Cost analysis of electronic systems 2nd

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WSPC Series in Advanced Integration and Packaging
Series Editors: Avram Bar-Cohen (University of Maryland, USA)

Shi-Wei Ricky Lee (Hong Kong University of Science and

Technology, ROC)

Published
Vol. 1: Cost Analysis of Electronic Systems

by Peter Sandborn
Vol. 2: Design and Modeling for 3D ICs and Interposers

by Madhavan Swaminathan and Ki Jin Han
Vol. 3:




Cooling of Microelectronic and Nanoelectronic Equipment:
Advances and Emerging Research
edited by Madhusudan Iyengar, Karl J. L. Geisler and
Bahgat Sammakia

Vol. 4: Cost Analysis of Electronic Systems (Second Edition)

by Peter Sandborn

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WSPC Series in Advanced Integration and Packaging — Vol. 4
COST  A NALYSIS  OF  ELECTRONIC  SYSTEMS
Second Edition
Copyright © 2017 by World Scientific Publishing Co. Pte. Ltd.
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Preface to the Second Edition

I received helpful criticism from numerous sources since the first edition
of this book was published in 2013. In addition to the first edition’s use as
a graduate course text, we are now using selected chapters in an
undergraduate course on engineering economics and cost modeling. Along
with the inputs I have received on how to make the original topics more
complete, I have also had numerous requests for new material addressing
new areas.
Of course no book like this can ever be truly complete, but attempting
to make it so keeps me out of trouble and gives me something to do on the
weekends and evenings.
I have added two new chapters and two new appendices to this edition.
The new chapter on real option analysis treats modeling of management
flexibility and provides a case study on maintenance optimization. A
chapter on cost-benefit analysis has also been added. This chapter comes
as the direct result of many inquiries about how to model consequences
(benefits, risks, etc.) concurrent with costs. The new appendices cover

weighted average cost of capital and discrete-event simulation, both of
these topics don’t warrant a chapter, but nonetheless are useful topics for
this type of book.
In addition to the new chapters and appendices, several new sections
have been added to the 1st edition chapters and new problems have been
added to all the chapters (and a few problems that students convinced me
didn’t quite make sense have been deleted).
Peter Sandborn
2016

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Preface to the First Edition

Twenty years ago many engineers involved in the design of electronic
systems took, at most, a secondary interest in the cost effectiveness of their
design decisions; they considered that someone else’s job or an issue to be
addressed after the initial release of the product.1 Today the world has
changed. Every engineer in the design process for an electronic product is
also tasked with understanding, or contributing to the understanding of,

the economic tradeoffs associated with their decisions. Yet aside from
general engineering economics that focuses on capital allocation
problems, system designers have virtually no resources and obtain little or
no training in cost analysis, let alone analysis that is specific to electronic
systems.
Unfortunately, when engineering students were asked what they
thought the cost of a product was (and assigned to determine cost estimates
of products in an undergraduate capstone design course at the University
of Maryland) they all too often added up the costs of procuring the bill of
materials and declared that to be the cost of the product. Few students are
surprised when shown a breakdown of the life-cycle costs or the cost of
ownership of systems, but virtually none, even those who had taken
courses in engineering economics, were equipped to competently estimate
the manufacturing or life-cycle cost of a real product.
This book is an outgrowth of a course on Electronic Product and
System Cost Analysis developed at the University of Maryland. Since
1999, the course has been taught as a one-semester graduate course
(populated with a mix of senior-level undergraduates and graduate
students) and many times in the form of an industry short course.

1
Many types of electronic systems have been primarily driven by time to market
rather than cost; this situation is not necessarily shared by non-electronic systems.

vii


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Cost Analysis of Electronic Systems

