Profiting from Cleaner Production: Day 1

1
Profiting fromCleaner ProductionDay 1

• For UNEP
• Division of Technology, Industry, and Economics

Prepared by Tellus Institute Boston, MA USA
2
Introduction
3
Course Background

• 15 min

4
Development of the training materials

• Content has been developed by
• Tellus Institute
• The Illinois EPA
• The Philippine Institute of CPAs
• The Asian Institute of Management
• UNEP CP financing National Project Coordinators
  in Zimbabwe and Guatemala
• UNEP Cleaner Production financing project team

5
UNEP Financing Cleaner Production Support

• United Nations Environment Programme (UNEP)
  Division of Technology, Industry and Economics
  (DTIE)
• Course support is from the project
• Strategies and Mechanisms For Promoting Cleaner
  Production Investments In Developing Countries
• Funding provided by the Government of Norway

6
Words of welcome
Introduction of Instructors

• 15 min

7
Participant Introductions

• 30 min

8
Who is here today?
Participant introductions

• What type of organization do you work for?
• e.g., industry, government, other
• if from industry, which sector and what size
• What are your job responsibilities and areas of
  expertise?
• e.g., management, accounting, finance,
  engineering, production, environmental
• What is your investment perspective?
• e.g., developer of investment proposals, one who
  funds investment proposals

9
Why are you here?

• What work issues or concerns motivated you to
  come?
• What are your learning goals for this course?
• What are your expectations of this course?

10
Course Overview

• 15 min

11
Focus of this course

• Cleaner Production
• Cost Identification Estimation
• Project Profitability Assessment

Also to incorporate your experiences, questions,
and goals into the presentation, exercises, and
discussions Case studies of Cleaner Production
at real facilities will be used
12
Cleaner Production

• The cost of waste
• Profiting from Cleaner Production
• Small group exercise on classifying environmental
  management options
• CP implementation steps
• Where to go for more information
• CP planning at your organization

13
Cost identification and estimation

• Small group exercise on cost identification
• Problematic accounting practices
• Potential sources of cost data
• Small group exercise on cost estimation
• Tools for data estimation
• Cost identification and estimation at your
  organization

14
Project profitability assessment

• Capital budgeting (of environmental projects)
• Project cash flows and simple payback
• The Time Value of Money (TVM) and Net Present
  Value (NPV)
• Two small group exercises
• Capital budgeting with inflation and tax
• Sensitivity analysis
• Key profitability indicators

15
Conclusion

• Where to go for more information
• Brief review of what we learned
• Final questions and comments
• Course evaluation

16
Time for a break! 15 min
17
Cleaner Production
18
The Cost of Waste

• 15 min

19
What is waste?

• Some proactive companies view waste as any
  material or energy that leaves a process or
  facility in any form other than product
• A slightly less strict definition might be any
  material or energy that leaves a process or
  facility without first being used as efficiently
  as possible
• Definitions vary but all companies generate
  waste!

20
Flow of materials energy
Air Emissions
Materials, Energy, Water, Labour, Capital
Products, By-Products
Solid Waste, Waste Energy , Wastewater
21
Different types of waste

• There are many words for different types of waste

• greenhouse loss
• hidden losses
• leakage
• non-conforming material
• overfill
• packaging
• process loss
• rework
• second quality
• stock loss
• washings

• allowance
• BOD
• broke
• contaminated solids
• core loss
• customer returns
• damage
• drainings
• dust
• effluent
• evaporation
• furnace loss

Adapted from The Kaunas Institute of Technology,
Kaunas, Lithuania
22
The true cost of wasteis often underestimated

• For every 1 of waste cost that companies
  actually measure, another 2-3 of cost are
  hidden in the accounting records, or are not on
  the books at all
• Companies typically underestimate how much waste
  really costs them, sometimes by several orders of
  magnitude
• This applies even to big, well-managed companies

23
The cost of waste inkat the Southwire Company

• The average disposal cost of a drum of hazardous
  waste ink was estimated as 50
• Upon closer inspection, the true cost was
  discovered to be 1300 per drum
• 819 lost raw materials (ink, thinner)
• 369 corporate waste management activities
• 50 disposal
• 47 internal waste handling activities
• 16 hazardous waste tax

24
The Cost Iceberg
The true cost of waste can be like an iceberg,
with only a small part visible
THE HIDDEN COST OF WASTE
Adapted from Bierma, TJ., F.L. Waterstaraat, and
J. Ostrosky. 1998. Chapter 13 Shared Savings
and Environmental Management Accounting, from
The Green Bottom Line. Greenleaf
PublishingEngland.
25
So how do we meltthe cost iceberg?...throughCl
eaner Production!Stay tuned...
26
Profiting from Cleaner Production

• 30 min

27
Passive environmental strategies

• Dilute disperse

28
Reactive environmental strategies
end-of-pipe approaches
29
Proactive environmental strategiesCleaner
Production

• Prevention of waste generation
• Good housekeeping
• Input substitution
• Better process control
• Equipment modification
• Technology change
• On-site recovery/reuse
• Production of a useful by-product
• Product modification

30
Cleaner Production definition
The continuous application of an integrated
preventive environmental strategy applied to
processes, products, and services to increase
overall efficiency and reduce risks to humans and
the environment. (UNITED NATIONS ENVIRONMENT
PROGRAMME)
31
Properly implemented CP

• always
• reduces long-term liabilities which companies can
  face many years after pollution has been
  generated or disposed at a given site

