Nirma University

Institute Of Technology
Chemical Engineering Department
Hand-outs-CEEPD
Capital Investments
Before setup, large sum of money must be supplied to purchase and install the
necessary machinery and equipment.
Manufacturing Fixed Capital investment is the capital necessary for the installed
process equipment with all auxiliaries that are needed for complete process operation.
Example: piping, instruments, insulation foundations and site preparation.
Non-manufacturing Fixed capital investment is the fixed capital required for
construction overhead and for all plant components that are not directly related to the
process operation. Examples: offices, warehouse, laboratories, transportation, etc.
Total capital investment is the sum of manufacturing and non-manufacturing fixed
capital investment.
Working Capital
It includes total amount of money invested in
Raw materials and supplies carried in stock
Finished products in stock and semi finished products in the process of being
manufactured
Accounts receivable
Cash kept on hand for monthly payment of operating expenses/ salaries, wages and
raw material purchase.
Accounts payable
Taxes payable
Ratio of working capital total investment is different for different companies. For most of the
cases its 0.1 to 0.2. Ratio is 0.5 for companies producing products of seasonal demand
because of the large inventories which must be maintained for appreciable periods of time.
Estimation of Capital Investment
Types of Capital Cost Estimates
It varies as per predesign to complete drawings and specifications
Depends upon the stage of development
Five categories represent the accuracy range and designation normally used for
design purpose:
1.1 Order-of-magnitude estimate (ratio estimate)
1.2 Study estimate (factored estimate)
1.3 Preliminary estimate (budget authorization estimate, scope estimate)
1.4 Definitive estimate (project control estimate)
1.5 Detailed estimate (contractors estimate)
COST INDEXES
A cost index is merely value for a given point in time showing the cost at that time relative
to a certain base time.
Cost indexes can be used to give a general estimate, but no index can take into account all
factors such as special technological advancements or local conditions. The common
indexed permit fairly accurate estimates if the time period involved is less than 10 years.

Common
1.
2.
3.
4.
5.

cost indexes are

Marshall and Swift Cost index
Engineering News-Record Construction Cost Index
Nelson Refinery Construction Cost Index
Chemical Engineering Plant Cost Index
Other Indexes and Analysis

COST FACTORS IN CAPITAL INVESTMENT

1. Direct cost
1.1
Purchased equipment
1.2
Purchased equipment installation
1.3
Instrumentation and controls
1.4
Piping
1.5
Electrical
1.6
Building
1.7
Yard improvement
1.8
Service facilites
1.9
Land
2. Indirect Cost
2.1
Engineering and supervision
2.2
Construction expense
2.3
Contractors fee
2.4
Contingency
Grass root plant: a complete plant erected on a new site. Investment includes all costs of
land, site development, battery limit facilities and auxiliary facilities
Six-tenths factor rule: According to this rule, if the cost of a given unit at one capacity is
known, the cost of a similar unit with X times the capacity of the first is approximately (X)0.6
times the cost of the initial unit.
Cost Estimation:
Different types of costs (manufacturing process):
1. Direct plant expenses: example cost of raw material, labor and equipments
2. Indirect expenses: example administrative salaries, product-distribution cost, costs
for interplant communications
Total investment : it includes
1. Fixed capital investment: it is for physical investment and facilities
2.
Working capital: pay salaries, raw material and product on hand, handling other
special items
Cash flow for industrial operations
It assumes steady-state situation for cash flow on the base of same time increment
Tree diagram showing cash flow for industrial operation
Source of capital can be loans, preferred stocks, common stocks, bonds and
other capital inputs
Capital sinks are repayment of borrowed capital, stock holders dividends and
other investment

This total capital is used for manufacturing fixed capital investment for project
(V), Non-manufacturing fixed-capital investment for project (Ax), working capital
investment for project (W)
Total capital investment is V+Ax+W Cash flows into the operations box as total
dollars of income (si) from all sales while actual costs for the operations, such as for
raw materials and labor as outflow cost (c0).
Gross profit is the difference between the income (si) and operating costs (c)0)
Net profit is deduction of depreciation cost form gross profit and which is
taxable.
Cumulative cash position
Assumptions:
time period chosen is the estimated life period of the project
the time value of money is neglected
straight line relationships of constant annual profit
Zero point is the time at which the plant has been completely constructed and is ready for
operation

Figure: Graph of cumulative cash position showing effects of cash flow with time for an
industrial operation neglecting time value of money
Factors affecting investment and production costs
1. Sources of Equipment:
2. Price fluctuations
3. company policies

4.
5.

operating time and rate of production

Government policies

Depreciation:
An analysis of costs and profits for any business operation requires recognition of the fact
that physical assets decrease in value with age. This decrease in value may be due to
physical deterioration, technological advances, economic changes, or other factors which
ultimately will cause retirement of the property. The reduction in value due to any of these
causes is a measure of the depreciation.
Types of Depreciation
Physical depreciation: it is the term given to the measure of the decrease in value due to
changes in the physical aspects of the property.
Depreciation due to all other causes is known as functional depreciation.
One common type of functional depreciation is obsolescene.
Other causes of functional depreciation could be
1. change in demand for the service rendered by the propery, such as a decrease
in the demand for the product involved because of saturation of the market
2. shift of population center.
3. changes in requirements of public authority
4. inadequancy or insufficient capacity for the service required
5. termination of the need for the type of service rendered
6. Abandonment of the enterprise.
Depletion:
Capacity loss due to materials actually consumed is measure as depletion.
Service Life: the period during which the use of property is economically feasible is known
as the service life of the property.
Salvage Value:
It is the net amount of money obtainable from the sale of used property over and above any
charges involved in removal and sale.
Present Value:
The present value of an asset may be defined as the value of the asset in its condition at
the time of valuation.
Book Value or Unamortized Cost
The difference between the original cost of a property, and all the depreciation charges
made to date is defined as the book value.
Market Value
The price which could be obtained for an asset if it were placed on sale in the open market
is designated as the market value.
Replacement value:
The cost necessary to replace an existing property at any given time with one at least
equally capable of rendering the same service is known as the replacemtn value.
Methods for determining depreciation

1.
2.
3.
4.
5.