This book is intended to be a resource for electronic system designers
who want to be able to assess the economic impact of their design
decisions on the manufacturing of a system and its life cycle.
The book is oriented toward those interested in the entire electronic
systems hierarchy from the bare die (integrated circuits) through the single
chip packages, modules, boards, and enclosures.
This book provides an in-depth understanding of the process of
predicting the cost of systems. Elements of traditional engineering
economics are melded with manufacturing process modeling and lifecycle cost management concepts to form a practical foundation for
predicting the real cost of electronic products.
Various manufacturing cost analysis methods are included in the book:
process-flow cost modeling and parametric, cost-of-ownership, and
activity-based costing. The effects of learning curves, data uncertainty, test
and rework processes, and defects are considered in conjunction with these
methodologies. In addition to manufacturing processes, the product lifecycle costs associated with the sustainment of systems are also addressed
through a treatment of the cost impacts of reliability (sparing, availability,
warranty) and obsolescence. The chapters use real-life scenarios from
integrated circuit fabrication, electronic systems assembly, substrate
fabrication, and electronic systems testing and support at various levels.
The chapters contain problems of varying levels of difficulty, ranging
from alternative numerical values that can be used in the examples
included in the chapter text to derivations of relations presented in the text
and extensions of the models described. Even for the simple problems,
students may have to reproduce (via spreadsheet or other methods) the
examples from the text before attempting the problems. The notation
(symbols) used in each chapter are summarized in the Appendix. Every
attempt has been made to make the notation consistent from chapter to
chapter; however, some common symbols have different meanings in
different chapters.

The author is grateful to many people who have made this a much
better book with their input. First, I want to thank the several hundred
students who have taken courses at the University of Maryland and seem
to somehow always find new and unique questions to ask every time it is
taught. My graduate students, present and past, deserve appreciation for


Preface to the First Edition

ix

their contributions to many portions of the book. In particular I would like
to acknowledge Andre Kleyner (Delphi) and Linda Newnes (University of
Bath) for their contributions reading and commenting on several of the
chapters. I would also like to thank my numerous colleagues at the
University of Maryland and in CALCE, including Michael Pecht and Avi
Bar-Cohen for encouraging the writing of this book.
Peter Sandborn
2013


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Contents

Preface to the Second Edition ............................................................................... v
Preface to the First Edition .................................................................................vii
Chapter 1 Introduction ........................................................................................ 1
1.1 Cost Modeling .......................................................................................... 1
1.2 The Product Life Cycle ............................................................................. 4
1.3 Life-Cycle Cost Scope .............................................................................. 7
1.4 Cost Modeling Definitions........................................................................ 8
1.5 Cost Modeling for Electronic Systems ................................................... 11
1.6 The Organization of this Book ................................................................ 12
References .................................................................................................... 12
Part I Manufacturing Cost Modeling................................................................. 15
I.1 Classification of Products Based on Manufacturing Cost ....................... 17
References .................................................................................................... 18
Chapter 2 Process-Flow Analysis ..................................................................... 19
2.1 Process Steps and Process Flows ............................................................ 19
2.1.1 Process-Step Sequence ................................................................... 21
2.1.2 Process-Step Inputs and Outputs .................................................... 21
2.2 Process-Step Calculations ....................................................................... 22
2.2.1 Labor Costs .................................................................................... 23
2.2.2 Materials Costs............................................................................... 24
2.2.3 Tooling Costs ................................................................................. 24
2.2.4 Equipment/Capital Costs ................................................................ 25
2.2.5 Total Cost ....................................................................................... 25
2.2.6 Capacity ......................................................................................... 26
2.3 Process-Flow Examples .......................................................................... 27
2.3.1 Simple Pick & Place and Reflow Process ...................................... 28
2.3.2 Multi-Step Process-Flow Example................................................. 29
2.4 Technical Cost Modeling (TCM)............................................................ 31

2.5 Comments ............................................................................................... 32
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Cost Analysis of Electronic Systems

References .................................................................................................... 32
Problems ....................................................................................................... 33
Chapter 3 Yield ................................................................................................. 35
3.1 Defects .................................................................................................... 36
3.2 Yield Prediction ...................................................................................... 37
3.2.1 The Poisson Approximation to the Binomial Distribution ............. 39
3.2.2 The Poisson Yield Model ............................................................... 42
3.2.3 The Murphy Yield Model .............................................................. 43
3.2.4 Other Yield Models ........................................................................ 44
3.3 Accumulated Yield ................................................................................. 46
3.3.1 Multi-Step Process-Flow Example................................................. 47
3.3.2 The Known Good Die (KGD) Problem ......................................... 48
3.4 Yielded Cost ........................................................................................... 50
3.5 The Relationship Between Yield and Producibility ................................ 54
References .................................................................................................... 56
Bibliography ................................................................................................. 57
Problems ....................................................................................................... 57
Chapter 4 Equipment/Facilities Cost of Ownership (COO) .............................. 61
4.1 The Cost of Ownership Algorithm ......................................................... 62
4.2 Cost of Ownership Modeling .................................................................. 64
4.2.1 Capital Costs .................................................................................. 64
4.2.2 Sustainment Costs .......................................................................... 64

