Chapter 1: Cost Estimation and Budgeting
Introduction
Suppose you’re planning a Thanksgiving dinner for your family, and you want to budget for the cost of the meal. You could make a list of the ingredients needed for each of the dishes (turkey, stuffing, cranberry sauce, etc.) and then check a flyer from a local grocery store for the price of each item. If you wanted to go into extreme detail, you could even calculate the increase in your electric bill from cooking your turkey in the oven (although you would likely decide this is too negligible to consider). The point is, with a little bit of effort, you could estimate a fairly accurate cost for your meal.
Now imagine that you’re planning to build a 2000 MW capacity hydroelectric dam. The reservoir created above the dam will hold trillions of litres of water, the dam structure will require an enormous amount of material to construct, and the entire project will take years to complete (the Hoover Dam was completed over 5 years between April 20, 1931 and March 1, 1936). How would you develop a budget for this project?
Engineers regularly deal with projects whose scale, complexity, and uncertainty call for sophisticated approaches to planning and budgeting. This chapter will give a basic introduction to the cost-identification and budgeting methods that can be applied to engineering projects.
Key Concepts
- Overhead costs
- Cost driver identification
- Cost allocation methods
- Capital budgeting
- Flexible budgeting
- Zero-based budgeting
- Budgets and estimates
Learning Objectives
After completing this chapter, students should be able to:
- Identify and calculate manufacturing overhead costs
- Understand the relationship between activities and cost drivers
- Recognize different cost-allocation methods and their advantages and disadvantages
- Apply the methods to assign costs and determine the total cost of a product
- Understand budgeting and its role in planning, control, and decision making
- Make reasonable financial estimates and use them in planning/budgeting decisions