32
Properly implemented CP

• usually
• increases profitability
• lowers production costs
• enhances productivity
• provides a rapid return on any capital or
  operating investments required
• increases product yield
• leads to the more efficient use of energy and raw
  materials

33
Properly implemented CP

• often
• avoids regulatory compliance costs
• leads to insurance savings
• provides enhanced access to capital from
  financial institutions and lenders
• is fast and easy to implement
• requires little capital investment

34
CP versus End-of-Pipe approach

• CLEANER PRODUCTION
• Continuous improvement
• towards use of closed loop or continuous cycle
  processes
• Partnerships are essential everyone has a role
  to play in the community
• Elimination of environmental problems at source
• Involves new practices, attitudes and management
  techniques and stimulates technical advances

• POLLUTION CONTROL and WASTE MANAGEMENT
• One-off solutions to single problems
• Processes result in waste materials for disposal
  Solutions are often developed by experts in
  isolation
• Reactive responses to pollution and waste after
  they are generated (e.g. via waste treatment
  equipment and methods)
• Relies mainly on technical improvements to
  existing technologies

35
What is not CP?

• Off-site recycling
• Transferring hazardous wastes
• Waste treatment
• Concentrating hazardous or toxic constituents to
  reduce volume
• Diluting constituents to reduce hazard or
  toxicity

36
What are the benefits of Cleaner Production?

• Improving environmental situation

Continuous environmental improvement
Increasing economical benefits
Gaining competitive advantage
Increasing productivity
37
CP motivators and drivers

• INTERNAL to the COMPANY

- Improvements in productivity and
competitiveness - Environmental management
systems and continuous improvement -
Environmental leadership - Corporate
environmental reports and Environmental
accounting
38
CP motivators and drivers

• EXTERNAL to the COMPANY

- Innovative regulation - Economic
incentives - Education and training - Buyer
supplier relations
- Soft loans from Financial institutions - Commu
nity involvement - International trade
incentives
39
Team for CP success

• Managers, engineers and finance people in
  industry and commerce, in particular those
  responsible for business strategy, product
  development, plant operations and finance
• Government officials, both central and regional,
  who play an important role in promoting CP
• Media representatives who play an important role
  in disseminating information on good
  environmental practice

40
Small Group ExerciseClassifying Environmental
Management Options

• 30 min

41
Exercise instructions

• Introduction (5 min.)
• Read and evaluate the two company cases detailed
  in your handout (10 min.)
• Discuss your answers with the other small groups
  and the instructor (10 min.)
• Lessons learned (5 min.)

Refers to the handout CP3Exercises throughout
the course
42
Preview Cleaner Production at a case study
facility called PLS 5 minutes

• A medium-sized company selling printed food
  packaging materials (such as potato-chip bags)
• They print product labels directly onto the film
  material, and then the customers make the final
  package

43
Cleaner Production at the PLS Company

• PLS implemented two CP projects to reduce wasted
  solid scrap during print runs
• A quality control (QC) camera project to reduce
  waste from errors when printing
• An on-site scrap recycling project to reduce
  waste from start-up runs

44
CP projects profitabilityat the PLS Company

• The two CP projects in combination reduced solid
  scrap by about 45
• Total initial investment
• US 105,000
• The resulting annual savings
• US 96,900
• More details to come later...

45
Time for lunch! 60 min
46
CP Implementation Steps

• 30 min

47
Planning for Cleaner Production Six steps to
savings
Step 3
Step 1
Step 5
Identify and evaluate CP alternatives
Implement projects
Get organized
Step 2
Step 4
Step 6
Analyze processes
Secure project financing
Measure progress
Adapted from A Guide to Pollution Prevention for
New Hampshire Businesses. January 1999. N.H
Department of Environmental Services.
48
Step 1 Get organized

• Get management support for Cleaner Production
• Form a planning team
• Seek input from personnel at all levels

49
Step 2 Analyze processes

• Take a close look at each production step
• Map flows of materials, energy, waste, activities
• Determine the true cost of waste generation
• Prioritise losses and target your CP efforts

50
Step 3 Identify evaluate CP options

• Get at the root cause of the problem
• Be creative
• Generate lots of ideas
• Determine which alternatives are feasible
• Select best alternatives for implementation

51
Step 4 Secure project financing

• Proceed to Step 5 for projects that need minimal
  up-front investment
• Determine availability of internal investment
  funds for bigger projects
• Obtain external financing for remaining projects
• Private sector
• Government sector

52
Step 5 Implement projects

• Schedule projects
• Assign responsibilities
• Talk to workers who will be affected
• Get feedback from employees
• Schedule financing payments

53
Step 6 Measure progress

• Track waste generation, materials usage, and cost
  savings
• Take into account variation in production level
• Document your results and your cost savings
• Celebrate your successes
• Now go back to Step 2

54
Teamwork is very important!
Each person brings different, but vital,
information
55
ToolsThe Cleaner Production Team
CEO
Board
Production
Sales Marketing
Accounting Finance
Research Development
Environment, Health, Safety
Purchasing Materials Control Inventory Operations
Quality Control Shipping Maintenance Engineering
Legal
56
Where to go for more information
Click Where to go for more information on this
CD-ROM or to the second last page of any of the
UNEP/DTIE publications in the Profiting from
Cleaner Production series
57
Cleaner ProductionSummary and QA

• 15 min

58
Cleaner ProductionReview of what we have done

• The Cost of Waste
• Profiting from Cleaner Production
• Small group exercise on Classifying Environmental
  Management Options
• CP implementation steps
• Where to go for more information

59
CP Planning at your Organization 15 min

• Take this time to write down some next steps for
  CP planning at your organization
• What other quality, efficiency, or environmental
  initiatives already in place at your organization
  might fit well with CP?
• Who should be the members of your CP team?
• Would you go somewhere for external assistance?
  What kind? Where would you go?
• What might be some CP barriers at your
  organization, and how can you overcome them?

