouble seeing and appreciating the relevance of the action is ethical. For Preston Sandpapers, most people would probably say that what the chief engineer about making the economically best decision, it is about content covered in the Engineering Economics course. did was unethical. However, he did not exploit his position solely for personal gain. He was, to his mind, saving a town. Is the principle of honesty more important than several hundred integrating economics with other considerations, such as We have added a completely new set of experiential jobs? Perhaps it is, but when the job holders are friends and family, it is understandable that unethical choices might be made. environmental impact, health and safety, and broader learning simulations that provide a novel way to inte- For Hespeler Meats, the issue is subtler. Is it ethical to choose figures that match the ideal ones to gain a government grant? It is, strictly speaking, a lie or at least misleading social concerns. Chapter 13 provides some mechanisms for grate material across chapters and to help students since there is no estimate of sales. Notwithstanding, the bureaucracy demands that some numbers be given, so why not pick ones that best suit your case? formally assessing decisions where there are several engage more deeply with the course content. Each In the Galt Casting Grinders case, the engineers apparently did no wrong. The ethical question concerns the competitors’ actions. Is it ethical to put features on equipment that incommensurable criteria to consider. simulation engages the student in an activity that do no good, add cost, and decrease reliability? In this case and for many other products, this is often done, ethical or not. If it is unethical, the ethical suppliers will sometimes go mimics the decision making that the student could out of business. There are no general answers to difficult moral questions. Practising engineers often undertake as an active engineer. The student interacts have to make choices with an ethical component and can sometimes rely on no stronger foundation than their own sense of right and wrong. More information about ethical issues with their employer and fellow employees, or external for engineers can be obtained from professional engineering associations. New to This Edition parties, and is guided through a learning process that In addition to updating material and correcting errors, we brings to life the academic material studied. Case In PoInT 1.1 Loss of Life in engineering Projects have made the following important changes in the seventh Whenever an engineering project is undertaken, In building the CN Tower, for example, only there are always safety risks. Injuries and accidents are one man died. Three people died building the edition: often unavoidable. Although sometimes large projects Confederation Bridge. However, no matter how are completed without loss of life, there is always careful people are, most engineering projects are Special Features the chance that the decision of proceeding with an dangerous, and people will likely perish. • We have added learning goals to each chapter. The engineering project will result in one or more deaths. For example, a rule-of-thumb for building sky- Discussion Questions learning goals are also mapped to the end-of-chapter We have created special features for this text in order to scrapers once was that one could expect to lose one 1) What is an acceptable death rate for an engi- life per floor of the building. This was borne out neering project? questions. This helps educators to assess students on facilitate the learning of the material and an understanding with the John Hancock Building in Chicago as late 2) How can an engineer know whether to approve as 1970: it has 100 floors and 109 lives were lost a project that is sure to cause deaths that would specific learning goals of interest. of its applications: building it. Similarly, for the construction of aque- otherwise not occur? duct tunnels to New York City in the 1930’s, the 3) How can an engineer decide how much money rule was to expect one life lost per mile of tunnel. to spend on improving safety in an engineering • We have updated several of our Case in Point features. • Engage! boxes near the beginning and end of each In modern times, the safety record for engi- project? Each Case in Point addresses a circumstance appropriate chapter recount the fictional experiences of a young neering projects has improved considerably.

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A01_FRAS8826_07_SE_FM.indd 10 01/10/20 12:01 PM 20 Chapter 2 Time Value of Money

to make money from their initial investment. Similarly, they may want to buy a consumer good, like a new home theatre system, and start enjoying it immediately. What this means is one dollar today is worth more than one dollar in the future. This is because a dollar today can be invested for productive use, while that opportunity is lost or diminished if the dollar is not available until some time in the future. The observation that a dollar today is worth more than a dollar in the future means that individuals must be compensated for lending money. They are giving up the opportunity to invest their money for productive purposes now, on the promise of getting more money in the future. The compensation for loaning money is in the form of an interest payment— say, I. More formally, interest is the difference between the amount of money lent and the amount of money later repaid. It is the compensation for giving up the use of the money for the duration of the loan. An amount of money today, P (also called the principal amount), can be related to a future amount F, by the interest amount I or interest rate i. This relationship can be expressed as F 5 P 1 I. The interest I can also be expressed as an interest rate i with respect to the principal amount, so that I 5 Pi. Thus: F = P + Pi = P(1 + i) Some special terms used in finance are shown in Close-Up 2.1.

