Lesson 1.

Introduction to plant design, situations, difference

and considerations
1.1   Introduction
The manufacturing of food products of consistent quality and
nutritional value at affordable cost is essential to the success of
the food industry today. The efficient use of resources is,
therefore, growing concern for all involved in handling of raw
materials and energy for processing, production, distribution and
retailing of food. The unique features of the raw materials of the
food processing industries such as seasonality, perishability and
variability in conjunction with sophistication required for
processing to maintain high quality standards, necessitates
special attention towards skilled technical manpower, effective
technologies, efficient machinery in the food plant.
Plant design refers to the overall design of a manufacturing
enterprise / facility. It moves through several stages before it is
completed. The stages involved are: identification and selection
of the product to be manufactured, feasibility analysis and
appraisal, design, economic evaluation, design report
preparation, procurement of materials including plant and
machinery, construction, installation and commissioning. The
design should consider the technical and economic factors,
various unit operations involved, existing and potential market
conditions etc.
1.2 Plant design specifies
 Flow charts and plant layouts spell out interconnections and
raw material flows, permanent/temporary storage, shop
 facilities, office spaces, delivery and shipping facilities,
access ways
 Equipments, utilities and services to be used
 Required instrumentation and interconnections for process
monitoring and controls
 Strategic site location, plan and elevation
They also often provide economic analyses of plant profitability
in terms of various product demand and price and material cost
scenarios.
Plant design situations may arise due to one or more of the
following:
 design and erection of a completely new plant
 design and erection of an addition to the existing plant
 the facility or plant operations and subsequent expansion
restricted by a
 poor site, thereby necessitating the setting up of the plant at
a new site
 addition of some new product to the existing range
 adoption of some new process /replacement of some
existing equipment
 modernization / automation of the existing facility
 expansion of the plant capacity
 relocating the existing plant at a new site because of new
economic, social, legal or political factors
1.3 Differences in the design of food processing and non-food
processing plants
Many of the elements of plant design are the same for food
plants as they are for other plants particularly those processing
industrial chemicals. However, there are many significant
differences, basically in the areas of equipment selection and
sizing, and in working space design. These differences stem
from the ways in which the processing of foods differs from the
processing of industrial chemicals. Such differences occur
because of the following considerations:
 The storage life of foods is relatively limited and strongly
affected by temperature, pH, water activity, maturity, prior
history, and initial microbial contamination levels.
 Very high and verifiable levels of product safety and
sterility have to be provided.
 Foods are highly susceptible to microbial attack and insect
and rodent infestation.
 Fermentations are used in producing various foods and bio
chemicals. Successful processing requires the use of
conditions, which ensure the dominance of desired strains
of microorganisms growth or activity.
 Enzyme-catalyzed processes are used or occur in many
cases. These, like microbial growth and fermentation are
very sensitive to temperature, pH, water activity and other
environmental conditions.
 Many foods are still living organisms or bio chemically
active long after harvest or slaughter.
 In some cases foods (e.g. ripening cheeses) contain active
living micro organisms, which induce chemical
transformations for long periods of time.
 Crop-based food raw materials may only be available in
usable form on a seasonal basis. Therefore, plant design
may involve the modelling of crop availability.
 Food raw materials are highly variable and that variability
is enhanced by the ageing of raw material and
uncontrollable variations in climatic conditions.
 The biological and cellular nature and structural complexity
of foods causes special heat-transfer, mass-transfer and
component separation problems.
 Foods are frequently solid. Heat and mass-transfer
problems in solids have to be created in ways that are
different than those used for liquid and gas streams. The
kinetics of microbe and enzyme inactivation during
thermally induced sterilization and blanching and heat-
transfer in the solids being sterilized or blanched are
strongly linked.
 Food processing generates wastes with high BOD loads.
 Foods are often chemically complex systems whose
components tend to react with one another. Certain types of
reactions, e.g. Maillard reactions, oxidative rancidification,
hydrolytic rancidification and enzymatic browning tend to
occur with a high degree of frequency.
 The engineering properties of foods and biological material
are less well known and more variable than those of pure
chemicals and simple mixtures of chemicals.
 Vaguely defined sensory attributes often have to be
preserved, generated or modified. These require sensory
testing. Raw material variation, minor processing changes
and trace contaminants leached from processing equipment
and packages can often cause significant changes in these
attributes. Frequently, we do not have mechanistic bases for
 linking these attributes to processing conditions and
equipment design. Much current food engineering and food
science research activity at universities is designed to
provide such linkages.
 In the case of foods, prototype products have to be
consumer tested so as to assure market acceptability before
plants for large scale production are built.
 Mechanical working is sometimes used to induce desired
textural changes. Examples include kneading and sponge
mixing during the making of bread, the calendaring of
pastry dough, shearing during extrusion texturization.
