ASS

COMSATS UNIVERSITY ISLAMABAD

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ABBOTTABAD CAMPUS
ENGINEERING ECONOMICS
ASSIGMENT 04

Submitted By:
YASEEN AYAZ

Registration No:
FA18-BCE-020

Course:
ENGINEERING ECONOMICS

Submitted to:
SIR KHURRAM SHAHZAD

Date:
DEC 20, 2020
Question 1:
An automobile company has extra capacity that can be used to produce gears that the
company has been buying for Rs. 300 each. If the company makes gears, it will incur
materials cost of Rs. 90 per unit, labour costs of Rs. 120 per unit, and variable overhead
costs of Rs. 30 per unit. The annual fixed cost associated with the unused capacity is
Rs. 2,40,000. Demand for next year is estimated at 4,000 units.
(a) Would it be profitable for the company to make the gears?
(b) Suppose the capacity could be used by another department for the production of
some agricultural equipment that would cover its fixed and variable cost and contribute
Rs. 90,000 to profit which would be more advantageous, gear production or agricultural
equipment production.

Answer:
Part a
Material cost= 90
Labor cost= 120
Overheads= 30
The annual fixed cost associated with the unused capacity=2,40,000
(a) Would it be profitable for the company to make the gears?
(b) Suppose the capacity could be used by another department for the production of some
agricultural equipment that would cover its fixed and variable cost and contribute Rs. 90,000 to
profit which would be more advantageous, gear production or agricultural equipment
production?

Solution
We assume that the unused capacity has alternative use.

Cost to make gears

Variable cost/unit = Material + labour + overheads
= Rs. 90+ Rs. 120 + Rs. 30
= Rs. 240
Total variable cost = (4,000 units) (Rs. 240/unit)
= Rs. 960,000

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Add fixed cost associated with unused capacity + Rs. 2,40,000
Total cost = Rs. 1,200,000

Cost to buy
Purchase cost = (4,000 units) (Rs. 300/unit)
= Rs. . 1,200,000
Add fixed cost associated with unused capacity + Rs. 2,40,000
Total cost = Rs. 1,440,000

Part b
Cost to make for agricultural equipments
Variable cost/unit = Material + labour + overheads
= Rs. 90+ Rs. 120 + Rs. 30
= Rs. 240
Total variable cost = (4,000 units) (Rs. 240/unit)
= Rs. 960,000
Add fixed cost associated with unused capacity + Rs. 90,000
Total cost = Rs. 1,050,000
The cost of making gears is greater than the cost of making agricultural production. Therefore,
agricultural production will be more advantageous.

Question 2:
An item has an yearly demand of 1,000 units. The different costs with regard to make
and buy are as follows. Determine the best option.
Buy Make
Item cost/unit Rs. 6.00 Rs. 5.90
Procurement cost/order Rs. 10.00
Set-up cost/set-up Rs. 50.00
Annual carrying cost/item/year Rs. 1.32 Rs. 1.30
Production rate/year 6,000 units

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Answer:
solution
Buy option:
D = 1,000 units/year
Co = Rs. 10/order
Cc = Rs. 1.32/unit/year

2 Co D
Q 1=
√ CC

2∗1000∗10
Q 1=
√ 1.32
Q 1=√ 15,151.51515151515
Q1= 123.0914
D C o Q1 C c
TC=DP+ +
Q1 2
1000∗10 123∗1.32
TC=1000∗6+ +
123 2
10000 162.36
TC=6000+ +
123 2
TC=6162.48081301

Make option:

Co = Rs. 50/set-up
r = 1,000 units/year
Cc = Re 1.30/unit/year
k = 6,000 units/year

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 2C o
Q 2=

√ C c [1− ( kr )]
2∗50
Q 2=

√ 1.30 [1−

100
1000
(
6000
] )
Q 2=
√ 1.30 [1−0.166]

100
Q 2=
√ 1.30 [0.834]

100
Q 2=
√ 1.0842
Q2=9.60384845692
D∗Co Q2
TC=DP+ +C c (k−r )
Q2 2∗k
1000∗50 9.603
TC=1000∗5.90+ +1.30 (6000−1000)
9.603 2∗6000
50000 9.603
TC=5900+ +1.30(5000)
9.603 12000
50000 9.603
TC=5900+ +6500
9.603 12000
50000
TC=5900+ +6500∗0.00080025
9.603
50000
TC=5900+ +5.201625
9.603
TC=6229.56432
Result: The cost of making is greater than the cost of buying. Therefore, the firm should go in for
the buying option.

Question 3:

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A manufacturer of motor cycles buys side boxes at Rs. 240 each. In case
he makes it himself, the fixed and variable costs would be Rs. 30,00,000
and Rs. 90 per side box respectively. Should the manufacturer make or buy
the side boxes if the demand is 2,500 side boxes?