60
Time for a break! 15 min
61
Cost Identificationand Estimation
62
Introduction to Cost Identification and Estimation

• 15 minutes

63
Decision-making factors
Todays focus
Technical
Project selection
Regulatory
Financial
Organizational
64
The language of business
Costs are an important aid in translating
environmental needs to business needs. In
addition, they already serve as an official
language in the company.
project profitability
ROI
capital investment
profit centre
market share
cost allocation
overhead costs
unit price
CDO
incinerator ban
regulatory compliance
wastewater
energy efficiency
dioxin
recycling
With the cost translation, the business and
environmental manager can communicate and
cooperate more effectively.
Adapted from Pilot programme for the promotion
of environmental management in developing
countries (P3U). Environmental Cost Management.
GTZ-P3U. Bonn, Germany
65
Financial Analysis steps

• Cost identification estimation
• Project profitability evaluation

We will discuss this now
We will discuss these tomorrow
66
Cost identification estimation

• Initial investment costs
• e.g., equipment, installation, training
• Annual operating costs, savings,and revenues
• current operations, before the project
• after project implementation
• e.g., materials, energy, labour
• Need to identify, estimate and allocate all
  relevant and significant items impacted by the
  project

67
Small group exerciseCost Identification at the
PLS Company

• 75 min

68
The PLS Company

• A medium-sized manufacturer of food packaging
  materials
• Major manufacturing steps are Printing,
  Laminating, and Slitting
• Waste management includes incineration and
  wastewater treatment
• Cleaner Production has reduced volume of solid
  scrap and annual operating costs

69
Manufacturing Steps at the PLS Company
Materials flow map
plastic film, aluminium film, adhesive
solvent air emissions
solvent air emissions
INVENTORY
printed laminated film
printed film
product
SLITTING
plastic film, ink
PRINTING
LAMINATION
Solid scrap
Solid scrap
Solid scrap
Liquid waste ink
to waste management
to waste management
70
Waste Management at the PLS Company
Materials flow map
air emissions
air emissions
wwtp chemicals
Cleaner water to a nearby stream
fresh water
dirty scrubber water
fuel and fuel additive
WASTEWATER TREATMENT
INCINERATOR
liquid ink waste from printing step
solid scrap from printing, laminating, slitting
steps
sludge
ash
OFF-SITE LANDFILL
71
Exercise instructions

• Introduction (10 min.), detailed in your handout
• Review the written description and flow maps for
  the PLS Company (10 min.)
• Question 1 (15 min.)
• Question 2 (15 min.)
• Discuss your answers with the other small groups
  and the instructor (20 min.)
• Lessons learned (5 min.)

72
Three broad categoriesof costs

• The cost of manufacturing inputs
• Materials, energy, labour, capital, etc.
• The cost of waste management
• Waste handling, regulatory compliance, waste
  treatment and disposal, etc.
• Less tangible costs
• Production throughput, product quality, company
  image, liability, etc.

73
ChecklistThe Investment Decision Cost/Savings
Checklist
Refers to the checklist handout
74
The cost of wasteat the PLS Company

• The total cost of waste due to the generation of
  solid scrap during print runs was estimated to be
  US213,000 per year, including
• Cost of lost direct manufacturing inputs (e.g,
  plastic film, ink, energy, labour)
• Cost of waste management (e.g., incinerator
  operation, wastewater treatment plant operation,
  final waste disposal)

75
Problematic accounting practiceswhat might make
it difficult to estimate costs accurately(Particu
larly costs related to waste)Lets brainstorm!

• 30 min

76
Problematic accounting practices?

• Various costs at a facility might be...
• Hidden in the accounting records
• Misallocated from overhead accounts
• Classified as fixed when they are really
  variable, or semi-variable
• Not found in the accounting records at all
• (Can you think of others?)

77
Hidden costs of lost raw materials Manufacture
of plastic rear panels for automobiles (As a
percentage of input materials)
Material loss per the accounting records
Actual material loss
Adapted from Rooney, Charles. Economics of
Pollution Prevention How Waste Reduction Pays.
Pollution Prevention Review.Summer 1993.
78
Hidden Costs of lost raw materialsat the PLS
company

• The PLS accounting records show
• The amount of raw materials used
• The amount of final product shipped
• But the records do not show
• The amount of solid scrap waste generated
• The amount of any other lost raw materials

79
Direct vs. Indirect Costs (1)

• Direct Costs are costs that can be easily traced
  to a unit of product
• e.g., direct materials, direct labour
• Indirect Costs are costs that cannot be traced as
  easily to a unit of product
• e.g., facility energy use, insurance,
  maintenance, waste treatment
• A cost considered direct at one firm may be
  considered indirect at another firm

80
Direct vs. Indirect Costs (2)

• In general, direct costs within an industrial
  firm are assigned directly to the process,
  product, or project responsible for generating
  the cost
• Indirect costs are assigned to facility,
  division, or company overhead accounts
• It can be difficult to find costs hidden in
  overhead accounts

81
Environmental Management Costs hidden in an
overhead account
Product Manufacturing Cost Statement
Variable Costs Raw Materials Intermediates Additiv
es Utilities Direct Labour Packaging Wastewater
Treatment
2.27/lb. 0.87/lb. 0.41/lb. 0.96/lb.
11.32/lb. 10.31/lb. 9.14/lb. 0.04/kW-h
0.07/kW-h 27.40/hr 31.43/hr. 0.60/pkg.
0.57/pkg 0.01/gal.

