X.

ECONOMICS OF POWER PLANT

LEARNING OUTCOME
1. Identify and define the different terms used in economic study of power plants.
2. Explain the cost analysis of thermal and internal combustion engine power
plants.
3. Explain the cost analysis of hydro-electric power plant.
4. Explain and solve problems on the depreciation of power plants and the
equipment involved.

A. General Definitions
1. Load Factor: It is defined as the ratio of the average load to the peak load
during a certain prescribed period of time. The load factor of a power plant
should be high so that the total capacity of the plant is utilized for the
maximum period that will result in lower cost of the electricity being
generated. It is always less than unity.

2. Utility Factor: It is the ratio of the units of electricity generated per year to
the capacity of the plant installed in the station. It can also be defined as the
ratio of maximum demand of a plant to the rated capacity of the plant.
Supposing the rated capacity of a plant is 200 MW. The maximum load on the
plant is 100 MW at load factor of 80 per cent, then the utility will be

100 x 0.8
Utility Factor = x 100 = 40%
200

3. Plant Operating Factor: It is the ratio of the duration during which the plant
is in actual service, to the total duration of the period of time considered.

4. Capacity Factor: It is the ratio of the average load on a machine or equipment

to the rating of the machine or equipment, for a certain period of time
considered.

5. Demand Factor: The actual maximum demand of a consumer to always less

than his connected load since all the appliances in his resident will not be in
operation at the same time or to their fullest extent. This ratio of the
maximum demand of a system to its connected load is termed as demand
factor. It is always less than unity.

6. Diversity Factor: Supposing there is a group of consumers. It is known from

experience that the maximum demands of the individual consumers will not
occur at one time. The ratio of the sum of the individual maximum demands
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 to the maximum demand of the total group is known as diversity factor. It is
always greater than unity.

7. Load Curve: It is a curve showing the variation of power with time. It shows
the value of a specific load for each unit of the period covered. The unit of
time considered may be hour, days weeks, months or years.

8. Load Duration Curve: It is the curve for a plant showing the total time within
a specified period, during which the load equaled or exceeded the values
shown.

9. Dump Power: This term is used in hydro-plants and it shows the power in
excess of the load requirements and it is made available by surplus water.

10. Firm Power: It is the power which should always be available even under
emergency conditions.

11. Prime Power: It is power, may be mechanical, hydraulic or thermal that is

always available for conversion into electric power.

12. Cold Reserve: It is that reserve generating capacity which is not in operation
but can be made available for service.

13. Hot Reserve: It is that reserve generating capacity which is in operation but
not in service.

14. Spinning Reserve: It is that reserve generating capacity which is connected to

the bus and is ready to take the load.

B. COST ANALYSIS
The following cost analysis refers to the thermal stations. The cost analysis for
hydro-plants will be taken in the next article.
The annual cost of supplying electric energy from a thermal station is split
into the following items:
1. Fixed cost.
2. Operating or running cost.
3. Profit on the investment.

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 1. Fixed Cost

The fixed cost depends upon the capital outlay or the total investment of the
plant. The total investment includes:
a) cost of land,
b) cost of buildings and equipment,
c) cost of installation,
d) engineering fees,
e) cost of erection of the transmission lines and sub-stations.

The annual fixed cost consists of the following:

a) Interest on the total investment,
b) Taxes and insurance and
c) Annual contribution to the fund to payoff the capital expended after the
useful life of the plant.
This item remains fixed throughout the year or throughout the useful life of the
plant. It varies directly with the installed capacity of the plant and it does not
depend upon the factor whether the plant supplies any electric power.

Cost of the land and building will depend upon the location of the plant. If the
plant is situated near the cities, the land will be costlier than the case if it is
located away from the cities or the residential areas. But it is always better and
economical to locate the plant near the load center to reduce the transmission
and distribution charges.

The cost of the equipment is carried over in the books from year to year and
there are two methods to do so:
a) Original cost - the cost of the equipment is established at the time of its
erection and installation. This cost remains in the books as long as the
equipment is in operation with suitable allowances for the depreciation of
the equipment.
b) Replacement cost - the cost of the equipment is estimated periodically and
the cost will depend upon the price level at the time of the cost estimation.
This is a very costly procedure.

Interest is included to represent the income which would have been derived from
the investment if it would have used otherwise or loaned in the market.

To avoid accidents from fire and explosions, the equipment and the buildings must
be insured and regularly inspected.

Depreciation is the most important item in the fixed costs. It represents the
decrease in the value of the property due to:
a) Continuous wear and tear - can be reduced by proper maintenance of the
equipment and the buildings and
b) Obsolescence – it is quite unpredictable.

