ENSC 201: The Business of Engineering&

ENSC 411: The Business of Entrepreneurial Engineering

Instructor: John Jones jones@sfu.ca

Office Hours: 3:30-4:30 Mondays, ASB 10845

Course Website: http://canvas.sfu.ca/courses/17549

Course Text: `Engineering Economic Analysis, 3rd Canadian edition', Oxford University Press, by Newnan, Whittaker, Eschenbach and Lavelle, ISBN 978-0-19-543017-2.

Course TA’s

Abdolahi, Zahra mabdolah@sfu.ca

Office Hours: 10:15-12:15 Fridays, ASB 10814

and

Tseng, Hsiu Yang htseng@sfu.ca

Office Hours: 10:30-12:30 Tuesdays, ASB 8813

and

Merchant, Ali Asgar amerchan@sfu.ca

Office Hours: 2 pm – 4 pm Mondays, TA Room

Course Structure

Three threads:

Engineering Economics Theory (Mondays & Fridays)

and

Engineering Economics Problem-solving (Weds 12:30 -1:20 pm, Friday 1:30-2:20 pm)

and

Engineering Entrepreneurship (Weds 4:30 pm)

What to expect from this course:

1. Dull

Exhibit 1

ENSC 201 ENSC 411

What to expect from this course:

1. Dull

2. Easy

What to expect from this course:

1. Dull

What to expect from this course:

1. Dull

2. Conceptually Easy

3. Useful

Alternative Grading Schemes

Scheme 1: ENSC 411

Project: 30%Assignments: 0%Mid-Term: 20%Final: 50%

Scheme 2: ENSC 201

Assignments: 30%Mid-Term: 20%Final: 50%

Divisions of Economic Theory

Macroeconomics Microeconomics

Divisions of Economic Theory

Macroeconomics Microeconomics

Global or national scale

``What effect does the interestrate have on employment?’’

Hard to distinguish frompolitics

Not a science, since noexperiments

Divisions of Economic Theory

Macroeconomics Microeconomics

Global or national scale

``What effect does the interestrate have on employment?’’

Hard to distinguish frompolitics

Not a science, since noexperiments

Company or personal scale

``Given a particular interestrate, how profitable will myproject be?’’

Used as a guide to companypolicy or individual investmentdecisions.

The Idea

I would rather have a dollar now than a dollar atthis time next year.

So would you.

(If you wouldn’t, please see me after class. Bring yourdollar.)

Irrelevant Philosophical Question 1: What is a Bank?

One answer: a secure vault

Another answer: a source of investment funds

Utopia

Suppose the interest rate is 5%. Everyone in society has at least $1,000,000 in the bank.

So everyone gets $50,000/year in interest, andno-one works.

Where does the money come from?

A model economy:

Ten farmers live in a village. One farmer borrowsenough grain from his neighbours to live for a year without farming. During the year he studies engineering and designs a better plough. Now hecan grow twice as much grain. He repays the grain he has borrowed, with interest.

Improved Meansof Production

Capital

Ideas

Labour

Surplus

Warning of possible confusion:

Our preference for money now rather than moneylater has nothing to do with inflation. There willbe no inflation in this course until November.

Inflation is when a pizza costs $10 now and $11next year.

In the cases we are considering, the pizza costs$10 this year and $10 next year, but we still wantour pizza now.

End of Philosophical Digression

Consequences of The Idea

We cannot directly compare cash flows occurring atdifferent times.

To decide whether or not to begin a project, we mustbring all the cash flows to the same moment in time.

If you’d just as soon get $x at time t1 as $y at time t2,we say that the two cash flows are equivalent (for you).

Further Consequences of The Idea

Our preference for getting money now rather thanlater can be expressed as an interest rate, i.

To find the present cash flow, $P, equivalent to a cash flow of $F occurring N years in the future,

we can use a conversion factor:

P = F(P/F,i,N)

Is (P/F,i,N) greater or less than one?

Further Consequences of The Idea

Our preference for getting money now rather thanlater can be expressed as an interest rate, i.

To find the present cash flow, $P, equivalent to a cash flow of $F occurring N years in the future,

we can use a conversion factor:

P = F(P/F,i,N)

If N increases, does (P/F,i,N) increase or decrease?

Further Consequences of The Idea

Our preference for getting money now rather thanlater can be expressed as an interest rate, i.

To find the present cash flow, $P, equivalent to a cash flow of $F occurring N years in the future,

we can use a conversion factor:

P = F(P/F,i,N)

If i increases, does (P/F,i,N) increase or decrease?

The higher the value of i, the thicker the fog

Conversion Factors

Conversely, to find the future cash flow, $F, equivalent to a cash flow of $P occurring

now, we can use a different conversion factor:

F = P(F/P,i,N)

Is (F/P,i,N) greater or less than one?