• legal expenses
• environmentally driven RD
• permitting time and fees
• environmental training

Fixed Costs Supervisor Fixed Labour Depreciation D
ivisional Overhead General Services
Administration
Fixed Costs Supervisor Fixed Labour Depreciation D
ivisional Overhead General Services
Administration
4,600 57,800 1,227 13,662 1,294
Total Variable Cost Total Fixed Cost Total
Manufacturing Cost Total Cost
Source Green Ledgers Case Studies in Corporate
Environmental Accounting. World Resources
Institute. May 1995.
82
Survey of industry accountantsin the US

• Findings
• Environmental management costs such as waste
  handling, treatment, and disposal predominantly
  assigned to overhead accounts
• Even energy and water costs (manufacturing
  inputs) are usually assigned to overhead accounts

Source Environmental Capital Budgeting Survey .
Tellus Institute, for U.S. EPA, June 1995
83
Cost assignmentat the PLS Company

• The cost of direct materials, labour, and energy
  are assigned directly to the manufacturing steps
• In contrast, waste treatment and disposal costs
  are assigned to an overhead account in the Office
  of the Business Manager

84
Problematic accounting practices?

• Various costs at a facility might be...
• Hidden in the accounting records
• Misallocated from overhead accounts
• Classified as fixed when they are really
  variable, or semi-variable
• Not found in the accounting records at all
• (Can you think of others?)

85
Cost allocation

• Costs initially assigned to overhead accounts are
  usually allocated back to processes, products, or
  projects using an allocation basis such as
• Quantity of raw materials used
• Production volume
• Machine hours
• Labour hours
• Floor space

86
Cost allocationat the PLS Company

• How would you
• allocate?
• On the basis of
• of set-up runs?
• raw materials use?
• machine hours?
• amount of scrap?
• some other basis?

Allocated from overhead
Printing

• Solid scrap waste
• Treatment and disposal costs

Laminating
Slitting
87
Problematic accounting practices?

• Various costs at a facility might be...
• Hidden in the accounting records
• Misallocated from overhead accounts
• Classified as fixed when they are really
  variable, or semi-variable
• Not found in the accounting records at all
• (Can you think of others?)

88
Fixed vs. Variable Costs (1)

• Fixed Costs are costs that do not vary with
  production level or other factors
• e.g., equipment depreciation, labour
• Variable Costs are costs that do (or can) vary
  with production level or other factors
• e.g., raw materials use, energy use
• A cost considered fixed at one firm may be
  considered variable at another firm

89
Fixed vs. Variable Costs (2)

• The goal of Cleaner Production is to reduce
  variable costs
• Therefore, it is important to correctly
  distinguish between fixed and variable costs when
  identifying and estimating costs to support CP
  efforts
• If CP efforts will reduce a cost then it is
  variable!

90
Fixed vs. Variable Costsat The PLS Company

• Incinerator operating costs at PLS include
• Fuel, fuel additive
• Operating labour
• Trucking ash to landfill
• Equipment depreciation costs
• PLS views these waste treatment costs as
  essentially fixed costs do you agree?

91
It is important to remember Future fixed
costsare not fixed yet!Cleaner Production
nowcan reduce the size cost of treatment
equipment thatyou may have to purchasein the
future
92
Problematic accounting practices?

• Various costs at a facility might be...
• Hidden in the accounting records
• Misallocated from overhead accounts
• Classified as fixed when they are really
  variable, or semi-variable
• Not found in the accounting records at all
• (Can you think of others?)

93
Costs missing fromthe accounting records

• In general, two types of costs may be entirely
  missing from the accounting records
• Future costs
• Future variable costs, e.g., landfill fees
• Future fixed costs, e.g., future depreciation
  costs of new waste treatment equipment
• Less tangible costs
• e.g., lost profit from reduced production
  throughput

94
Costs missing fromthe accounting records at the
PLS Company

• Lost profit from reduced production
• Future regulatory costs (e.g., stricter
  wastewater regulations)
• Potential liability
• Negative company image
• (Can you think of others?)

95
Problematic accounting practices?

• Various costs at a facility might be...
• Hidden in the accounting records
• Misallocated from overhead accounts
• Classified as fixed when they are really
  variable, or semi-variable
• Not found in the accounting records at all
• (Can you think of others?)

96
Ease of identifying and estimating costs

Equipment purchase, direct materials, energy,
labour
In general, as you go down this list, costs are
more likely to be hidden or difficult to
quantify (but every case is different!)
LESS HIDDEN MORE HIDDEN
Waste disposal
Recycle/rework, treatment, waste handling
Regulatory compliance, other indirect costs
Less tangible costs
97
Potential Sourcesof Cost DataLets brainstorm!