Straight-Line method
Declining Balance method
sum of the year digits method
sinking fund method
accelerated cost recovery system

Each of this methods are studied in detail and numerical based on it will be solved.
METHODS FOR ESTIMATION CAPITAL INVESTMENT
The choice of any one method depends upon the amount of detailed information available
and the accuracy desired.
METHOD
METHOD
METHOD
METHOD
METHOD
METHOD
METHOD

A: Detailed-item estimate
B: Unit cost estimate
C: Percentage of delivered equipment cost
D: Lang factors for approximation of capital investment
E: Power factor applied to plant-capacity ratio
F: Investment cost per unit of capacity
G: Turnover ratio

Numerical based on above methods are solved

ESTIMATION OF TOTAL PRODUCT COST
Its calculated on one of three bases: namely daily bases, unit-of-product basis, or annual
basis. The annual cost basis is probably the best choice for estimation since
1. the effect of seasonal variations is smoothed out
2. plant on-stream time is considered
3. it permits more rapid calculation of operating costs at less than full capacity
4. it provides a convenient way of considering infrequently occurring cost
Costs involved in total product cost for typical chemical process plant
1. Manufacturing costs
1.1
Direct production costs: Raw material, operating labor, operating
supervision, power and utilities, maintenances and repair, etc
1.2
Fixed charges: depreciation, taxes, insurance, rent
1.3
Plant overhead costs: Medical, safety and protection, general plant
overhead, payroll overhead, packaging, recreation, etc
2. General expenses
2.1
Administrative expenses: Executive salaries. Wages, engineering and
legal costs, office maintenance, communication
2.2
Distribution and marketing expenses: Sales offices, salesman
expenses, shipping, advertising, technical sales servies
2.3
Research and Development
2.4
Financing
2.5
Grass earning expense
Problems based on total product cost, profit and break even points will be solved.
Optimum Design and design Strategy
An optimum design is based on the best or most favourable conditions. In almost every
case, these optimum conditions can ultimately be reduced to a consideration of costs or
profits. Thus, an optimum economic dsign could be beased on conditions giving the least
cost per unit of time or the maximum profit per unit of production. When one design
variable is changed, it is often found that some costs increase and others decrease.

General production rates in plant operation

The first step in the development of an optimum design is to determine what factor is to be
optimized.
Typical factors would be total cost per unit of production or per unit of time, profit, amount
of final product per unit of time, and percent conversion.
Procedure with one variable
Procedure with two or more variables (graphical and analytical procedure)
Numerical based on it are solved
Optimum production rates in plant operation
The production rate depends on many factors, such as the number of hours in operation per
day, per week, or per month; the load placed on the equipment; and the sales market
available
It is convenient to consider operating costs on the basis of one unit of production. Because
1.
the minimum expenses for raw materials, labor, p[ower, etc. that remain
constant and must be paid for each unit of production as long as any amount of
material is produced
2. extra expenses due to increasing the rate of production. (superproduction cost)
Optimum production rate for maximum total profit per unit of time
Optimum conditions in cyclic operations
Many processes are carried out by the use of cyclic operations which involve periodic
shutdowns for discharging, cleanout, or reactivation. The reactor can be batch, semibatch or
continuous reactor.
Analysis of cyclic operations can be carried out conveniently by using the time for one cycle
as a basis. When this is done, relationships similar to the following can be developed to
express overall factors, such as total annual cost or annual rate of production.
Numericals based on optimization will be solved.
Profitability, alternative investments and Repalcements:
The word profitability is used as the general term for the measure of the amount of profit
that can be obtained from a given situation. Profitability, therefore, is the common
denominator for all business activites.
Mathematical Methods for Profitability Evaluation
1. Rate of return on investment
2. Discounted cash flow based on full-life performance
3. Net present worth
4. Capitalized costs
5. Payout period
Each method is discussed and problems based on it are solved.
Capitalized Costs:
The capitalized-cost profitability concept is useful for comparing alternatives which exist as
possible investment choices within a single overall project. Capitalized cost related to
investment represents the amount of money that must be available initially to purchase the
equipment and simultaneously provide sufficient funds for interest accumulation to permit
perpetual replacement of the equipment.

Payout period:
Payout period or payout time is defined as the minimum length of time theoretically
necessary to recover the original capital investment in the form of cash flow to the project
based on total income minus all costs except depreciation.
Alternative investments:
The minimum investment which will give the necessary functional results and the required
rate of return should always be accepted unless there is a specific \reason for accepting an
alternative investment requiring more initial capital.
Replacements
The reasons for making replacements can be divided into two general classes, as follows:
1. An existing property must be replaced or changed in order to continue operation
and meet the required demands for service or production.
2. An existing property is capable of yielding the necessary product or service, but
more efficient equipment or property is aviable which can operate with lower
expenses.