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Process Engineering Economics

MVJ19CH742
Module - IV

Prepared By: Dr. Augusta Pachathu

Assistant Professor
Department of Chemical Engineering

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 Replacement
▪ The term “replacement,” refers to a special type of alternative in which facilities are currently in existence
and it may be desirable to replace these facilities with different ones
▪ The reasons for making replacements can be divided into two general classes
1. An existing property must be replaced or changed in order to continue operation and meet the required
demands for service or production
o The property is worn out and can give no further useful service.
o The property does not have sufficient capacity to meet the demand placed upon it.
o Operation of the property is no longer economically feasible because changes in design or product
requirements have caused the property to become obsolete.
2. An existing property is capable of yielding the necessary product or service, but more efficient
equipment or property is available which can operate with lower expenses

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 Methods of Profitability Evaluation for Replacements
✓ Net-present-worth and discounted-cashflow methods give the soundest results for maximizing
the overall future worth of a concern
✓ For the purpose of explaining the basic principles of replacement economic analyses, the simple
rate-of-return-on-investment method of analysis is just as effective as those methods involving
the time value of money.
Book value and Unamortized values
✓ The book value is based on past conditions, and the correct decision as to the desirability of
making a replacement must be based on present conditions.
✓ The difference between the book value and the net realizable value at any time is commonly
designated as the unamortized value

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 Investment on which Replacement
✓ The advisability of making a replacement is usually determined by the rate of return which can
be realized from the necessary investment.
✓ The difference between the total cost of the replacement property and the net realizable value
of the misting property equals the necessary investment
✓ In replacement studies, the net realizable value of an existing property should be assumed to be
the market value
Analysis of Common Errors
✓ Made in Replacement Studies Most of the errors in replacement studies are caused by failure
to realize that a replacement analysis must be based on conditions existing at the present time

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 INCLUDING UNAMORTIZED VALUE AS AN ADDITION TO THE REPLACEMENT

INVESTMENT.

✓ This is the most common errors

✓ It increases the apparent cost for the replacement and tends to prevent replacements which are really

economical.

USE OF BOOK VALUE FOR OLD EQUIPMENT IN REPLACEMENT STUDIES

✓ This error is caused by refusal to admit that the depreciation accounting methods used in the past

were wrong

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 FACTORS IN ALTERNATIVE INVESTMENT AND REPLACEMENT STUDIES
✓ A greater investment might be better on a theoretical basis, the additional return would not be worth
the extra risks involved when capital must be borrowed or obtained from some other outside source
✓ second practical factor is the theoretically sound investment might not be accepted because the
service life used in determining depreciation costs appear to be too long
✓ All risk factors should be given careful consideration before making any investment, and the risk
factors should receive particular attention before accepting an investment greater than that
absolutely necessary
✓ In depression periods or in times when economic conditions are very uncertain, it may be advisable
to refrain from investing any more capital than is absolutely necessary
✓ advertising benefits would probably receive no consideration in a theoretical economic analysis, but
they certainly would influence management’s final decision in choosing the best investment
✓ The final decision depends on these theoretical results plus practical factors determined by the
existing circumstances.
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 Optimum Economic
• optimum economic design could be based on conditions giving the least cost per unit of time or the maximum
profit per unit of production
• This is the basis of an optimum economic design or economic balance.
Example of an optimum economic design is determining the pipe diameter to use when pumping a given amount of
fluid from one point to another
✓ The chemical engineer often selects a final design on the basis of conditions giving the least total cost.
✓ In many cases, however, alternative designs do not give final products or results that are exactly equivalent.
✓ It then becomes necessary to consider the quality of the product or the operation as well as the total cost.
✓ When the engineer speaks of economic balance, it ordinarily means the cheapest one selected from a
number of equivalent designs

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 • The goal is to attain the ―best situation by applying simple optimum seeking techniques.
• The major challenge is to recognize the existence of an economic balance problem and then to formulate the
problem for a solution.
• An economic balance then is a study of all costs, expenses, revenues, and savings that pertain to an operation or
equipment size.
The essential elements of economic balance are
a) Fixed and variable operating expenses
b) An allowance for depreciation
c) A term for an acceptable return on an investment.

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 General Procedure for Finding Optimum Conditions:
• The first step is to determine what variable is to be optimized, and then it is necessary to determine what
relationships affect the variable.
• Equipment designed to provide a specific duty or service should be sized so that the total annual expense, that
is, the sum of the annual fixed and variable expenses, is a minimum.
• This ideal must be consistent with operating limitations and provide some flexibility.

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