• 15 min

98
Potential sources of cost data

• Internal data sources
• The accounting system
• Original data records in different departments
• Colleagues/employees
• External data sources
• Industry colleagues or trade associations
• Vendors and consultants
• Business Partners (e.g., insurance firm)
• Government (e.g., environmental agency)
• National Cleaner Production Centre

99
Review of What We have Covered Today

• 15 min

100
Cleaner Production

• The cost of waste
• Usually underestimated!
• Profiting from Cleaner Production
• Cleaner Production as waste prevention and
  on-site recycling
• Cleaner Production
• Benefits
• Implementation steps

101
Cost identification and estimation

• Cost identification
• Introduction to PLS company (will see more of PLS
  tomorrow)
• Categories of costs (manufacturing inputs, waste
  management, less tangible costs)
• Problematic accounting practices
• Sources of cost data

102
Tomorrow...

• Cost estimation tools
• Process mapping, material flows
• Project profitability assessment
• Cash flows
• Simple Payback indicator
• Time-value-of-money concept
• Net Present Value (NPV) indicator
• Other indicators
• Other profitability assessment issues

103
Final questions or comments?
104
Profiting fromCleaner ProductionDay 2

• For UNEP
• Division of Technology, Industry, and Economics

Prepared by Tellus Institute Boston, MA USA
105
Small group exerciseCost estimation at the PLS
Company

• 60 min

106
Exercise instructions

• Introduction (5 min.), detailed in your exercise
  handout
• Question 1 (20 min.)
• Question 2 (15 min.)
• Discuss your answers with the other small groups
  and the instructor (15 min.)
• Lessons learned (5 min.)

107
Tools For Data Identification and Estimation

• 30 min

108
ToolsOriginal data records

• Purchase order/invoices
• Production records
• Waste shipment records
• Equipment logs
• Engineering estimates
• Regulatory reports
• Staff interviews

Source Northeast Waste Management Officials
Association
109
ChecklistCleaner Production Data Sources
110
Tools Materials flow map
plastic film, aluminium film, adhesive
solvent air emissions
solvent air emissions
INVENTORY
printed laminated film
printed film
product
SLITTING
plastic film, ink
PRINTING
LAMINATION
Solid scrap
Solid scrap
Solid scrap
Liquid waste ink
to waste management
to waste management
111
ToolsThe Materials Balance

• Physical analogy to financial balance sheet
• Compares all material inputs and outputs
• Identifies sources of waste and data gaps
• Provides basis for cost evaluation

MANUFACTURING PROCESS
PRODUCT
INPUTS
NON-PRODUCT OUTPUT (WASTE)
112
ToolsCost Checklist

• Consider tailoring a generic checklist for
  routine use with specific industry sectors and/or
  for specific process/project types
• Determine if each item on the list is
• Not relevant
• Relevant but quantitatively insignificant
• Relevant and quantitatively significant
• Relevant but not quantifiable

113
ChecklistThe Investment Decision Cost/Savings
Checklist We used it yesterday
114
Investment decisionCosts savings

• Initial investment costs
• Annual operating costs and savings
• The cost of operating inputs
• The cost of waste management
• Less tangible costs
• Revenues

115
ToolsActivity Based Costing (ABC)

• Under ABC, costs are allocated from overhead
  accounts
• To the processes, products, or projects that
  actually generated the costs
• On the basis of activities with a direct
  relationship to cost generation
• ABC will not eliminate overhead accounts, but
  will ensure the availability of more accurate
  cost information for decision-making

116
ToolsExternal expertisefor less tangible costs

• Examples
• Insurance sector liability estimation
• Marketing firms value of company image
• Environmental agencies estimates of current and
  future regulatory compliance costs

117
Cost identification and estimationSummary of
tools (1)

• Work as a team talk to everyone
• Do a facility walk-through
• Map process steps, materials flows, employee
  activities, etc.
• Do materials and energy balances
• Use a comprehensive cost/savings checklist
• External expertise for less tangible costs

118
Cost identification and estimationSummary of
tools (2)

• Do a check on data from the accounting records
• overhead costs appropriately allocated?
• accurate characterisation of fixed vs. variable?
• Compare accounting record data to information
  from your maps, materials balances, staff
  interviews
• Go back to the original data sources
• Think creatively

119
To quantify or not to quantify?

• How do you know if a relevant cost or savings is
  quantitatively significant before you go ahead
  and quantify it?
• You dont.
• Try to do at least a rough, first-cut estimate of
  all quantifiable costs then decide whether or
  not refining the estimate is worth the effort.

120
Do a balancing act...

• Dont spend any more time than necessary
  collecting and analyzing data
• but
• Make sure you have really included all of the
  most significant costs savings in the analysis
• Make sure that you are not neglecting other CP
  alternatives for the same waste stream that might
  be even more profitable!

121
Cost Identification and EstimationSummary and
QA

• 15 min

122
Cost identification estimation

• Problematic accounting practices
• Potential sources of cost data
• Small group exercise on cost estimation
• Tools for data estimation

123
Cost identification and estimation at your
organization15 min

• Take this time to write down some next steps for
  cost identification estimation at your
  organization
• What accounting practices might you want to
  understand better?
• What other data sources might be the most
  valuable?
• What cost identification estimation tools might
  be the most useful?

124
Time for a break! 15 min
125
Project Profitability Assessment
126
Capital Budgeting(of Environmental Projects)

• 15 min

127
Capital Budgeting

• The process by which an organization
• Decides which investment projects are needed
  possible, with a special focus on projects that
  require significant up-front investment (i.e.,
  capital)
• Decides how to allocate available capital between
  different projects
• Decides if additional capital is needed

128
Capital budgeting practices

• Capital budgeting practices vary widely from
  company to company
• Larger companies tend to have more formal
  practices than smaller companies
• Larger companies tend to make more and larger
  capital investments than smaller companies
• Some industry sectors require more capital
  investment than others
• Capital budgeting practices may also vary from
  country to country

129
Typical project types goals (1)

• Maintenance
• Maintain existing equipment and operations
• Improvement
• Modify existing equipment, processes, and
  management and information systems to improve
  efficiency, reduce costs, increase capacity,
  improve product quality, etc.
• Replacement
• Replace outdated, worn-out, or damaged equipment
  or outdated/inefficient management and
  information systems

130
Typical project types goals (2)

• Expansion
• e.g., obtain and install new process lines,
  initiate new product lines
• Safety
• make worker safety improvements
• Environmental
• e.g., reduce use of toxic materials, increase
  recycling, reduce waste generation, install waste
  treatment
• Others...

