Prof. Adnan Alamer. Chemical Engineering Dept., KFUPM. 1. CHE 425.
Engineering Economics and. Design Principles. Page 2. Prof. Adnan Alamer.
CHE 425 Engineering Economics and Design Principles
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
1
CHAPTER 8
Profitability Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
2
A Typical Cumulative Cash Flow Diagram for Evaluation of a New Project
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
3
A Typical Cumulative Cash Flow Diagram for Evaluation of a New Project (cont.) Project Life ¾ Required for evaluation of profitability of a project. ¾ Standardization of project life: • When comparing different projects.
¾ Project lives of 10, 12 and 15 years are commonly used.
Time value of money has to be considered when evaluating profitability. Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
4
Profitability Criteria for Project Evaluation 3 Bases for Evaluation of Profitability
n Time
o Cash
p Interest Rate
i Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
5
Profitability Criteria
Profitability Criteria
Non-discounted method do not take account of time-value of money. Not recommended for evaluating new, large projects
Discounted
NonDiscounted
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
6
Non-Discounted Profitability Criteria Time Criterion. Payback Period (PBP) PBP = Time required, after start-up, to recover the fixed capital investment, FCIL, for the project
The shorter the PBP, the better.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
7
Non-Discounted Profitability Criteria (cont.) Cash Criterion. Cumulative Cash Position (CCP) CCP = Worth of the project at the end of its life Cumulative Cash Ratio (CCR)
CCR > 1 implies that the project is potentially profitable. Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
8
Non-Discounted Profitability Criteria (cont.) Interest Rate Criterion. Rate of Return on Investment (ROROI)
The higher the value of ROROI, the better.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
9
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
10
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
11
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
12
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
13
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
14
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
15
Discounted Profitability Criteria Time Criterion. Criterion Discounted Payback Period (PBP) DPBP = Time required, after start-up, to recover the fixed capital investment, FCIL, required for the project with all cash-flows discounted back to time zero. The project with the shortest DPBP is the most desirable.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
16
Non-Discounted Profitability Criteria (cont.) Cash Criterion. Criterion Net Present Value (NPV) NPV = Cumulative discounted cash position at the end of the project. Present Value Ratio (PVR)
PVR > 1 implies that the project is potentially profitable. Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
17
Non-Discounted Profitability Criteria (cont.) Interest Rate Criterion. Discounted Cash Flow Rate of Return (DCFROR)
If DCFROR is higher than the internal discount rate, then the project is considered profitable . Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
18
Example 8.2 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
19
Example 8.2 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
20
Example 8.2 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
21
Example 8.2 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
22
Example 8.2 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
23
Example 8.3
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
24
Example 8.3 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
25
Example 8.3 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
26
Comparing Several Large Projects-Incremental Economic Analysis
DCFROR tells us how efficiently we are using our money. The higher the DCFROR, the more attractive the individual investment.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
27
Example 8.4
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
28
Example 8.4 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
29
Example 8.4 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
30
Example 8.4 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
31
Example 8.5
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
32
Example 8.5 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
33
Comparing Investment Alternatives
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
34
Algorithm for Incremental Investment Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
35
The Concept of Risk Option 1
Option 2
A new product is to be produced which has never been made in large scale. Pilot plant tests have been made and product sent to potential customers. The calculated rate of return is 33%.
A second plant is to be built in another region to meet increasing demand. Company has dominant market position for this product. The rate of return is to be 12%.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
36
The Concept of Risk (cont.) Items that Favor Option 1
Items that Favor Option 2
High return on the investment
Well established market
Opens new product possibilities
Well-known manufacturing costs Transportation costs will be less Matured technology
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
37
The Concept of Risk (cont.) The high rate of return of option 1 is associated with high risk.
VP’s Decision: Consider option 2 due to concern for lost market position.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
38
Evaluation of Equipment Alternatives Factors to Consider Capital Cost of the equipment. Operating cost of the equipment. Lifetime of the equipment.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
39
Equipment with the Same Expected Operating Lives When capital cost and operating cost are different but equipment lives are the same, then make choice based on NPV. The choice with the least negative NPV value will be the best choice.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
40
Example 8.6
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
41
Example 8.6 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
42
Equipment with Different Expected Operating Lives Three Methods. ¾ ¾ ¾
Capitalized Capital Cost Method Equivalent Annual Operating Cost (EAOC) Method Common Denominator Method
Effect of inflation is not considered in the above methods. All of the methods consider both the capital and operating cost in minimizing expenses, thus maximizing our profits.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
43
Capitalized Cost Method
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
44
Capitalized Cost Method
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
45
Capitalized Cost Method
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
46
Example 8.7
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
47
Example 8.7 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
48
Equivalent Annual Operating Cost (EAOC) Method
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
49
Equivalent Annual Operating Cost (EAOC) Method
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
50
Example 8.8
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
51
Common Denominator Method
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
52
Example 8.9
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
53
Example 8.9 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
54
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
55
CHE 425 Engineering Economics and Design Principles Prof. Adnan Al-Amer Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
56
Incremental Analysis for Retrofitting Facilities
Retrofitting: Improving the profitability of a process by adding a piece of equipment to an existing operating plant. Types of Decision in Retrofitting
Discrete (Yes or No)
Continuous
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
Combination of Both 57
Incremental Analysis for Retrofitting Facilities Retrofitting Procedure Identify available alternatives A1, A2… An.
Know the project cost (PC) and yearly savings (YS) generated for each alternative.
NOTE: The “do nothing” option, A1, has no capital cost and no savings. Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
58
Profitability Criteria
Profitability Criteria
For small retrofit projects, non-discounted method may be sufficient. For larger retrofit projects, discounted profitability criteria should be used.
Discounted
NonDiscounted
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
59
Non-Discounted Methods for Incremental Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
60
Example 8.10
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
61
Example 8.10 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
62
Example 8.10 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
63
Example 8.11
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
64
Example 8.11 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
65
Example 8.12
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
66
Discounted Methods for Incremental Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
67
Example 8.13
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
68
Discounted Methods for Incremental Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
69
Example 8.14
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
70
Concept of risk in evaluation of profitability is introduced.
Techniques to quantify risk are illustrated
See Table 8.1.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
71
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
72
Forecasting Uncertainty in Chemical Processes
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
73
Forecasting Uncertainty in Chemical Processes (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
74
Forecasting Uncertainty in Chemical Processes (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
75
Forecasting Uncertainty in Chemical Processes (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
76
Forecasting Uncertainty in Chemical Processes (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
77
Forecasting Uncertainty in Chemical Processes (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
78
Utilities - Refrigerated Water
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
79
Quantifying Risk Methods of Quantifying Risk
Scenario Analysis
Sensitivity Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
Monte-Carlo Method
80
Scenario Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
81
Scenario Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
82
Sensitivity Analysis
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
83
Example 8.15
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
84
Example 8.15 (cont.)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
85
Example 8.16
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
86
Example 8.16
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
87
Monte-Carlo Method (Algorithm)
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
88
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
89
For processes using new technology, additional risks will be present.
To account for the additional risk, assign higher acceptable rate of return for projects using new technology compared with those using matured technology.
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
90
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
91
Profit Margin (PM)
If PM < 0, the process will not be profitable.
A PM > 0 does not guarantee that the process will be profitable but does suggest that further investigation may be warranted. Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
92
Example 8.17
Prof. Adnan Alamer Chemical Engineering Dept., KFUPM.
93
![[pdf] Cryptography Engineering: Design Principles and ... - Google Sites](https://m.moam.info/img/260x300/pdf-cryptography-engineering-design-principles-and_64789b6d097c474b228d6243.jpg)