ExamplE 2.1 Samuel bought a one-year GIC for $5000 from a bank on May 15 last year. The bank was paying 5 percent on one-year GICs at the time. One year later, Samuel cashed in his certificate for $5250. We may think of the interest payment Samuel received from the bank as compensation for giving up the use of his money. When Samuel bought the GIC for $5000,Preface he gave xiup the opportunity to use the money in some other way during the following year. On the other hand, the bank got use of the money for the year. In effect, Samuel lent $5000 to the bank for a year. The $250 interest was payment by the bank to Samuel for the loan. engineer at a Canadian company. These vignettes The• bankClose-Up wanted the loan boxes so that init could the use chapters the money for present the year. (It additional may have lent it to someone else at a higher interest rate.) reflect and support the chapter material. The first box Thismaterial leads to a formal about definition concepts of interest that rates. areDivide important time into periods but like notdays, months, or years. If the right to P at the beginning of a time period exchanges for the right in each chapter usually portrays one of the characters to F at essentialthe end of the toperiod, the where chapter. F 5 P(1 1 i), i is the interest rate per time period. In this trying to deal with a practical problem. The second definition, P is called the present worth of F, and F is called the future worth of P. ____■ box demonstrates how the character has solved the Close-Up 2.1 Financial Terminology problem by applying material discussed in the chapter Annual Percentage Rate of Charge: An effective interest rate for the entire year that above. All these vignettes are linked to form a narra- a borrower will pay to banks or financial institutions for a loan or on credit card debt. tive that runs throughout the text. The main character Disbursement: Money paid out or spent. is Naomi, a recent engineering graduate. In the first Fixed term investment: An investment mechanism in which the investor is paid his/her initial investment, plus a specific amount of interest after a fixed period. The investor chapter, she starts her job in the engineering depart- cannot withdraw his or her money before the fixed period without facing penalties. ment at Canadian Widgets and is given a decision GIC: A Guaranteed Investment Certificate is a specific fixed-term investment, usually issued by a Canadian bank or trust company. problem by her supervisor. Over the course of the text, Receipt: Money received or earned. Naomi learns about engineering economics on the job. There are several other supporting characters, who relate to one another in various ways, exposing stu- • At the end of each chapter, a Canadian Mini-Case, complete with discussion questions, relates interesting dents to practical, ethical, and social issuesM02_FRAS5538_06_SE_C02.indd as well as 20 07/12/15 6:04 PM mathematical problems. stories about how familiar Canadian companies have used engineering economic principles in practice. 128 ChAPtER 4 Comparison Methods Part 1 2 CHAPTER 1 Engineering Decision Making