4.2.3 Performance Costs ......................................................................... 66
4.3 Using COO to Compare Two Machines ................................................. 67
4.4 Estimating Product Costs ........................................................................ 71
References .................................................................................................... 72
Bibliography ................................................................................................. 73
Problems ....................................................................................................... 73
Chapter 5 Activity-Based Costing (ABC)......................................................... 77
5.1 The Activity-Based Cost Modeling Concept .......................................... 78
5.1.1 Applicability of ABC to Cost Modeling ........................................ 79
5.2 Formulation of Activity-Based Cost Models .......................................... 79
5.2.1 Traditional Cost Accounting (TCA) .............................................. 80
5.2.2 Activity-Based Costing .................................................................. 80
5.3 Activity-Based Cost Model Example ..................................................... 82
5.4 Time-Driven Activity-Based Costing (TDABC) .................................... 84


Contents

xiii

5.5 Summary and Discussion........................................................................ 87
References .................................................................................................... 87
Bibliography ................................................................................................. 88
Problems ....................................................................................................... 88
Chapter 6 Parametric Cost Modeling ................................................................ 93
6.1 Cost Estimating Relationships (CERs) ................................................... 94
6.1.1 Developing CERs ........................................................................... 96
6.2 A Simple Parametric Cost Modeling Example ....................................... 97
6.3 Limitations of CERs ............................................................................. 100
6.3.1 Bounds of the Data ....................................................................... 100

6.3.2 Scope of the Data ......................................................................... 101
6.3.3 Overfitting .................................................................................... 101
6.3.4 Don’t Force a Correlation When One Does Not Exist ................. 103
6.3.5 Historical Data ............................................................................. 103
6.4 Other Parametric Cost Modeling/Estimation Approaches .................... 104
6.4.1 Feature-Based Costing (FBC) ...................................................... 104
6.4.2 Neural Network Based Cost Estimation ....................................... 105
6.4.3 Costing by Analogy ..................................................................... 106
6.5 Summary and Discussion...................................................................... 106
References .................................................................................................. 107
Bibliography ............................................................................................... 108
Problems ..................................................................................................... 109
Chapter 7 Test Economics .............................................................................. 113
7.1 Defects and Faults................................................................................. 114
7.1.1 Relating Defects to Faults ............................................................ 115
7.2 Defect and Fault Coverage ................................................................... 120
7.3 Relating Fault Coverage to Yield ......................................................... 122
7.3.1 A Tempting (but Incorrect) Derivation of Outgoing Yield .......... 122
7.3.2 A Correct Interpretation of Fault Coverage ................................. 123
7.3.3 A Derivation of Outgoing Yield (Yout) ......................................... 124
7.3.4 An Alternative Outgoing Yield Formulation ............................... 129
7.4 A Test Step Process Model ................................................................... 129
7.4.1 Test Escapes ................................................................................. 132
7.4.2 Defects Introduced by Test Steps ................................................. 132
7.5 False Positives ...................................................................................... 133
7.5.1 A Test Step with False Positives .................................................. 135
7.5.2 Yield of the Bonepile ................................................................... 137


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Cost Analysis of Electronic Systems