 Packaging in small containers is often used or required; and
strong-package-product interactions exist. Packaging often
requires care to maintain integrity of closure,
reproducibility of fill elimination of air from head spaces
and prevention of subsequent moisture and oxygen transfer.
Segregation often causes problems in the packaging of
powdered foods. Aseptic packaging is starting to be widely
used.
 Food processing techniques and formulations are
sometimes constrained by standards of identity and good
manufacturing practice regulations and codes.
 Food processing is an art to a certain extent. Engineers and
technologists are frequently uncertain as to weather
portions of that art are really justified or necessary. It is
sometimes difficult for them to translate the necessary
portions of that art into quantifiable heat-transfer and
chemical reaction processes on which rational designs can
be based.
1.4 General design considerations
Food plant designs must provide necessary levels of sanitation,
means of preventing product and material contamination and
means of preventing or limiting product, raw material, and
intermediate product deterioration due to naturally occurring
processes. Great care must be exercised to achieve high levels of
product purity and preserve product integrity. A brief
description of some of the design considerations follows.
1.4.1 Food processing unit operations
Food processing involves many conventional unit operations but
it also involves many which differ greatly from those usually
encountered in the production of industrial chemicals. These
include: freezing and thawing and other temperature-induced
phase transitions or phase transition analogs, freeze drying,
freeze concentration, curd and gel formation, development of
structured gels, cleaning and washing (the operation which
occurs with the greatest frequency in food processing plants),
leavening, puffing, and foaming, slaughtering, carcass
disassembly, component excision, slicing and dicing, peeling
and trimming, grading, cell disruption and maceration,
pasteurization and sterilization, blanching, baking, cooking (for
purposes of tenderization or textural modification), roasting (for
purposes of flavour generation), radiation sterilization,
mechanical expression, structure-based component separation,
filling and packaging, canning and bottling, coating and
encapsulation, sausage and flexible casing, stuffing, controlled
atmosphere storage, fumigation and smoking, churning,
artificially induced ripening, fermentation, pureeing,
emulsification and homogenization, biological waste treatment,
and controlled feeding of confined animals, poultry and fish.
1.4.2 Prevention of contamination
Prevention of contamination will involve the provision or use of
filtered air, air locks, piping layouts that ensure complete
drainage and present cross-stream contamination (particularly
contamination of finished products by unsterilized or
unpasteurized raw material and cleaning solutions), solid
material and human traffic flow layouts that also prevent such
contamination, suitably high curbs when pipes, conveyors or
equipment pass through floors and where gangways pass over
processing areas, bactericides in cooling water, culinary (i.e.
contaminant-free) steam whenever direct contact between a
product and steam is used, impermeable covers for insulation,
dust covers over conveyors and clear plastic covers for electric
lights, methods for washing bottles and containers, suitable
barriers against pest entry, windowless construction, solid
instead of hollow walls, or completely tight enclosure of hollow
spaces in walls, air circulation system and external roof and wall
insulation that prevent the formation of condensate which can
drip into products or favour mould growth, ultra-violet
irradiation of tank head spaces, electric light traps for flying
insects, impactors for killing insect eggs, larvae, pupae and
adults in grain, carbon dioxide and nitrogen fumigation of dry
food storage bins, screening system to remove insects and insect
parts, magnetic traps, iron screens for sieving equipment (so that
screen fragments can be picked up by magnetic traps), metal
detectors for rejecting packaged product that contains unwanted
metal, and methods for storing and keeping track of segregated
batches of raw materials and finished goods until necessary
quality assurance tests have been carried out.
1.4.3 Sanitation
Sanitation, which helps prevent contamination, should be
facilitated by providing or using: impermeable coated or tiled
floors and walls, at least one floor drain per every 40 m 2 of wet
processing area, special traps for such drains, pitched floors that
ensure good drainage, polished vessels and equipment that do
not contain dead spaces and which can be drained and
automatically cleaned in place, sanitary piping, clean-in-place
(CIP) systems, plate heat exchangers and other types of
equipment which can be readily disassembled for cleaning if
necessary, clearances for cleaning under and around equipment,
grouting to eliminate crevices at the base of equipment support
posts and building columns, tubular pedestals instead of support
posts constructed from beams, and methods for removing solid
particles which fall off conveyors. Air flow and human traffic
flow patterns should be maintained to eliminate possibilities of
containment transfer from dirty areas to clean ones. Very high
levels of sanitation must be provided for foodstuffs that provide
good substrates for the growth of micro organisms and when
processing temperatures and conditions favour such growth.
1.4.4 Deterioration
To minimize product and raw material deterioration, provisions
should be made for: refrigerated and controlled environment
storage areas, space and facilities for product inspection and for
carrying out quality assurance tests, surge vessels for processed
material between different operations (particularly operations
which are subject to breakdown), equipment for pre-cooling
material stored in such vessels, means of cooling, turning over
or rapidly discharging the contents of bins and silos when
excessive temperature rises, occur, and standby refrigeration and
utility arrangements which are adequate to prevent product and
raw material deterioration in case of power interruptions or
unusual climatic conditions.