Engage!, Part 1A Mini-CASe 4.1 Naomi Arrives Rockwell international

Naomi’s first day on the job wasn’t really her first day on the job. Ever since receiving the acceptance letter three weeks earlier, she had been reading and rereading all her notes about the company. Somehow she had arranged The Light Vehicle Division of Rockwell International makes seat-slide assemblies for the to walk past the plant entrance going on errands that never would have taken her that route in the past. So today automotive industry. It has two major classifications for investment opportunities: developing wasn’t the first time she had walked through that tidy brick entrance to the main offices of Canadian Widgets—she new products to be manufactured and sold, and developing new machines to improve pro- had done it the same way in her imagination a hundred times before. duction. The overall approach to assessing whether an investment should be made depends Clement Sheng, the engineering manager who had interviewed Naomi for the job, was waiting for her at the on the nature of the project. reception desk. His warm smile and easy manner helped break the ice. He suggested that they could go through In evaluating a new product, it considers the following: the plant on the way to her desk. She agreed enthusiastically. “I hope you remember the engineering economics you learnt in school,” he said. 1. Marketing strategy: Does it fit the business plan for the company? Naomi did, but rather than sound like a know-it-all, she replied, “I think so, and I still have my old textbook. 2. Workforce: How will it affect human resources? I suppose you’re telling me I’m going to use it.” “Yes. That’s where we’ll start you out, anyhow. It’s a good way for you to learn how things work around here. 3. Margins: The product should generate appropriate profits. We’ve got some projects lined up for you already, and they involve some pretty big decisions for Canadian Widgets. 4. Cash flow: Positive cash flow is expected within two years. We’ll keep you busy.” 10 CHAPTER 1 Engineering Decision Making In evaluating a new machine, it considers the following: 1. Cash flow: Positive cash flow is expected within a limited time period. 2. Quality issues: For issues of quality, justification is based on cost avoidance rather than positive cash flow. 1.1 In eachEngineering of these Decisionthree examples, Making the technical issues are overwhelmed by the 3. Cost avoidance: Savings should pay back an investment within one year. non-technical ones. For Preston Sandpapers, the chief engineer was pressured to be Engineering is a noble profession with a long history. The first engineers supported the dishonestmilitary by his using social practical responsibility know-how to build and bridges, self-preservation fortifications, andand assault to recommend equipment. a decision Discussion not justifiedIn fact, by the the term facts. civil engineer In the was Hespeler coined to Meatsmake the case, distinction the engineer between, engineers had to whochoose between All companies consider more than just the economics of a decision. Most take into account • Case inworked Point on civilian boxes projects and presentengineers who worked material on military problems. relevant to the stating the truth—that future sales were unknown—which would deny the company a very the other issues—often called intangibles—by using managerial judgment in an informal useful grant,In theand beginning, selecting engineers a convenient only needed number to know thatthe technical would aspectsencourage of their government jobs. sup- appropriateMilitary commanders, chapter. for example, The would issues have wanted raiseda strong bridge can built quickly. be The difficult, process. Others, like Rockwell International, explicitly consider a selection of intangible port. Forengineer Galt Castingwould be challengedGrinders, to thefind issuea solution was to marketing. the technical problem,The company and would did not not recognize issues. curious,that a producthave and been must particularly possibly be more concerned than withtechnicallydisquieting. the costs, safety,good; or it environmental must There also be impacts saleable. may of the be no The trend today is to carefully consider several intangible issues, either implicitly or However,project. However,beyond overthese time principles, the engineer’s there job has is becomea moral far component more complicated. to each of these anec- explicitly. Human resource issues are particularly important since employee enthusiasm All engineering projects use resources, such as raw materials, money, labour, and time. dotes. As guardians of knowledge, engineers have a vital responsibility to society to behave and commitment have significant repercussions. Environmental impacts of a decision can obviousAny “right” particular project answercan be undertaken orin a variety “correct” of ways, with each application one calling for a of affect the image of the company. Health and safety is another intangible with significant ethicallydifferent and responsibly mix of resources. in Forall example,ways. When asphalt roofingso many is inexpensive different and issues easy to must install, be taken into effects. accountbut in itengineering has negative environmental decision making, impacts andit is low often durability. difficult Slate to roofing determine uses more what course of principles.expensive Students raw materials and can are be difficult invited to install, but tois environmentally challenge friendly and rigidity, However, the economics of the recommendation is usually (but not always) the single action islasts ethical. longer. Both choices provide secure protection for a building, but choosing which is most important factor in a decision. Also, economics is the factor that is usually the easiest and encouragedForbetter Preston in a particular Sandpapers, situationto mostexercise depends people on how would the flexibility costs probably and benefits say arethat compared.in what their the chief prob engineer- to measure. did was unethical.Historically, However, as the kind he of didprojects not engineers exploit workedhis position on evolved, solely and fortechnology personal pro -gain. He was, to his mind,vided moresaving than a town.one way Is of the solving principle technical of problems, honesty engineers more important were more frequently than several hundred Questions lem-solvingfaced with choosing approaches. among alternative solutions The to a problem. questions If two solutions both posed dealt are jobs? Perhapswith a problem it is, buteffectively, when clearlythe job the holdersless expensive are friendsone was preferred.and family, The itpractical is understandable 1. Why do you think Rockwell International has different issues to consider depending on intendedthat unethicalscience to of choices engineeringbe thought might economics be made. was originallyprovoking, developed specifically with to deal withthe deter hope- of whether an investment is a new product or a new machine? Formining Hespeler which Meats, of several the alternatives issue is was subtler. anticipated Is it to ethical be the most to chooseeconomical. figures that match the Choosing the least expensive alternative is not the only consideration. Even when a 2. For each of the issues mentioned, describe how it would be measured. How would you inspiringideal onesproject tolively maygain be a technically government classroom feasible grant? and the It most is,discussions reasonablystrictly speaking, priced solution a lie toand ora problem, at leastperhaps misleading determine if it is worth investing in a new product or new machine with respect to that since thereif adequate is no fundingestimate is not of available,sales. Notwithstanding, it cannot be done. The the engineer bureaucracy has to be awaredemands of that some issue? reflectivenumbersthe be financialcontemplation. given, constraints so why noton the pick problem, ones Ideally, particularlythat best suitif resourcesthe your boxes case?are very limited, will and enrich 3. There are two kinds of errors that can be made. The first is that an investment is made In the Galt Casting Grinders case, the engineers apparently did no wrong. The ethical when it should not be, and the second is that an investment is not made when it should the questionstudents’ concerns theunderstanding competitors’ actions. Is it ofethical the to put core features topics on equipment and that be. Describe examples of both kinds of errors for both products and machines (four do no good, add cost, and decrease reliability? In this case and for many other products, examples in total) if the issues listed for Rockwell International are strictly followed. broadenthis is often their done, ethicalgeneral or not. perspectives. If it is unethical, the ethical suppliers will sometimes go What are some sensible ways to prevent such errors? M01_FRAS5538_06_SE_C01.inddout of business.2 10/9/15 3:07 PM There are no general answers to difficult moral questions. Practising engineers often have to make choices with an ethical component and can sometimes rely on no stronger foundation than their own sense of right and wrong. More information about ethical issues for engineers can be obtained from professional engineering associations.