7.6 Multiple Test Steps ............................................................................... 137
7.6.1 Cascading Test Steps ................................................................... 138
7.6.2 Parallel Test Steps ........................................................................ 138
7.7 Financial Models of Testing ................................................................. 139
7.8 Other Test Economics Topics ............................................................... 140
7.8.1 Wafer Probe (Wafer Sort) ............................................................ 140
7.8.2 Test Throughput ........................................................................... 142
7.8.3 Design for Test (DFT).................................................................. 143
7.8.4 Automated Test Equipment Costs ................................................ 149
References .................................................................................................. 150
Bibliography ............................................................................................... 151
Problems ..................................................................................................... 151
Chapter 8 Diagnosis and Rework.................................................................... 155
8.1 Diagnosis .............................................................................................. 156
8.2 Rework.................................................................................................. 158
8.3 Test/Diagnosis/Rework Modeling ........................................................ 159
8.3.1 Single-Pass Rework Example ...................................................... 160
8.3.2 A General Multi-Pass Rework Model .......................................... 163
8.3.3 Variable Rework Cost and Yield Models..................................... 169
8.3.4 Example Test/Diagnosis/Rework Analysis .................................. 171
8.4 Rework Cost (Crework fixed) ...................................................................... 177
References .................................................................................................. 179
Problems ..................................................................................................... 180
Chapter 9 Uncertainty Modeling — Monte Carlo Analysis............................ 183
Uncertainty Modeling ................................................................................. 185
9.1 Representing the Uncertainty in Parameters ......................................... 186
9.2 Monte Carlo Analysis ........................................................................... 187

9.2.1 How Does Monte Carlo Work? .................................................... 188
9.2.2 Random Sampling Values from Known Distributions ................. 190
9.2.3 Triangular Distribution Derivation............................................... 192
9.2.4 Random Sampling from a Data Set .............................................. 193
9.2.5 Implementation Challenges with Monte Carlo Analysis.............. 194
9.3 Sample Size .......................................................................................... 196
9.4 Example Monte Carlo Analysis ............................................................ 198
9.5 Stratified Sampling (Latin Hypercube) ................................................. 200
9.5.1 Building a Latin Hypercube Sample (LHS) ................................. 201
9.5.2 Comments on LHS ....................................................................... 203


Contents

xv

9.6 Discussion ............................................................................................. 204
References .................................................................................................. 205
Bibliography ............................................................................................... 206
Problems ..................................................................................................... 206
Chapter 10 Learning Curves ........................................................................... 209
10.1 Mathematical Models for Learning Curves ........................................ 210
10.2 Unit Learning Curve Model ................................................................ 213
10.3 Cumulative Average Learning Curve Model ...................................... 213
10.4 Marginal Learning Curve Model ........................................................ 214
10.5 Learning Curve Mathematics .............................................................. 215
10.5.1 Unit Learning Data from Cumulative Average Learning
Curves ........................................................................................ 215
10.5.2 The Slide Property of Learning Curves ...................................... 217
10.5.3 The Relationship between the Learning Index and

the Learning Rate ....................................................................... 217
10.5.4 The Midpoint Formula ............................................................... 218
10.5.5 Comparing Learning Curves ...................................................... 220
10.6 Determining Learning Curves from Actual Data ................................ 222
10.6.1 Simple Data ................................................................................ 223
10.6.2 Block Data.................................................................................. 224
10.7 Learning Curves for Yield .................................................................. 227
10.7.1 Gruber’s Learning Curve for Yield ............................................ 228
10.7.2 Hilberg’s Learning Curve for Yield ........................................... 229
10.7.3 Defect Density Learning ............................................................ 231
References .................................................................................................. 232
Bibliography ............................................................................................... 233
Problems ..................................................................................................... 234
Part II Life-Cycle Cost Modeling ................................................................... 239
II.1 System Sustainment ............................................................................. 241
II.2 Cost Avoidance .................................................................................... 244
II.3 Should-Cost .......................................................................................... 245
II.4 Time Value of Money .......................................................................... 246
II.4.1 Inflation ....................................................................................... 248
II.5 Logistics ............................................................................................... 249
II.6 References ............................................................................................ 249


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Cost Analysis of Electronic Systems

Chapter 11 Reliability ..................................................................................... 251
11.1 Product Failure.................................................................................... 252
11.2 Reliability Basics ................................................................................ 255