131
The poor reputation of environmental
investment projects

• Many people in industry view environmental
  projects as increasingly necessary to stay in
  business, but as automatic financial losers
  because
• they associate environmental projects with
  pollution control systems such as wastewater
  treatment plants, which can be quite costly
  (end-of-pipe)
• they are unaware of the potential financial
  benefits of preventive environmental management
  practices

132
We know better!

• We have learned that some environmental projects,
  i.e., Cleaner Production (CP) projects, can go
  hand in hand with
• Production efficiency improvements
• Product quality improvements
• Production expansion
• So, do not place your project idea into a single
  narrow category think broadly about all the
  possible benefits

133
Decision-making factors
Todays focus
Technical
Project selection
Regulatory
Financial
Organizational
134
Project Cash FlowsandSimple Payback

• 15 min

135
The Cash Flow Concept

• The Cash Flow Concept is a common management
  planning tool.
• It distinguishes between (a) costs -gt
  cash outflows
• (b) revenues/savings -gt cash inflows

135
136
Cash Flow Analysis

• Relies on every day life principles
• Measures the difference between
• What we received, and
• What we paid out
• Only cash receipts and cash payments are
  included in the analysis
• Applicable also to forecast cash available

137
Types of cash flows
Inflow Equipment salvage value Operating
revenues savings Working capital
Outflow Initial investment cost Operating costs
taxes Working capital

• One-time
• Annual
• Other

137
138
Cash Outflow Analysis (1)

INITIAL INVESTMENT

• Planning/ Engineering
• Permitting
• Site Preparation
• Purchased Equipment
• Working Capital

• Utility Systems Connections
• Start-up/Training
• Contingency
• (Salvage Value)

139
Working Capital

• Working Capital is the total value of goods and
  money necessary to maintain project operations
• It includes items such as
• Raw materials inventory
• Product inventory
• Accounts payable/receivable
• Cash-on-hand

139
140
Salvage Value

• Salvage Value is the resale value of equipment or
  other materials at the end of the project

140
141
Cash Outflow Analysis (2)

• Direct costs
• Input costs
• Other costs
• Loan repayments
• Interest on loan application

142
Cash Inflow Analysis

• Sales
• Savings
• Salvage value
• Cash shortfall / surplus

143
Cash Flow Forecast/Projection (1)

• We are looking at the likely future cash
  position.
• We examine the possible effects of changes in the
  cash flow components .

144
Cash Flow Forecast/Projection (2)

• Make assumptions about likely outcomes regarding
• Inflation
• Market size
• Demand for goods and services
• Interest Rates

145
Cashflow Projection Worksheet
146
Annual Operating Costs Savings(see also
Cleaner Production Investment Decision Costs and
Savings Checklist)

• Operating inputs
• Materials
• Energy
• Labour
• Floor space
• Taxes
• Depreciation
• Cost of capital

• Waste management includes waste handling,
  recycling, treatment, disposal, and regulatory
  compliance
• Materials
• Energy
• Labour
• Floor space
• Fees
• Taxes depreciation
• Cost of capital

• Less tangibles
• Productivity
• Future regulation
• Potential liability
• Insurance
• Company image

• Revenues
• Product sales
• By-product sales
• Pollution credits

147
Timing of cash flows
End of project
Salvage Value
Working capital
Annual Revenues/Savings
TIME
Year 1
Year 2
Year 3

Annual Operating Costs Annual Tax Payments Annual
Financing Payments
Time zero
Working Capital
Initial Investment
147
148
Cash Flow Analysis structure

• There are two basic ways to structure a project
  financial analysis
• 1) Stand-alone analysis
• Considers only the cash flows of the proposed
  project
• 2) Incremental analysis
• Compares the cash flows of the proposed project
  to the business as usual cash flows

148
149
Incremental analysis for CP

• For many CP projects, you will need to do an
  incremental analysis compare the CP cash flows
  to the business as usual cash flows
• You only need to estimate the cash flows that
  change when you improve the business as usual
  operations

149
150
Profitability indicators

• A profitability indicator, or financial
  indicator, is a single number that is
  calculated for characterisation of project
  profitability in a concise, understandable form.
• Common examples are
• Simple Payback
• Return on Investment (ROI)
• Net Present Value (NPV)
• Internal Rate of Return (IRR)

150
151
Simple Payback

• This indicator incorporates
• the initial investment cost
• the first year cash flow from the project

Simple Payback (in years)
Initial Investment Year 1 Cash Flow

151
152
How to interpretSimple Payback

• The simple payback calculated for a project is
  usually compared to a company rule of thumb
  called a hurdle rate
• e.g., if the payback period is less than 3 years,
  then the project is viewed as profitable

152
153
Small Group ExerciseProfitability Assessmentat
the PLS Company Part ICash Flows Simple
Payback

• 30 min

154
The PLS CompanysQC Camera Project

• PLS decided to purchase and install a camera
  system to monitor quality control (QC) of the
  print jobs as they actually occur
• Allows the operators to detect print errors
  earlier and halt the operations before too much
  solid scrap is generated
• Has reduced generation of full-run solid scrap by
  about 40

