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Chapter 4.11 - Performing Financial Analysis

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bee_energy
Jawaharlal Nehru Technological University (JNTUH), Hyderabad

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11 PERFORMING FINANCIAL ANALYSIS 11.1 Introduction When planning an energy efficiency or energy management project, the costs involved should always be considered. Therefore, as with any other type of investment, energy management proposals should show the likely return on any capital that is invested. Consider the case of an energy auditor who advises the senior management of an organisation that capital should be invested in new boiler plant. Inevitably, the management of the organisation would ask: How much will the proposal cost? How much money will be saved by the proposal? These are, of course, not unreasonable questions, since within any organisation there are many worthy causes, each of which requires funding and it is the job of senior management to invest in capital where it is going to obtain the greatest return. In order to make a decision about any course of action, management needs to be able to appraise all the costs involved in a project and determine the potential returns. This however, is not quite as simple as it might first appear. The capital value of plant or equipment usually decreases with time and it often requires more maintenance as it gets older. If money is borrowed from a bank to finance a project, then interest will have to be paid on the loan. Inflation too will influence the value of any future energy savings that might be achieved. It is therefore important that the cost appraisal process allows for all these factors, with the aim of determining which investments should be undertaken, and of optimising the benefits achieved. To this end a number of accounting and financial appraisal techniques have been developed which help energy managers and auditors make correct and objective decisions. The financial issues associated with capital investment in energy saving projects are investigated in this chapter. In particular, the discounted cash flow techniques of net present value and internal rate of return are discussed in detail. 11.2 Fixed and Variable Costs When appraising the potential costs involved in a project it is important to understand the difference between fixed and variable costs. Variable costs are those which vary directly with the output of a particular plant or production process, such as fuel costs. Fixed costs are those costs, which are not dependent on plant or process output, such as site-rent and insurance. The total cost of any project is therefore the sum of the fixed and variable costs. Example 1 illustrates how both fixed and variable costs combine to make the total operating cost. Example 1 The capital cost of the DG set is Rs.9,00,000, the annual output is 219 MWh, and the maintenance cost is Rs.30,000 per annum. The cost of producing each unit of electricity is 3.50 Rs./kWh. The total cost of a diesel generator operating over a 5-year period, taking into consideration both fixed and variable cost is: Bureau of Energy Efficiency 132

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