Case In PoInT 1.1 Loss of Life in engineering Projects AdditionalM04_FRAS5538_06_SE_C04.indd 128 Pedagogical 20/10/15 5:42 PM Whenever an engineering project is undertaken, In building the CN Tower, for example, only there are always safety risks. Injuries and accidents are one man died. Three people died building the often unavoidable. Although sometimes large projects Confederation Bridge. However, no matter how Features are completed without loss of life, there is always careful people are, most engineering projects are the chance that the decision of proceeding with an dangerous, and people will likely perish. engineering project will result in one or more deaths. • Each chapter begins with a list of learning goals. For example, a rule-of-thumb for building sky- Discussion Questions scrapers once was that one could expect to lose one 1) What is an acceptable death rate for an engi- Learning goals state what a learner will know or be life per floor of the building. This was borne out neering project? with the John Hancock Building in Chicago as late 2) How can an engineer know whether to approve able to do successfully after the lesson is completed. as 1970: it has 100 floors and 109 lives were lost a project that is sure to cause deaths that would building it. Similarly, for the construction of aque- otherwise not occur? duct tunnels to New York City in the 1930’s, the 3) How can an engineer decide how much money • Key terms are boldfaced where they are defined in the rule was to expect one life lost per mile of tunnel. to spend on improving safety in an engineering In modern times, the safety record for engi- project? body of the text. For easy reference, all these terms are neering projects has improved considerably. defined in a glossary at the end of the text.

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• Additional material is presented in chapter appendices at the ends of Chapters 3, 4, 6, 8, 9, 12, and 13. Supplements • Numerous worked-out Examples are given through- MyLab Engineering out the chapters. Although the decisions have often MyLab Engineering is a teaching and learning platform been simplified for clarity, most of them are based on that empowers instructors to reach every student. By com- real situations encountered in the authors’ consulting bining trusted author content with course-specific digital experiences. tools such as experiential simulations, and interactive • Worked-out Review Problems near the end of each assignments, MyLab Engineering personalizes the learn- chapter provide more complex examples that inte- ing experience and improves results for each student. grate the chapter material. A Powerful Homework and Test Manager. A power- • A concise prose Summary is given for each chapter. ful homework and test manager lets instructors create, • Each chapter has 30 to 50 Study Exercises of various import, and manage online homework assignments, levels of difficulty covering all of the material pre- quizzes, and tests that are automatically graded. sented. Like the worked-out Examples, many of the Instructors can choose from a wide range of assign- problems have been adapted from real situations. The ment options, including time limits, proctoring, and problems are also mapped to the learning goals par- maximum number of attempts allowed. The new ticular to each chapter. MyLab Engineering means less time grading and • A spreadsheet icon, like the one shown here, indicates more time teaching. where examples or problems involve spreadsheets, Study Plan. The Study Plan gives personalized recom- which are available in MyLab. mendations for each student, based on their ability to • Tables of Interest Factors are provided in Appendix A. master the learning objectives in the course. This allows students to focus their study time by pinpointing the • Answers to Selected Problems are provided in precise areas they need to review, and allows them to Appendix B. use customized practice and learning aids to help List of Symbols • A used in the text is provided in students stay on track. Appendix C. MyLab Engineering also contains the following items • A List of Formulas is provided in Appendix D. for students and instructors:

Course Designs For Students • Spreadsheet Savvy contains features which indicate This text is ideal for a one-term course, but with supple- elements of Excel related to the chapter material. It shows mental material it can also be appropriately used for a how Excel can be used to support the computations two-term course. It is intended to meet the needs of stu- necessary to implement the concepts covered. From dents in all engineering programs, including, but not lim- the basics of computing interest rates or the present ited to, aeronautical, chemical, computer, electrical, worth of a series of cash flows to a full-blown analysis of industrial, mechanical, mining, and systems engineering. major projects, spreadsheets help engineers compute Certain programs emphasizing public projects may wish results, evaluate alternatives, document outcomes, and to supplement Chapter 10, “Public Sector Decision make recommendations to colleagues and other stake Making,” with additional material. holders. A course based on this text can be taught in the first, • Excel spreadsheets for selected Spreadsheet Savvy second, third, or fourth year of an engineering program. discussions, examples, and problems The text is also suitable for college technology programs. No more than high school mathematics is required for a • New Ametros Learning Simulations: Engineering course based on this text. The probability theory required Economics. The Engineering Economics simulation to understand and apply the tools of uncertainty and risk series provides students with a risk-free experiential analysis is provided in Chapter 12. Prior knowledge of cal- setting to practise and apply theory while developing culus or linear algebra is not necessary. the skills they need to be successful in the workplace. This text is also suitable for self-study by a practitioner Students are required to practice their critical thinking, or individuals interested in the economic aspects of decision problem-solving and decision-making skills in a series making. It is easy to read and self-contained, with many of four AI powered simulations. clear examples. It can serve as a permanent resource for This new Engineering Economics set of simulations practising engineers or anyone involved in decision making. can be added to your course at no cost to you or your

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students. Contact your Pearson sales rep if you are For Instructors interested in implementing the Ametros simulation for Instructor’s Solutions Manual. The Solutions Manual your course. contains full solutions to all the problems in the • Interactive Graphs enhance the student learning experi- text, teaching notes for the Mini-Cases, and Excel ence. Students can manipulate the coordinates and spreadsheets for selected examples and problems. parameters of these graphs and watch the impact of This manual was created by the text authors. these changes in real time, thereby deepening their Digital Test Bank. Pearson’s digital test banks allow conceptual understanding of the material covered. instructors to filter and select questions to create quizzes, These interactive graphs can be assigned by instructors tests, or homework. Instructors can revise questions or through our MyLab Multimedia Library. add their own, and choose print or online options. These • Extended Cases questions are also available in Microsoft Word format. • Interest Tables: PowerPoint © Slides. PowerPoint slides have been ∘∘ Compound Interest Factors for Continuous Com- created for each chapter and can be used to help pres- pounding, Discrete Cash Flows ent material in the classroom. ∘∘ Compound Interest Factors for Continuous Com- Image Library. We have compiled all of the figures pounding, Continuous Compounding Periods and tables from the text in electronic format. • Glossary Flashcards

A01_FRAS8826_07_SE_FM.indd 13 05/10/20 2:26 PM Acknowledgments

he authors wish to acknowledge the contributions started. Our portfolio manager, Cathleen Sullivan, and our of a number of individuals who assisted in the Senior marketing Executive, Kimberly Teska, were able and Tdevelopment of this text. First and foremost are the wise voices when they were needed. Our content develop- hundreds of engineering students at the University of ers, Kathryn O’Handley and Gurpreet Sohal, were capable Waterloo who have provided us with feedback on pas- and diligent support for the author team. If anything in this sages they found hard to understand, typographical errors, text is written clearly, it is probably because of the fine work and examples they thought could be improved. There are of copy editor Julie vanTol. Sarah Gallagher, and the rest of too many individuals to name in person, but we are very the production team can similarly take credit for the fine thankful to each of them for their patience and diligence. resource you are using. We would also like to thank the Other individuals who have contributed substantially team at Ametros, particularly Nora Delf, for their help in to previous editions of the text include Irwin Bernhardt, developing the new simulations for this edition. May Tajima, Peter Chapman, David Fuller, J.B. Moore, Tim To all of the above, thank you again for your help. To Nye, Ron Pelot, Victor Waese, Yuri Yevdokimov, and Peggy those we may have forgotten to thank, our appreciation is Fraser. just as great, even if our memories fail us. Without doubt, As always, the tolerance, support, and encouragement some errors remain in this text despite the best efforts of of family, friends, and colleagues is immensely appreci- everyone involved. Please help us improve the next edi- ated. Your patience throughout this process has been tion by notifying us of any errors. Thank you. invaluable. We owe you an ongoing debt of gratitude. Finally, we want to express our appreciation to the Niall M. Fraser team at Pearson Canada for their professionalism and sup- Elizabeth M. Jewkes port during the writing of this text. Content manager Mehrdad Pirnia Kamilah Reid-Burrell expertly helped us get the project Ketra Schmitt

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