155
Costs and savingsincluded in the QC camera
analysis

• Initial investment costs
• purchase of the camera system, delivery,
  installation, start-up
• Annual operating costs (and savings)
• Operating input materials (plastic film, ink),
  energy, labour
• Incineration fuel, fuel additive, labour, ash
  to landfill
• Wastewater treatment chemicals, electricity,
  labour, sludge to landfill

155
156
QC camera projectCash flows
Annual savings ???
TIME
Year 1
Year 2
Year 3

Annual Tax Payments 0 (PLS has tax
holiday) Financing Payments 0 (PLS paid cash)
Time zero
Working Capital 0 (not important for this
project)
Initial Investment 105,000
156
157
The PLS CompanysQC camera project
Initial Investment Cost
Annual Operating Costs
BusinessAs Usual
0
???
Annual Savings ???
The QC Camera Project
US 105,000
???
157
158
Exercise instructionsPart I

• Introduction (5 min.), detailed in your handout
• Question 1 (15 min.)
• Question 2 (5 min.)
• Discuss your answers with the other small groups
  and the instructor (5 min.)

159
The Time Value of MoneyandNet Present Value
(NPV)

• 30 min

160
QuestionIf we were giving away money, would
you rather have(A) 10,000 today, or(B)
10,000 3 yearsfrom now Explain your answer...
161
Inflation

• Money loses purchasing power over time as
  product/service prices rise, so a dollar today
  can buy more than a dollar next year.

inflation 5
costs 1.05
costs 1
next year
now
161
162
Investment opportunity

• A dollar that you invest today will bring you
  more than a dollar next year having the dollar
  now provides you with an investment opportunity

Gives you 1.10 a year from now
Investing 1 now
Investment
Interest, or return on investment
162
163
Time Value of Money (TVM)

• Money now is worth more than money in the future
  because of
• a) inflation
• b) investment opportunity
• The exact time value of your money depends on
  the magnitude of the
• a) rate of inflation and
• b) rate of return on investment

164
TVM and project profitability

• When you invest in a capital project, you have
• (1) An initial investment happening NOW
• (2) A series of future cash inflows, over time,
  that pay back the initial investment
• So, it is important to take the Time Value of
  Money (TVM) into account when you are estimating
  project profitability

165
The PLS CompanysQC camera project
Initial Investment Cost
Annual Operating Costs
BusinessAs Usual
0
2,933,204
Annual Savings US38,463
The QC Camera Project
105,000
2,894,741
(in US)
165
166
QuestionIs the annual savings of38,463 per
year for 3 yearsa sufficient returnon the
initial investment of 105,000?
167
Answer?
You might think about adding up the annual
savings over the 3 years Savings per year
38,463 x 3 years Total savings
115,389 But this ignores the Time Value
of Money (the fact that 38,463 in year 1 is not
the same as 38,463 in year 2 or year 3)
168
Comparing cash flowsfrom different years

• Before you can compare cash flows from different
  years, you need to convert them all to their
  equivalent values in a single year
• It is easiest to convert all project cash flows
  to their present value now, at the very
  beginning of the project

168
169
Converting the PLS cash flowsto their present
value
Annual Savings
End of project
?? ?? ??
38,463
38,463
38,463
TIME
Year 1
Year 2
Year 3

Time zero
Initial Investment 105,000
169
170
Converting cash flowsto their present value

• You can convert future year cash flows to their
  present value using a discount rate that
  incorporates
• Desired return on investment
• Inflation
• The discount rate calculation is simple
  mathematically, it is the reverse of an interest
  rate calculation

170
171
Interest rate calculation
Invested at an interest rate of 20, how much
will 10,000 now be worth after 3
years? After year 1 10,000 x 1.20
12,000 2 10,000
x 1.20 x 1.20 14,400 3
10,000 x 1.20 x 1.20 x 1.20 17,280 Note
these calculations are on a compound basis
172
Discounting calculation
The discounting calculation is essentially the
opposite of the interest rate calculation. If
you want to have 17,280 in 3 years, how much
would you have to invest now? 17,280
10,000 1.20 x 1.20 x
1.20 needed now In other words, 17,280
in year 3 has a present value of 10,000
173
Which discount Rate? (1)

• The discount rate a company chooses should be
  equal to the required rate of return for the
  project investment
• The required rate of return will usually
  incorporate three distinct elements
• A basic return - pure compensation for deferring
  consumption
• Any risk premium for that projects risk
• Any expected fall in the value of money over time
  through inflation

174
Which discount Rate? (2)

• At a minimum, the chosen discount rate should
  cover the costs of raising the investment
  financing from investors or lenders (i.e. the
  companys cost of capital)
• Often, rather than trying to identify the exact
  source of capital (and its associated cost) for
  each individual project, a firm will develop a
  single Weighted Average Cost of Capital (WACC)
  that characterises the sources and cost of
  capital to the company as a whole.

