Making Smart Engineering Decisions
Engineering Economic Analysis is a systematic framework used to evaluate the economic feasibility of engineering projects. It combines engineering principles with economic theory to help decision-makers choose the most financially viable option among several alternatives, ensuring that resources are allocated efficiently and effectively over the long term.
Core Principles
Time Value of Money
A dollar today is worth more than a dollar tomorrow due to its potential earning capacity. This is the cornerstone of all economic analysis.
Focus on Differences
Only the differences in expected future outcomes among the alternatives are relevant for comparison and decision-making.
Marginal Analysis
Decisions should be based on the change in revenue and cost that results from producing one more unit or taking one more action.
Consistent Viewpoint
Outcomes should be evaluated from a defined, consistent viewpoint (e.g., the firm's perspective, society's perspective).
Consider All Alternatives
The decision is only as good as the alternatives considered. The "do-nothing" option should always be an implicit choice.
Manage Uncertainty
Future outcomes are uncertain. This risk must be explicitly identified, analyzed, and considered in the evaluation of projects.
Economic vs. Financial Analysis
While both analyses deal with money, their scope and perspective are different. Financial analysis focuses on the viability of a project from a single entity's point of view (a company), whereas economic analysis takes a broader, societal perspective, considering externalities like environmental or social impacts.
Financial Analysis
- Perspective: Firm or individual investor.
- Goal: Maximize monetary profit or return on investment.
- Scope: Considers only direct costs and revenues to the firm.
- Prices Used: Market prices paid and received.
- Example: Will this new factory be profitable for our company?
Economic Analysis
- Perspective: Society, community, or entire country.
- Goal: Maximize social welfare or net benefit to society.
- Scope: Includes indirect effects and externalities (e.g., pollution, job creation).
- Prices Used: Shadow prices, which reflect true economic value.
- Example: Will this new dam provide a net benefit to the region?
Application in Project Management
Engineering economic analysis is not a one-time calculation but an integral part of the entire project lifecycle. It provides a quantitative basis for decision-making at every critical stage, from initial conception to final review. Click on the stages below to see how it's applied.
1. Conception
2. Feasibility & Design
3. Selection
4. Implementation
Click a stage to see details.
Common Analysis Methods
Engineers use several established methods to compare project alternatives. Each method provides a different lens through which to view a project's economic value. Select a method below to explore how it works and see a simplified visual example.