Conversion Factors

Conversely, to find the future cash flow, $F, equivalent to a cash flow of $P occurring

now, we can use a different conversion factor:

F = P(F/P,i,N)

What is the relationship between (F/P,i,N)and (P/F,i,N)?

Sample Problem

You are the chief financial officer of a large corporation.You have just completed the evaluation of two competingproposals, A and B. Proposal A involves spending a large sum of money right now to generate a larger return in fiveyear’s time. Proposal B involves expenditures over the nextthree years, generating returns in years four and five.

Given that the cost of capital to the company is 12%, youfind both proposals equally attractive.

You are now told that the cost of capital to the company has increased to 15%. Which proposal is more attractive now?

You should be able to solve this in < 60 seconds.

Conversion Factors

There are formulas, found in the back of the textbook, forevaluating the conversion factors.

Warning! On no account should you rememberthese formulas!

Write out the solutions to problems leaving the conversionfactors unevaluated till the last stage. Then look them upin Appendix B.

Sometimes you will find it useful to enter the formulas onspreadsheets.

Some of the formulasfrom the back of thetextbook.

One page from Appendix B.

Cash Flow Diagrams

These are helpful in making sure we have taken all the important cash flowsinto account. They need not be exactly to scale, but it helps if they’re close.

Time

Pay out $1000 now

Receive $500 for the next 3 years

Present Value

This is an application of the notion of equivalence:

We compare a series of cash flows by bringing themall to the present and adding them up. The sum iscalled the present value of the series.

If the series represents cash flows coming to us, we want the present value to be positive and the biggerthe better.

Present Value

$1000

For example, the present value of this series of cash flows is

PV = -1000 + 500(P/F,i,1) +500(P/F,i,2) + 500(P/F,i,3)

$500

AnnuitiesA

The pattern of a regular series of annual payments comesup often enough that we give it a special name: an annuity.

By convention, an annuity starts one time period after the presentand continues for N years.

We can find its equivalent present value using another conversionfactor:

The Present

PV = A(P/A,i,N)

AnnuitiesA

The pattern of a regular series of annual payments comesup often enough that we give it a special name: an annuity.

The Present

PV = A(P/A,i,N)

As N increases, does (P/A,i,N) increase or decrease?

AnnuitiesA

The pattern of a regular series of annual payments comesup often enough that we give it a special name: an annuity.

The Present

PV = A(P/A,i,N)

As i increases, does (P/A,i,N) increase or decrease?

AnnuitiesA

The pattern of a regular series of annual payments comesup often enough that we give it a special name: an annuity.

The Present

PV = A(P/A,i,N)

As A increases, does (P/A,i,N) increase or decrease?

Present Value

$1000

$500

So a more concise expression for the present value of this series would be

PV = -1000 + 500(P/A,i,3)

Some Tips for the Assignments and Exams

Say what you're doing.

In the exams, you can get 25% credit for an answer if we can just tell what method it is you're using, and an additional 25-50% if it's the right method. You won't necessarily get exactly the numerical values we have on the model answer sheets -- in many questions there are several defensible ways of solving the problem. To make it easy for us to mark it right, say what the numbers you're writing down are supposed to be, e.g.,

``Present worth of wages = A(P/A,i,N)'’

If we're just confronted by a page of anonymous calculations, there's not much we can do except glance through it and see if any of the numbers look anything like any of the numbers in the model answer.

Use explicit conversion factors,

i.e., expressions like `(P/A,i,N)'.

Using an algebraic formula instead is more work, and there are many more opportunities to make a numerical slip.

The only time you should use the formulas is when creating a spreadsheet. Even then, it's a good idea to write out what it is you're calculating in terms of the conversion factors -- this makes it easy for us to give credit even when there's a mistake in the spreadsheet (which can easily happen).

If you don't have a copy of the text, you can find tables of conversion formulae on line, for example at:

http://www.uic.edu/classes/ie/ie201/discretecompoundinteresttables.html

Avoid excessive precision.

If you're calculating the present value of a million-dollar investment, don't bother specifying it to the nearest thousandth of a cent. Three significant figures is usually adequate, and anything after the fifth significant figure is just imaginative fiction.

When presenting a table of numbers, they should all be given to the same level of precision, and the decimal points should align vertically. Let the table entries be in thousand-dollar or million-dollar units, so there are only a few digits on either side of the decimal point. If you do have more than three digits to one side of the decimal point, separate them into groups of 3 by commas or spaces.

Answer the question asked.

If the question asks, `` which alternative is best? '', don't just calculate the value of each alternative and leave it to the reader to figure it out. Say it explicitly.