11.2.1 Failure Distributions................................................................... 256
11.2.2 Exponential Distribution ............................................................ 259
11.2.3 Weibull Distribution................................................................... 260
11.2.4 Conditional Reliability ............................................................... 261
11.3 Qualification and Certification ........................................................... 262
11.4 Cost of Reliability ............................................................................... 264
References .................................................................................................. 265
Bibliography ............................................................................................... 265
Problems ..................................................................................................... 266
Chapter 12 Sparing ......................................................................................... 269
Challenges with Spares ............................................................................... 270
12.1 Calculating the Number of Spares ...................................................... 271
12.1.1 Multi-Unit Spares for Repairable Items ..................................... 274
12.1.2 Sparing for a Kit of Repairable Items ........................................ 275
12.1.3 Sparing for Large k..................................................................... 277
12.2 The Cost of Spares .............................................................................. 278
12.2.1 Spares Cost Example.................................................................. 280
12.2.2 Extensions of the Cost Model .................................................... 281
12.3 Summary and Comments .................................................................... 282
References .................................................................................................. 283
Bibliography ............................................................................................... 283
Problems ..................................................................................................... 284
Chapter 13 Warranty Cost Analysis................................................................ 287
How Warranties Impact Cost ...................................................................... 288
13.1 Types of Warranties ............................................................................ 291
13.2 Renewal Functions.............................................................................. 292
13.2.1 The Renewal Function for Constant Failure Rate ...................... 295
13.2.2 Asymptotic Approximation of M(t) ........................................... 296
13.3 Simple Warranty Cost Models ............................................................ 297
13.3.1 Ordinary (Non-Renewing) Free-Replacement Warranty

Cost Model ................................................................................. 297
13.3.2 Pro-Rata (Non-Renewing) Warranty Cost Model ...................... 299
13.3.3 Investment of the Warranty Reserve Fund ................................. 301
13.3.4 Other Warranty Reserve Fund Estimation Models .................... 303


Contents

xvii

13.4 Two-Dimensional Warranties ............................................................. 303
13.5 Warranty Service Costs — Real Systems ........................................... 307
References .................................................................................................. 309
Problems ..................................................................................................... 310
Chapter 14 Burn-In Cost Modeling ................................................................ 313
The Cost Tradeoffs Associated with Burn-In ............................................. 314
14.1 Burn-In Cost Model ............................................................................ 315
14.1.1 Cost of Performing the Burn-In ................................................. 315
14.1.2 The Value of Burn-In ................................................................. 317
14.2 Example Burn-In Cost Analysis ......................................................... 318
14.3 Effective Manufacturing Cost of Units That Survive Burn-In ............ 321
14.4 Burn-In for Repairable Units .............................................................. 322
14.5 Discussion ........................................................................................... 322
References .................................................................................................. 322
Bibliography ............................................................................................... 323
Problems ..................................................................................................... 323
Chapter 15 Availability ................................................................................... 325
15.1 Time-Based Availability Measures..................................................... 325
15.1.1 Time-Interval-Based Availability Measures .............................. 326
15.1.2 Downtime-Based Availability Measures.................................... 328

15.1.3 Application-Specific Availability Measures .............................. 331
15.2 Maintainability and Maintenance Time .............................................. 332
15.3 Monte Carlo Time-Based Availability Calculation Example ............. 334
15.4 Markov Availability Models ............................................................... 336
15.5 Spares Demand-Driven Availability ................................................... 338
15.5.1 Backorders and Supply Availability .......................................... 339
15.5.2 Erlang-B ..................................................................................... 341
15.5.3 Materiel Availability .................................................................. 342
15.5.4 Energy-Based Availability ......................................................... 343
15.6 Availability Contracting ..................................................................... 344
15.6.1 Product Service Systems (PSS) .................................................. 346
15.6.2 Power Purchase Agreements (PPAs) ......................................... 346
15.6.3 Performance-Based Logistics (PBLs) ........................................ 347
15.6.4 Public-Private Partnerships (PPPs) ............................................ 347
15.7 Readiness ............................................................................................ 348
15.8 Discussion ........................................................................................... 349


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Cost Analysis of Electronic Systems

References .................................................................................................. 351
Problems ..................................................................................................... 352
Chapter 16 The Cost Ramifications of Obsolescence ..................................... 355
Electronic Part Obsolescence...................................................................... 357
16.1 Managing Electronic Part Obsolescence............................................. 358
16.2 Lifetime Buy Costs ............................................................................. 359
16.2.1 The Newsvendor Problem .......................................................... 361
16.2.2 Application of the Newsvendor Optimization Problem to

