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Hello and welcome back to the course Engineering Economy. In this video, we willdiscuss the basics of cost modelling and a bit more detail about how to get to a goodcost overview and classification. In short, this chapter is about “What is a costmodel?”, and “How to get to an overall view on the cost?”.2
Recall the stepwise approach for Engineering Economy as discussed in previousvideos. This chapter focuses on the third step in this process: the development ofoutcomes for each alternative. Hereby, we need to focus on using a consistentviewpoint and a common unit of measure.3
One of the most common outcomes in Engineering Economic Analysis is the use ofcost estimation. It is used for a variety of purposes:Setting selling prices for quoting, bidding, or evaluating contractsEvaluation of expected profit for a proposed product, for its production and/ordistributionEvaluating how much capital can be justified for changes and improvementsSetting benchmarks for productivity improvement programsTherefore, cost estimation is an integral part of comprehensive planning and design,and should therefore involve every relevant stakeholder.4
Integrated cost estimation in itself is also a stepwise process. After getting to anoverviewof all costs, they can beclassifiedin a structure that delineates the costs, aswell as potential revenues. Next, each cost category can then bemodelled andestimated, where the technique depends on the level of detail required and effortspent on the modelling. Finally, the cost can be optimized by considering differentscenarios that impact the cost-performance trade-off and hence the outcome of theproject.In this video, we will discuss the work breakdown structure, or WBS, as a techniquefrequently used to get to the general cost overview.Next, the lifecycle cost approach will be explained as an example approach toobtaining a clear cost classification.Basic cost modelling and estimation models will be discussed in later videos.5
The WBS, or Work Breakdown Structure, is a basic tool in project management. It canbe seen as a framework for defining all project work elements and their relationships.It is typicallydeveloped starting from the top level, and worked down hierarchically,whereby each level of a WBS divides the work elements into increasing detail. Theprocess is continued until the desired detail is achieved, which is 4 levels in theexample given on the slide.6
Let us build an example WBS together, for building a house. On level 1, we denote themain activity, which is the building of a house.Next, we split into the main parts, which then becomes level 2 in our WorkBreakdown Structure. For the house, we identify the foundations, the actualstructure, and the interiors. We also account for a project management to overseethe situation and follow up, as this comprises a not-to-be-underestimated cost.

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