Answer:
Selling price/unit (SP) = Rs. 240
Variable cost/unit (VC) = Rs. 90
Breakeven point (BEP)=?

Solution:
Fixed cost (FC) = Rs. 30,00,000
BEP = 30,00,000/240-90
= 20,000 units
Since the demand (2,500 units) is less than the break-even quantity, the manufacturer should
buy the new motorcycle side boxes.

Question 4:
There are three alternatives available to meet the demand of a particular product. They
are as follows:
(a) Manufacturing the product by using process A
(b) Manufacturing the product by using process B
(c) Buying the product
The details are as follows:
Cost elements Manufacturing Manufacturing Buy the product by the product by using
process A using process B (Rs.) (Rs.) (Rs.)
Fixed cost/year 1,00,000 3,00,000
Variable cost/unit 75 70
Purchase price/unit 80
The annual demand of the product is 10,000 units.

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(a) Should the company make the product using process A or process B or buy it?
(b) At what annual volume should the company switch from buying to manufacturing the
product by using process A?
(c) At what annual volume, should the company switch from process A to B?

Answer:
Part a:
Annual cost of process A = FC + VC * Volume
= 1,00,000 + 75 *10,000
= Rs. 850,000
Annual cost of process B = FC + VC * Volume
= 3,00,000 + 70* 10,000
= Rs. 1000000
Annual cost of buy = Purchase price/unit * Volume
= 80* 10,000
= Rs. 800,000
Since the annual cost of buy option is the minimum among all the alternatives, the company
should buy the product.

Part b:
Let Q be the volume at which company switches from buying to making using process A. hence
total annual cost of process A is≤total cost of buying

100000+Q*75≤Q*80

100000≤ 5Q

5Q≥100000

Q≥20,000 units
Thus if the volume of production is more than 20,000 units the company should switch from
buying to making option using process A

Part c:
Let Q be the volume at which the shift from making using process A to making using process B
is preferable

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TC A ≥T C B

100000+75Q≥ 3000000+70Q

5Q≥ 200000

Q≥ 40000 units
Thus if the production volume is more than 40000 units, the company can shift from process A
to process B

Question 5:
What is Value analysis and value engineering? Explain in
detail.
Answer:
Value analysis
Definition
Value Analysis is one of the major techniques of cost reduction and control. It is
a disciplined approach which ensures the necessary functions for the minimum
cost without diminishing quality, reliability, performance and appearance

It is a creative approach to eliminate the unnecessary costs which add neither t

o quality nor to the appearance of the product. 
Value Analysis means the organised and exhaustively critical study of a product in
terms of the design, functions and costs with the object of cost reduction

Steps in Value Analysis Approach

Sequence of steps for systematic approach of value analysis is:
1. Orientation:
Familiarization with needs, specifications and customer desire.
2. Information:
All those facts which have bearing on the problem should be gathered.
A typical list of information gathered is given hereunder:
a. Engineering information
b. Procurement information
c. Reliability

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d. Materials information
e. Cost information
f. Tooling
g. Manufacturing information
h. Quality control—rejection, tolerance.
i. Customers experience
j. Packaging and preservation
k. Testing
l. Scheduling
3. Creativity:
Use of imagination and brain storming. Adopt the process of blast, create and then
refine.
4. Evaluation (Analysis):
Estimate value of ideas and explore best.

ADVERTISEMENTS:

5. Planning:
After selecting few alternatives or combination of alternatives, each of them investigated
thoroughly. On the basis of final outcome, detailed planning is carried out and a report is
prepared for approval.
6. Execution (Implementation):
After approval of the proposals, its recommendations are implemented. Value engineers
are expected to see that the approved recommendations are implemented and
hindrances, if any can be sorted out.
Objectives of Value Analysis:
(i) To simplify the product
(ii) To use cheaper and better material
(iii) To use efficient and economical process
(iv) To reduce the cost of the product
(v) To improve the product design
(vi) To increase the utility of the product
(vii) To increase the profits.

Advantages of Value Analysis:

There are many advantages beside the normal advantages of cost reduction-lower cost,
lower prices and higher profits.
Further, the following advantages may be possible when value analysis is employed in
the business:
1. The most suitable products are manufactured because a careful study is made to
determine the desirable feature of each product in terms of customer’s requirement.
2. Each product should be manufactured at the lowest possible cost because special at-
tention is paid for simplification, standardisation and improved methods of production.