Electronic Parts .......................................................................... 366
16.3 Strategic Management of Obsolescence ............................................. 368
16.3.1 Porter Design Refresh Model ..................................................... 369
16.3.2 MOCA Design Refresh Model................................................... 373
16.3.3 Material Risk Index (MRI)......................................................... 374
16.4 Discussion ........................................................................................... 376
16.4.1 Budgeting/Bidding Support ....................................................... 376
16.4.2 Value of DMSMS Management ................................................. 376
16.4.3 Software Obsolescence .............................................................. 377
16.4.4 Human Skills Obsolescence ....................................................... 377
References .................................................................................................. 378
Problems ..................................................................................................... 379
Chapter 17 Return on Investment (ROI) ......................................................... 381
17.1 Definition of ROI ................................................................................ 381
17.2 Cost Reduction and Cost Savings ROIs.............................................. 383
17.2.1 ROI of a Manufacturing Equipment Replacement ..................... 383
17.2.2 Technology Adoption ROI ......................................................... 385
17.3 Cost Avoidance ROI ........................................................................... 391
17.4 Stochastic ROI Calculations ............................................................... 396
17.5 Summary ............................................................................................. 398
References .................................................................................................. 399
Problems ..................................................................................................... 399
Chapter 18 The Cost of Service ...................................................................... 403
18.1 Why Estimate the Cost of a Service? .................................................. 404
18.2 An Engineering Service Example ....................................................... 405
18.3 How to Estimate the Cost of an Engineering Service ......................... 406
18.4 Application of the Service Costing Approach within an
Industrial Company ............................................................................ 407

Contents

xix

18.5 Bidding for the Service Contract ........................................................ 415
References .................................................................................................. 416
Problems ..................................................................................................... 416
Chapter 19 Software Development and Support Costs ................................... 417
19.1 Software Development Costs .............................................................. 418
19.1.1 The COCOMO Model................................................................ 419
19.1.2 Function-Point Analysis ............................................................. 422
19.1.3 Object-Point Analysis ................................................................ 426
19.2 Software Support Costs ...................................................................... 427
19.3 Discussion ........................................................................................... 429
References .................................................................................................. 429
Bibliography ............................................................................................... 430
Problems ..................................................................................................... 430
Chapter 20 Total Cost of Ownership Examples .............................................. 433
20.1 The Total Cost of Ownership of Color Printers .................................. 433
20.2 Total Cost of Ownership for Electronic Parts .................................... 437
20.2.1 Part Total Cost of Ownership Model ......................................... 438
20.2.2 Example Analyses ...................................................................... 443
20.3 Levelized Cost of Energy (LCOE) ..................................................... 446
References .................................................................................................. 447
Chapter 21 Cost, Benefit and Risk Tradeoffs ................................................. 449
21.1 Cost-Benefit Analysis (CBA) ............................................................. 449
21.1.1 What is a Benefit? ...................................................................... 450
21.1.2 Performing CBA ........................................................................ 451
21.1.3 Determining the Value of Human Life....................................... 456
21.1.4 Comments on CBA .................................................................... 459

21.2 Modeling the Cost of Risk .................................................................. 460
21.2.1 A Multiple Severity Model for Technology Insertion ................ 461
21.3 Rare Events ......................................................................................... 465
21.3.1 What is a Rare Event? ................................................................ 466
21.3.2 Unbalanced Misclassification Costs........................................... 466
21.3.3 The False Positive Paradox ........................................................ 471
References .................................................................................................. 473
Bibliography ............................................................................................... 474
Problems ..................................................................................................... 474


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Cost Analysis of Electronic Systems

