1. Economics and Profitability

2. Basic Steps in the Feasibility Evaluation of a Process Design
Develop the conceptual design and flowsheet for the process.
Calculate the capital investment needed to build the plant.
Calculate the operational investment needed to run the plant.
Perform an economic analysis and calculate the break even point and internal return on investment
Compare the investment with other investment options

3. Economic Analysis Concepts
Terminology
Present Worth (P), Future Worth (F), Annuity (A)
Annual or Nominal Interest Rate (i), Number of Years (n)
Interest on Capital
Simple Interest
Compound Interest
Cash Flow Diagrams
Discrete
Cumulative
Capital Depreciation & Taxes

4. Simple Interest
Only the principal amount earns revenue

5. Compound Interest
The principal and the interest earned both generate revenue. (i=annual or nominal interest rate n=# years)
Compounded Annually
Compounded Quarterly
Compounded Monthly

6. Discrete Cash Flow Diagram
Inward flow of cash
(+ cash flow)
years 1 2 3 4 5
Outward flow of cash
(- cash flow)

7. Cumulative Cash Flow Diagram
Net inward / positive flow of cash
years 1 2 3 4 5
Net outward / negative flow of cash

8. Time Value of Money
Cash inflow today is better than inflow of the same amount of cash next year.
When cash flow occurs at different times, each time the cash must be brought forward or backwards to the same point in time and then compared.
Any point in time can be used for comparison

9. Example (Find x for a cumulative cash value of 0 at the end of year 7)
Rate of interest is 8% compounded annually
Bring forward all the cash flow to the end of the 7th year:
1.2 K
1.5 K
1 K 5 7 1 2 3
2 K
X = ?

10. Example (Find x for a cumulative cash value of 0 at the end of year 7)
Rate of interest is 8% compounded annually
Bring back all the cash flow to the end of the 1th year:
1.5 K
1.2 K
1 K 5 7 1 2 3
2 K
X = ?

11. Annuities are a Uniform Series of Cash Transactions
An annuity is a fixed payment or revenue at the end of a year for n consecutive years
The future and present worth of an annuity is:
Discount Factor (F/A,i,n)
Converts A to F
Discount Factor (P/A,i,n)
Converts A to P

12. Commonly Used Discount Factors

13. Depreciation of Capital
Fixed Capital = all the costs associated with the plant construction. (This can be fully depreciated excluding the land purchase)
Working Capital = amount of capital required to start up plant. (This is can not be depreciated)
Rule of Thumb Working Capital ~ 15 – 20 % of Fixed Capital
Various methods of depreciation are available
Total Capital Investment = Fixed Capital + Working Capital

14. Definitions
Fixed capital investment FCIL =Cost to build the plant - Cost of land (ie depreciable part of the investment)
Salvage value S = The value of the plant at the end of the plant life; Salvage value for equipment is typically zero
Equipment Life n = A number specified for accounting which doesn’t necessarily reflect the real life
Total capital for depreciation D = FCIL – S
Yearly depreciation dk=amount deducted in the kth year
Book Value is the amount of depreciable capital that has not been depreciated

15. Depreciation Methods
Straight Line (SL)
Uniform depreciation !

16. Depreciation Methods Double Declining Balance (DDB)
Decreasing deprecation !
Largest amount depreciated in first year

17. Usual Depreciation Method Depreciates Capital ASAP
Modified Accelerated Cost Recovery System (MACRS)
Uses a half year convention
Most chemical plant equipment has a depreciation life of 9.5 years
Can use SD or DDB over 9.5 years (SD OK for projects)
Can use also use MACRS (Uses DDB initially and then switches to SD for optimal depreciation)
In general best to depreciate ASAP

18. Taxation, Cash Flow, Profit

19. A Typical Cash Flow Diagram for a New Project
Land
FCIL
Working
Capital (WC)
Depreciation
Allowance Ceases
Project
Completed
Project Life (for economic comparisons)
Land +
Working Capital
+Salvage

20. Evaluation of Profitability
Time value of money needs to taken into account
(i.e. Discounted Cash Flow)
Discounted PayBack Period (DPBP) = Time required after start up to recover Fixed Capital Investment, (FCIL) for the project with all cash flows discounted to time zero.
Alternative definitions use Total Capital Investment (TCI = FCIL + WC + Land) for DPBP.
Break Even Point = Time required for cumulative cash flow to equal zero. (Break Even = DPBP for use of Total Capital Investment)
We will use the Break Even Point in our economic and profitability analysis

21. Discounted Interest Rate Criterion
Discounted cash flow rate of return (DCFROR) = Rate of interest at which all the cash flows much be discounted in order for the net present value (future worth at the end of the project ) be equal to zero.
We will use this in our economic and profitability analysis as Internal Return on Investment! (IRR) or Return on Investment (ROI)

22. Reasonable Assumptions for Projects
Interest Rate = 6%
Plant Life = 10 years
Tax Rate = 25%
Working Capital = 15% of FCI
Salvage = 0
Construction Period = 2 years
Straight Line Depreciation
Required Internal Rate of Return = 20%
Note: You can make your own assumptions for your projects