175
Discounting (1)
The value of the cash flow in year n

• Present Value Future Valuen
• (1 d)n

The value of the cash flow at Time Zero, i.e.,
at project start-up
n the number of years after project start-up
d the discount rate
175
176
Discounting (2)
The value of the cash flow in year n

• Present Value Future Valuen x (PV Factor)

Present Value (PV) Factors have been calculated
for various values of d (discount rate) and n
(number of years) and have been tabulated for
easy use. (Also called discount factors)
The value of the cash flow at Time Zero, i.e.,
at project start-up
176
177
Present value factors Value of 1 in the future,
NOW
Discount rate (d) 10 20 30 40
Years into future (n) 1 .9091 .8333
.7692 .7142 2 .8264 .6944 .5917
.5102 3 .7513 .5787 .4552 .3644
4 .6830 .4823 .3501 .2603 5 .6209
.4019 .2693 .1859 10 .3855 .1615 .0725
.0346 20 .1486 .0261 .0053 .0012
30 .0573 .0042 .0004 .0000
178
Net Present Value (NPV)

• Net Present Value (NPV) the sum of the present
  values of all of a projects cash flows, both
  negative (cash outflows) and positive (cash
  inflows)
• NPV characterises the present value of the
  project to the company
• If NPV gt 0, the project is profitable
• If NPV lt 0, the project is not

179
EstimatingNet Present Value
Expected Future Cash Flows
Present Value of Cash Flows (at time zero)
PV Factor
Year


- 105,000 38,463 38,463 38,463

- ??? ??? ??? ??? ???
0 1 2 3
??? ??? ??? ???
Sum the projects Net Present Value
179
180
Time for lunch! 60 min
181
Small Group ExerciseProfitability Assessmentat
the PLS Company Part IINet Present Value

• 45 min

182
Also you will need the handoutPerforming
Net Present Value (NPV) Calculations

• Located in your handout

183
Converting the PLS cash flowsto their present
value
End of project
?? ?? ??
38,463
38,463
38,463
TIME
Year 1
Year 2
Year 3

Time zero
Initial Investment 105,000
183
184
Exercise instructionsPart II

• Introduction (5 min.), detailed in your handout
• Question 3 (15 min.)
• Question 4 (5 min.)
• Discuss your answers with the other small groups
  and the instructor (15 min.)
• Lessons learned (5 min.)

185
Capital Budgeting inflation tax 30 min
186
Discounting and inflation (1)

• even without inflation, money has a time value
  due to supply/demand for money
• inflation increases both
• future cash flows
• interest rates (and ? discount rates)
• these offset each other

187
Discounting and inflation (2)
With 10 inflation (say), future cash flows will
? by 10 each year Investors lenders will also
require a higher rate to compensate for their
loss in purchasing power If 15 was acceptable
with no inflation, with 10 inflation they will
now require 115 x 110 126.5
188
Discounting and inflation (3)
PLS Company, now assuming 10 inflation and 26.5
discount rate Year Cash flow PV factor PV
() _at_ 26.5 () 1 42,309
0.791 33,466 2 46,540 0.625 29,088
3 51,194 0.494 25,289 87,843 less
initial investment 105,000 Net Present Value
-17,157 i.e. same NPV as with zero
inflation, 15 discount rate ignoring minor
rounding difference
189
What is the current rate of inflation in the
economy? What return on their capital will the
lender really earn on their money, after allowing
for the erosion of their capital over time
through inflation?
190
Tax payments

• Taxes can be an important project cash flow
• Depending on a facilitys location, a firm may
  have to pay national and/or local income taxes on
  the revenues or savings generated by a project
• Other types of taxes may also be relevant - sales
  taxes, pollution taxes, etc.

190
191
Tax deductions or credits

• Tax deductions or credits can also be important
• One example is the income tax deduction often
  given for equipment depreciation, which is the
  loss in value of a physical asset (e.g., a piece
  of equipment) as the asset ages
• Some environmental investments can receive
  special tax credits

191
192
Tax and project appraisal

• assume 30 rate of taxes of firms profits
• tax is based on accounting profits, not on
  cashflows
• accounting profits are after deducting
  depreciation
• tax is payable 1 year after the profits have been
  realised

193
Depreciation

• A project needs 12,000 for a new machine which
  will last 3 years
• assume the machine has no residual value after 3
  years
• depreciation per year
• initial cost 12,000 4,000 per year
• asset life 3 years

194
Profit earned by project

• Profit earned by project in each year
• cash inflow per year 6,000
• less depreciation 4,000
• contribution to profit 2,000
• tax _at_ 30 600

195
NPV of project, with tax
time cash tax net PV
PV
factor now -12,000 -12,000
1.000 -12,000 1 6,000 6,000
0.833 5,000 2 6,000 -600 5,400
0.694 3,750 3 6,000 -600 5,400
0.579 3,125 4 -600
-600 0.482 -289
Net Present Value
- 414
196
Project appraisal with inflation and tax

• depreciation (and accounting profits) are based
  on the assets original cost
• the assets original cost does not increase with
  inflation over the life of the project
• project analysis is then easier using nominal
  (not real) cashflows and discount rates

197
Some good reasons to use a longer analysis time
horizon

• Some out-year costs may be missed if the time
  horizon is too short, e.g., a required wastewater
  treatment plant upgrade in the future
• Some annual operating costs may change
  significantly over time, e.g., disposal fees at
  landfills
• Short time horizons neglect the impact of the
  time value of money, especially in times of
  significant inflation, deflation, changing cost
  of capital, etc.

198
Profitability assessment tips

• Be sure to
• Include all relevant and significant
  costs/savings in the profitability analysis
• Think long-term (or at least medium-term!)
• Incorporate the time value of money
• Use multiple profitability indicators
• Perform sensitivity analyses for data estimates
  that are uncertain

199
Time for a break! 15 min
200
Sensitivity Analysis 15 min
201
Sensitivity AnalysisIntroduction

• An important management tool questioning
  potential project benefit risks.
• Assumptions surrounding a project are computed to
  produce a base NPV and IRR.
• From the base case, changes in the origi