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3. Quality is maintained at desired level because there is no question to reduce cost at
the expense of quality.
4. Value Engineering is based on the principle that management effectiveness can be
measured in terms of cost saving. Any saving in cost is treated as increase in efficiency.
5. The constant search for improvement will lead to greater all-round efficiency.
6. Suggestion box method may be employed and any idea can be looked into by the
Value Engineers.
7. Easy to repair or replace any part of the product.
8. Lighter in weight.
9. Easy in packaging to protect the product till it reaches to the user.

value engineering:
Definition:
Value engineering refers to the systematic method of improving the value of a p
roduct that a project produces. It is used to analyze a service, system, or produ
ct to determine the best way to manage the important functions while reducing t
he cost.

Value engineering can be broken down into the following

phases:
 
1. Information
The information phase involves gathering project information and refining the goals of
the project. Data is collected and analyzed, and the information obtained is used to
finalize the priorities of the project and areas of improvement.
The potential issues are broken down into constituent components, which are elements
to be addressed. This phase also involves identifying the methods that the team will use
to evaluate the progress of the project.
 
2. Function Analysis
The function analysis phase involves determining the functions of the project and
identifying them with a verb/noun combination for every element under evaluation. The
function is defined as the set targets to be attained through the execution of an element
or a set of elements.

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Each of the identified functions is analyzed to determine if there are improvements to be
made and if a new function is required. An example of a function can be “disinfect
water.”
The function should be as non-specific as possible, to leave room for multiple options
that perform the function presented by the project. A cost is assigned to each identified
function.
 
3. Creative
The creative phase follows the function analysis phase, and it involves exploring the
various ways to perform the function(s) identified in the function analysis phase. This
allows team members to brainstorm alternatives to existing systems or methods that are
in use.
Brainstorming forces people to be creative and allows team members to speculate on
all possible solutions to the problems presented, or alternatives to the function. The
team is required to develop a list of potential solutions to the function formulated by the
verb/noun combination.
 
4. Evaluation
In the evaluation phase, the merits and demerits of each of the suggested solutions and
alternatives from the creative phase are listed. The team should describe each
advantage and disadvantage in general terms.
When the disadvantages exceed the advantages, the alternative is dropped in favor of
other solid alternatives. The team performs a weighted matrix analysis to group and
rank the alternatives, and the best alternatives are selected for consideration in the next
phase.
 
5. Development
The development phase involves conducting an in-depth analysis of each best
alternative to determine how it can be implemented and the cost involved. The
examination of each alternative may involve creating sketches, cost estimates, and
other technical analysis.
Team members formulate an implementation plan for the project, which describes the
process to be followed in implementing the final recommendations.
 
6. Presentation
The presentation phase is where the team meets with the management and other
stakeholders to present their final report. The team is required to present their findings
to the decision-makers using reports, flow charts, and other presentation materials to
convince them that the final ideas from the development phase should be implemented.
The ideas should be described in detail, including associated costs, benefits, and
potential challenges. The final report acts as a record of the team’s accomplishments
during the study and a summary of the team’s deliberations and findings. It can also act
as a reference tool for the company in future projects.
 
7. Implementation

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Implementation of the project begins after the management’s approval of the team
recommendations. If there are changes requested by the management or other
decision-makers, these changes should be incorporated into the implementation plan
before the implementation begins.
When implementing the project, the team should ensure that the primary goal of
increasing value is achieved. The actual cost savings of the project should be
determined based on the implementation of the recommendations

KEY TAKEAWAYS

 Value engineering is a systematic and organized approach to providing the

necessary functions in a project at the lowest cost.
 Value engineering promotes the substitution of materials and methods with less
expensive alternatives, without sacrificing functionality.
 It is focused solely on the functions of various components and materials, rather
than their physical attribute
Effectiveness of Value Engineering:
It assures cost effectiveness:
i. It is cost avoidance instead of cost reduction.
ii. It locates all frills and gold plating’s.
iii. It segregates the necessary from unnecessary.
Qualitative Advantages of V.E.:
Higher productivity
(ii) Simplified manufacturing process.
(iii) Overall cost reduction.
(iv) Better performance,
(v) Higher reliability.
(vi) Reduction in lead time.
(vii) Better quality.
(viii) Easy maintainability.
(ix) Improved appearance.
(x) Simplified design.
(xi) Reduced rejections.
(xii) Less close and rigid tolerance.
(xiii) Higher market share.
(xiv) Higher profit.
(xv) Less after-sales service requirements.
(xvi) Reduced down time of machine or process.
(xvii) Decision on to-make-or-to-buy, easy and correct.
(xviii) Better packaging.
(xix) Improved logistics.

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Conclusion
These are some of the benefits of value engineering that has made it highly recommen
ded in the construction process of any building and to meet the customer’s expectations .
From the light fixtures, electricity, to every component that will be installed, it focuses on
prioritizing and working based on the budget.
In the end, the cost savings for clients and delivery based on what they want are the be
nefits that are reaped.
These advantages from the implementation of value engineering are also felt by the des
ign team who would’ve completed the project as at when scheduled.

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