Chapter 22 Real Options Analysis .................................................................. 477
22.1 Discounted Cash Flow (DCF) and Decision Tree Analyses (DTA) ... 477
22.2 Introduction to Real Options............................................................... 480
22.3 Valuation ............................................................................................ 482
22.3.1 Replicating Portfolio Theory...................................................... 483
22.3.2 Binomial Lattices ....................................................................... 485
22.3.3 Risk-Neutral Probabilities and Riskless Rates ........................... 490
22.4 Black-Scholes ..................................................................................... 491
22.4.1 Correlating Black-Scholes to Binomial Lattice .......................... 494
22.5 Simulation-Based Real Options Example: Maintenance Options ....... 495
22.6 Closing Comments.............................................................................. 499
References .................................................................................................. 500
Bibliography ............................................................................................... 500
Problems ..................................................................................................... 501
Appendix A Notation....................................................................................... 503

Appendix B Weighted Average Cost of Capital (WACC) .............................. 523
B.1 The Weighted Average Cost of Capital (WACC) ................................ 524
B.1.1 Cost of Equity .............................................................................. 524
B.1.2 Cost of Debt ................................................................................ 526
B.1.3 Calculating the WACC ................................................................ 526
B.2 Forecasting Future WACC ................................................................... 528
B.3 Comments ............................................................................................ 530
B.3.1 Trade-off Theory ......................................................................... 530
B.3.2 Social Opportunity Cost of Capital (SOC) .................................. 531
References .................................................................................................. 531
Problems ..................................................................................................... 531
Appendix C Discrete-Event Simulation (DES) ............................................... 533
C.1 Events ................................................................................................... 535
C.2 DES Examples ..................................................................................... 535
C.2.1 A Trivial DES Example............................................................... 536
C.2.2 A Not So Trivial DES Example .................................................. 537
C.3 Discussion ............................................................................................ 539
References .................................................................................................. 540
Bibliography ............................................................................................... 541
Problems ..................................................................................................... 541
Index ................................................................................................................ 543


Chapter 1

Introduction

Why analyze costs? Cost is an integral part of planning and managing
systems. Unlike other system properties, such as performance,
functionality, size, and environmental footprint, cost is always important,

always must be understood, and never becomes dated in the eyes of
management. As pressure increases to bring products to market faster and
to lower overall costs, the earlier an organization can understand the cost
of manufacturing and support, the better. All too often, managers lack
critical cost information with which to make informed decisions about
whether to proceed with a product, how to support a product, or even how
much to charge for a product.
Cost often represents the “golden metric” or benchmark for analyzing
and comparing products and systems. Cost, if computed comprehensively
enough, can combine multiple manufacturability, quality, availability, and
timing attributes together into a single measure that everyone
comprehends.
1.1 Cost Modeling
Cost modeling is one of the most common business activities performed
in an organization. But what is cost modeling, or maybe more importantly,
what isn’t it? The goal of cost modeling is to enable the estimation of
product or system life-cycle costs. Cost analyses generally take one of two
forms:
 Ex post facto (after the event) – Cost is often computed after
expenditures have been made. Accounting represents the use of
cost as an objective measure for recording and assessing the
1


2

Cost Analysis of Electronic Systems

financial performance of an organization and deals with what either
has been done or what is currently being done within an

organization, not what will be done in the future. The accountant’s
cost is a financial snapshot of the organization at one particular
moment in time.
 A priori (prior to) – These cost estimations are made before
manufacturing, operation and support activities take place.
Cost modeling is an a priori analysis. It is the imposition of structure,
incorporation of knowledge, and inclusion of technology in order to map
the description of a product (geometry, materials, design rules, and
architecture), conditions for its manufacture (processes, resources, etc.),
and conditions for its use (usage environment, lifetime expectation,
training and support requirements) into a forecast of the required monetary
expenditures. Note, this definition does not specify from whom the
monetary resources will be required — that is, they may be required from
the manufacturer, the customer, or a combination of both.
Engineering economics treats the analysis of the economic effects of
engineering decisions and is often identified with capital allocation
problems. Engineering economics provides a rigorous methodology for
comparing investment or disinvestment alternatives that include the time
value of money, equivalence, present and future value, rate of return,
depreciation, break-even analysis, cash flow, inflation, taxes, and so forth.
While it would be wrong to say that this book is not an engineering
economics book (it is), its focus is on the detailed cost modeling necessary
to support engineering economic analyses with the inputs required for
making investment decisions. However, while traditional engineering
economics is focused on the financial aspects of cost, cost modeling deals
with modeling the processes and activities associated with the
manufacturing and support of products and systems, i.e., determining the
actual costs that engineering economics uses within its cash flow oriented
decision making processes.
Unfortunately, it is news to many engineers that the cost of products is

not simply the sum of the costs of the bill of materials. An undergraduate
mechanical engineering student at the University of Maryland, in his final
report from a design class, stated: “The sum total cost to produce each
accessory is 0.34+0.29+0.56+0.65+0.10+0.17 = $2.11 [the bill of