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To account for the depreciation, a certain fixed amount of money is set aside every
year so that the total amount accumulated at the end of the useful life of the
equipment is the original cost of the equipment less the expected salvage value.
There are two methods to accumulate the amount:
a) Straight line method - the same fixed amount is set aside every year
throughout the useful life of the equipment. The interest earned on this
amount is not added to the depreciation reserve but is considered as the
income of the firm or the company.
b) Sinking fund method - the interest earned is compounded periodically and it
forms a part of the depreciation reserve. The total amount accumulated by
this method is the sinking fund plus the interest earned and the sum should
be equal to the original cost of the equipment minus the salvage value.

2. Operating or Running Cost

These costs are based on the energy output as measured in kW-hr and these are
directly proportional to the station load. These include:
a) Cost of fuel including its handling and ash handling in the case of steam
plant.
b) Cost of labor i.e. the salaries and wages.
c) Cost of water for:
i. Boiler feed, condensers, cooling and house service for steam power
plants.
ii. Jacket cooling water, and water to be used in cooling towers, for
internal combustion engine power plants.
iii. Intercoolers and gas coolers in gas turbine.
d) Repairs and maintenance.
e) Oil, waste, stores and other supplies.
f) Transmission and distribution costs.
g) Customer's expenses.

In the case of steam power plant, the cost of the coal is made up of two parts:
a) Small fixed component - is that which is needed to keep the station in
readiness to meet the demand for power and it is independent of whether
any energy is sent out or not.
b) Large running component - is the cost of coal equivalent of the heat
converted into electric power plus the heat rejected in the condensers. It is
directly proportional to the energy sent out in kW-hr. The amount of the fuel
required per kW-hr can be determined by dividing the heat rate by the
heating value of the coal. The total amount of coal and its cost will depend
upon the plant capacity, its efficiency, load factors, transportation charges
and the cost of storage etc.

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 Labor is needed both for the operation and the maintenance of the plant and its
requirement is proportional to the capacity of the plant and the quality of the
labor employed. Skilled labor will cost more than unskilled labor but the plant
will operate more economically and the maintenance charges will be reduced.
The consumer's expenses include the cost of meter reading, billing, collecting
of revenue, Promotion of electrical appliances etc.

3. Profit on Investment
If the power plant is a public property, then the customers will be the
taxpayers to share the burden of the government. For this purpose, there is
an item in the rates to cover taxes in place of the investor's profit. These
taxes will be paid by the consumers in the form of electric consumption bills.
This amount is collected in twelve instalments per year or six instalments per
year.

C. COST OF HYDRO-PLANTS
The cost analysis of a hydro-plant is different from those of the other plants in
this respect that the fixed cost is the major item of the total cost and the
operating cost is relatively much smaller whereas in the steam and other plants,
the operating cost is a large part of the total cost.
The total annual costs of a hydro-electric scheme can be broken into two
components as usual:
1. Fixed Costs - It is a general practice to include the rates, taxes and the
insurance in the fixed charges. These are about 60% to 70% of the total cost
of power and these do not depend upon the station output.
(a) Interest on the capital.
(b) Amortization of the capital.
2. Running Costs - The running charges depend upon the station output but
not so much as in the thermal power plant.
(a) Operating costs including salaries and wages.
(b) Maintenance and repairs.
(c) Rates and taxes.
(d) Stores, oil and other supplies.
The total capital outlay or the investment on a hydro-plant includes the following
items:
1. Preliminary surveys and investigations of the topography and geology of
the proposed plant site.
2. Purchase of water rights and the land needed to provide for sufficient
storage or pondage.
3. Compensation to the displaced inhabitants.
4. Costs of preparation of detailed designs and specifications.
5. Costs of testing the materials of construction.

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 6. Costs of carrying out experimental work and model tests on designs for
hydraulic structures•
7. The actual costs of construction and the purchase and installation of the
equipment.
8. Interest on the capital during construction.
9. Working capital during the period of load development.
10. Construction of new roads, railways, residential houses and even
villages.

The total cost of construction of a hydro-plant is invariably higher than that of a

thermal plant of equal capacity. Therefore, the annual charges for interest and
depreciation are comparatively high. The cost per kW for a hydro-plant is higher,
the smaller the quantity of water stored.

A typical cost analysis of a hydro-plant is:

Reservoir, dam and water ways : 55%

Power plant and equipment : 20%
Land : 15%
Structures : 10%

Another important item is called the transmission liability which refers to the
transmission charges for conveying electricity from the of plant site to the load
center. The figure shown below is a typical subdivision of the various items forming
the capital cost for the various plants. The areas of the circles represent the
comparative unit costs.
1. Turbo-generators and condensers 6. Piping
2. Land building and foundation 7. Fuel handling
3. Miscellaneous 8. Turbine and generator
4. Switch Yard 9. Cooling, fuel system and other auxiliaries
5. Switching and wiring

Break up of capital cost

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D. DEPRECIATION

Depreciation is the decrease in the value of physical property due to the passage
of time.

