W5_Ashwaq_Analyzing Cost-Only Alternative Using Equivalent Worth for Extending Old Power Plant Contract

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W5_Ashwaq_Analyzing Cost-Only Alternative Using Equivalent Worth for Extending Old Power Plant Contract
1. Problem Definition.
The company plans to extend the power purchase agreement with a power plant for additional capacity. The system needs some extra capacity in megawatts since there is a delay in the new power plant. The company receives different offers from some old plants coming to the end of their contract life. Three plants provided their specifications. In this blog, the author wants to analyze cost-only alternatives of the three power plants using equivalent worth. Which power plant should be preferred base on equivalent worth?
2. Identify the Feasible Alternative.
The following table contains data of three power plants that will be selected.

Table 1. Power Plant Data
Attributes
Plant 1
Plant 2
Plant 3
Price (million OMR)
1945.493
1758.264
2135.879
Capacity Cost/Year (million OMR)
383.9
434.996
400.22
Variable Cost (million OMR)
58.456
72.49
54.118
Fuel Cost (million OMR)
548.266
672.793
588.046

This contract will be extended for 5 years and the company has a MARR of 15%
3. Development of the Outcome for Alternative.
Using table 1 data, we will calculate the PW (Present Worth), AW (Annual Worth), and FW (Future Worth). The result cans we seen on table below.
Table 2. The Result of Equivalent Worth Values
MARR
15%
Life
5 years

EOY
Plant 1
Plant 2
Plant 3
0
1,945.493
1,758.264
2,135.879
1
990.622
1,180.279
1,042.384
2
990.622
1,180.279
1,042.384
3
990.622
1,180.279
1,042.384
4
990.622
1,180.279
1,042.384
5
990.622
1,180.279
1,042.384
PW (OMR)  =
5,266.211588
5,714.742267
5,630.11184
AW (OMR) =
841.25
912.90
899.38
FW (OMR)  =
86,227.91
93,572.06
92,186.34

4. Selection of Criteria.
The plant that will minimize the equivalent worth of total costs over the five-year analysis period will be used as selection of criteria.
5. Analysis and Comparison of the Alternative.
The comparison of three power plants using the PW, AW, and FW methods to minimize total cost as seen as table 3 below.
Table 3. The Comparison of the Three Power Plants
Plant 1
Plant 2
Plant 3
Present Worth (OMR)
        5,266.21
        5,714.74
      5,630.11
Annual Worth (OMR)
            841.25
            912.90
          899.38
Future Worth (OMR)
      86,227.91
      93,572.06
    92,186.34

From the table 3, alternative Plant 1 minimizes all three equivalent-worth values of total costs and is the preferred alternative. The preference ranking (Plant 1 > Plant 3 > Plant 2) resulting from the analysis is the same for all three methods.
6. Selection of the Preferred Alternative.
Based from above calculation, power plant 1 minimizes all three equivalent-worth values of total costs and is the preferred alternative for the additional capacity by extending the contract period.
7. Performance Monitoring and the Post Evaluation of Result.
Monitoring should be conducted during execution of the project to ensure that all requirements are met.
References:
1.    Sullivan, G. W. (2014). Engineering Economy 16th Chapter 6 – Comparison and Selection among Alternatives, pp. 264-331
2.    Fakhri, Muhammad. (2017). W12_MFO_Analyzing Cost Only Alternative|Emerald AACE 2018. Retrieved from http://emeraldaace2017.com/2017/11/17/w12_mfo_analyzing-cost-only-alternative-using-equivalent-worth-for-selecting-fire-water-pump/
3.    What is the formula for calculating net present value (NPV) in excel. Retrieved from https://www.investopedia.com/ask/answers/021115/what-formula-calculating-net-present-value-npv-excel.asp
4.    How to calculate net present value (NPV) in excel. Retrieved from https://www.youtube.com/watch?v=hG68UMupJzs







Comments

  1. Dr. PDGDecember 7, 2017 at 10:38 AM

    Hi Ashwaq, while I really love these kinds of analysis (as a cost engineer or engineering economist) the first thing I always like to do is challenge the MARR. How did you arrive at that value?

    I would love to challenge you to do another blog but this time see if you can justify or show us how you chose 15% MARR.

    http://pmworldjournal.net/wp-content/uploads/2014/09/pmwj26-sep2014-Al-Shehhi-analytical-heirarchy-process-FeaturedPaper2.pdf

    http://pmworldjournal.net/article/using-analytical-hierarchy-process-determine-appropriate-minimum-attractive-rate-return-oil-gas-projects-indonesia/

    My big concern with any of these financial analysis is that if you choose the wrong MARR (too high or too low) it can dramatically skew or bias your analysis, meaning that the FIRST step is to calculate the appropriate Risk Adjusted MARR and THEN do your financial analysis.

    Have some fun with this one....

    BR,
    Dr. PDG, Jakarta

    ReplyDelete

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