Introduction

3

materials cost]. Since some estimations had to be made, $2.00 will
arbitrarily be added to the cost of [the] product to help cover costs not
accounted for. This number is arbitrary only in the sense that it was chosen
at random.” Unfortunately, analyses like this are only too prevalent in the
engineering community and traditional engineering economics texts don’t
necessarily provide the tools to remedy this problem.
Cost modeling is needed because the decisions made early in the design
process for a product or system often effectively commit a significant
portion of the future cost of a product. Figure 1.1 shows a representation
of the product manufacturing cost commitment associated with various
product development processes. Even though it is not represented in
Figure 1.1, the majority of the product’s life-cycle cost is also committed
via decisions made early in the design process.

Fig. 1.1. 80% of the manufacturing cost and performance of a product is committed in the
first 20% of the design cycle, [Ref. 1.1].

Cost modeling, like any other modeling activity, is fraught with
weaknesses. A well-known quote from George Box, “Essentially, all
models are wrong, but some are useful,” [Ref. 1.2] is appropriate for

describing cost modeling. First, cost modeling is a “garbage in, garbage
out” activity — if the input data is inaccurate, the values predicted by the
model will be inaccurate. That said, cost modeling is generally combined
with various uncertainty analysis techniques that allow inputs to be


4

Cost Analysis of Electronic Systems

expressed as ranges and distributions rather than point values (see Chapter
9). Obtaining absolute accuracy from cost models depends on having some
sort of real-world data to use for calibration. To this end, the essence of
cost modeling is summed up by the following observation from Norm
Augustine [Ref. 1.3]:
“Much cost estimation seems to use an approach descended from
the technique widely used to weigh hogs in Texas. It is alleged
that in this process, after catching the hog and tying it to one end
of a teeter-totter arrangement, everyone searches for a stone
which, when placed on the other end of the apparatus, exactly
balances the weight of the hog. When such a stone is eventually
found, everyone gathers around and tries to guess the weight of
the stone. Such is the science of cost estimating.”
Nonetheless, when absolute accuracy is impossible, relatively accurate
costs models can often be very useful.1
1.2 The Product Life Cycle
Figure 1.2 provides a high-level summary of a product’s life cycle. Note
that not all the steps that appear in Figure 1.2 will be relevant for every
type of electronic product and that more detail can certainly be added.
Product life cycles for electronic systems vary widely and the treatment in

this section is intended to be only an example.

1

Relatively accurate cost models produce cost predictions that have limited (or
unknown) absolute accuracy, but the differences between model predictions can
be extremely accurate if the cost of the effects omitted from the model are a
“wash” between the cases considered — that is, when errors are systematic and
identical in magnitude between the cases considered. While an absolute prediction
of cost is necessary to support the quoting or bidding process, an accurate relative
cost can be successfully used to support making a business case for selecting one
alternative over another.


Introduction

5

Customer(s)
Requirements
Capture
Conceptual Design
(Trade-Off analysis)

Specification

Bid

Design

Verification
and Qualification

Production

Sales and Marketing

Operation and
Support

End of Life
Fig. 1.2. Example product/system life cycle.

In the process shown, a specific customer provides the requirements or
a marketing organization determines the requirements through interactions
in the marketplace with customers and competitors. Conceptual design
encompasses selection of system architecture, possibly technologies, and
potentially key parts.
Specifications are engineering’s response to requirements and results
in a bid that goes to the customer or to the marketing organization. The bid
is a cost estimation against the specifications. Design represents all the
activities necessary to perform the detailed design and prototyping of the
product. Verification and qualification activities determine if the design
fulfills the specifications and requirements. Qualification occurs at the
functional and environmental (reliability) levels, and may also include