Value, in a commercial sense, is the present worth of all future amounts that
are to be received through ownership of a particular property.
The market value of a property is the amount which a willing buyer will pay to
a willing seller for the property where each has equal advantage and is under no
compulsion to buy or sell. The utility or use value of a property is what the
property is worth to the owner as an operating unit.
Fair value is the value which is usually determined by a disinterested third party
in order to establish a price that is fair to both seller and buyer.
Book value, sometimes called depreciated book value, is the worth of a property
as shown on the accounting records of an enterprise.
Salvage or resale value is the price that can be obtained from the sale of the
property as second hand.
Scrap value is the amount the property would sell for if disposed off as junk.

Purposes of Depreciation

1. To provide for the recovery of capital which has been invested in physical
property.
2. To enable the cost of depreciation to be charged to the cost of producing
products or services that result from the use of the property.

Types Of Depreciation

1. Normal depreciation
(a) physical
(b) functional
2. Depreciation due to changes in price levels
3. Depletion

Physical depreciation is due to the lessening of the physical ability of a property to

produce results. Its common causes are wear and deterioration.
Functional depreciation is due to the lessening in the demand for the function which
the property was designed to render. Its common causes are inadequacy, changes
in styles, population centers shift, saturation of markets or more efficient machines
are produced.

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Depreciation due to changes in price levels is almost impossible to predict and
therefore is not considered in economy studies.
Depletion refers to the decrease in the value of a property due to the gradual
extraction of its contents.

Physical And Economic Life

Physical life of a property is the length of time during which it is capable of

performing the function for which it was designed and manufactured.
Economic life is the length of time during which the property may be operated at
a profit.

Requirements Of A Depreciation Method

1. It should be simple.
2. should recover capital.
3. The book value will not be greater than actual value at any time.
4. The method should be accepted by the Bureau of Internal Revenue.

Depreciation Methods

The following symbols shall be used for the different depreciation methods.

L = useful life of the property in years

Co = the original cost
CL = the value at the end of the life, the scrap value
(including gain or loss due to removal)
d = the annual cost of depreciation
Cn = the book value at the end of n years
Dn = depreciation up to age n years

(1) The Straight Line Method

This method assumes that the loss in value is directly proportional to the age of
the property.

CO – CL
d =
L

n(CO – CL)
Dn =
L

n(CO – CL)
C n = CO – D n = C O –
L

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(2) The Sinking Fund Method
In this method a fixed amount is set aside and put into the reserve fund each year,
but the interest earned on this amount will not be considered as company's earnings
but it will also be put into the reserve fund. The total amount collected in the
sinking fund plus the interest earned throughout the life of the equipment should
be equal to the original value of the equipment minus its salvage value. In this
method, the annual amount to be set aside will be less than that calculated by
straight line method.

d = CO – C L
L
(1+i)– 1
i

n
Dn = d ( 1 + i ) – 1
Cn = CO – D n i

Examples:

1. If the expected life of an equipment is 15 years and the interest earned on

the capital invested is 5 per cent, find the depreciation rate.

Given: n = 15 years
i = 5%

Solution:

i 0.05
Depreciation rate = n = 15
(1+i)– 1 ( 1 + 0.05 ) – 1

Depreciation rate = 0.0463

2. The original value of an equipment is PhP 250,000.00 and its salvage value at the
end of its useful life of 20 years is PhP 25,000.00. Find the value of the equipment
at the end of 10 years of its use by the following methods:
(a) Straight line depreciation.
(b) Sinking fund depreciation, when it is compounded annually at 8%.

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Given: Original Cost, CO = PhP 250,000.00
Salvage Value, CL = PhP 25,000.00
Useful Life, L = 20 years
n = 10 years

Required: Value of equipment after 10 years, Cn

Solution:

a) Using straight line method:

Depreciation after 10 years, Dn

(CO – CL) (250,000 – 25,000)

d = =
L 20
d = PhP 11,250.00/year
Dn = n x d = 10 x 11,250.00

Dn = PhP 112,500.00

Cn = CO – Dn = 250,000 – 112,500

Cn = PhP 137,500.00

b) Using sinking fund method

CO – CL 250,000 – 25,000
d = =
L 20
(1+i)– 1 ( 1 + 0.08 ) – 1
i 0.08

d = PhP 4,916.747/year

n 10
Dn = d (1+i)– 1 ( 1 + 0.08 ) – 1
= 4,916.747
i 0.08

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 Dn = PhP 71,226.763

Cn = CO – Dn = 250,000 – 71,226.763

Cn = PhP 178,773.238

The sinking fund method is recommended to be used since the cost of the equipment
after 10 years is greater compared to straight line method.

Exercise:
A power plant company imported a new boiler to back up its existing one, paying
PhP 2,500,000.00 to the manufacturer. Freight and insurance charges amounted
to PhP 180,000.00; custom’s, broker’s and other services, PhP 85,000.00; taxes,
permits and other initial expenses, PhP 250,000.00. If the company estimates the
life of the boiler to be 20 years with a salvage value of PhP 150,000.00, determine
the book value at the end of 8 years, using (a) straight line method and (b) sinking
fund method at 8%

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