1.4.5 Seasonal production
Food plants have to be sized to accommodate peak seasonal
flows of product without excessive delay, and in some cases,
have to be highly flexible so as to handle different types of fruits
and vegetables. Modelling of crop and animal growth processes
can be of great help in scheduling production and adequately
sizing plants.
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Lesson 2. Food plant design process
2.1 Introduction
The design process on all projects follows the same stages of
development. However the extent and detail of the activities
behind each stage are different with every project.There are a
number of different industry formats for mapping the stages in
the engineering process. A sequence that provides a simple fit
with plant design activities is outlined in Figure 2.1. This is
based on the overall project involve estimation of plant and/or
equipment/s capacity, process scheduling and proper layout so
as to meet special requirements and needs to be focused on
theses. The following are the few aspects that make the food
industry as a unique.
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2.2  Feasibility study

The basis for the success of the design of any food processing
plant is a comprehensive feasibility study and evaluation. The
feasibility study involves an analysis and evaluation of the
design concept from all the relevant angles. The study provides
an immediate indication of the probable success of the enterprise
and also shows what additional information is necessary to make
a complete evaluation. It gives an insight in to: requirements of
human, financial and material resources; plant and machinery,
technology; and economic gains or profitability of the proposed
venture.
The feasibility analysis involves a certain number of stages
during which various elements of the plant design are prepared
and examined to arrive at appropriate decision. The feasibility
study can, therefore, be seen as a series of activities culminating
in the establishment of a certain number of study elements and
documents, which permit decision making. Identification stages,
preliminary selection stage, analysis stage and evaluation and
decision stage are the important stages.
2.3 Project idea
2.3.1 Identification stage:
Once a product idea occurs, the starting point of analysis is the
establishment of the objectives to be attained. The objective may
be to prove that it is possible and desirable to manufacture a
certain product or group of products, to add a piece of
equipment to the existing plant or to utilize certain resources.
The ideas for new products or diversification can be generated in
an informal and spontaneous manner from customers,
distributors, competitors, sales people, and others, or the
entrepreneur can rely on a systematic process of idea generation.
Two key approaches for product identification and selection
could be:
a) Look for a need and then the product to satisfy that need, or
b) Find a product idea and then determine the extent of the need.
2.3.1.1 Looking for a need:
Venture ideas can be stimulated by information which indicates
possible need. This approach requires access to data and
considerable analysis. However, if the perceived need is real, the
product idea has a better than average chance of leading to a
successful venture. The need may be one now being served
inefficiently at high cost, or it may be presently unserved. The
second implies that a considerable amount of creative design
and development may be required to arrive at a product that
appears to satisfy the need. The following is suggested for
identification of the need.
 Study existing industries for backward and forward product
integration to indicate input and output needs
 Analyse population trends and demographic data for their
affect on the market
  Study development plans and consult development
agencies for development needs and venture opportunities.
 Examine economic trends in relation to new market needs
and opportunities.
 Analyse social changes
 study the effects of new legislations in relation to creation
of new opportunities
2.3.1.2 Finding a product:
Each of the preceding suggestions for idea generation centres on
the recognition of a need in order to arrive at a product idea. The
suggestions that follow are product oriented. They are intended
to stimulate product ideas which may meet one or more of the
criteria previously discussed. Their use should result in a large
number of ideas which can be subsequently examined with
regard to need. The following list should be useful in conducting
such an exercise.
 investigate local materials and other resources for their
current utilization pattern, utilization potential and
convertibility into more value added products
 examine import substitutions for indigenous production
 study local skills for production and marketing of value
added products
 study implications of new technologies for improvement of
existing products or to create / produce new ones
  study and analyze published sources of ideas
2.4 Preliminary screening of ideas:
By following the above approaches, it should be possible to
develop a long list of potential venture opportunities. Obviously,
it would not be realistic to conduct a detailed feasibility analysis
for each idea. What is needed is a preliminary screening to
eliminate the many ideas that have little or no hope for success
and to provide, if possible, a rank-ordering of the remaining few.
The screening can be conducted as two-phase process. In the
first phase venture ideas are eliminated on a go/no-go basis. A
"Yes" response to any of the following should eliminate the idea
from further consideration.
 Are the capital requirements excessive?
 Are environmental effects contrary to Government
regulations?
 Is venture idea inconsistent with national policies, goals
and restrictions? Will effective marketing need expensive
sales and distribution system?
 Are there restrictions, monopolies, shortages, or other
causes that make any factor of production unavailable at
reasonable cost?
2.5 Comparative rating of product ideas
After elimination of unattractive venture ideas, it is desirable to
choose the best of those remaining for further analysis. Various
comparative schemes have been proposed for rating venture
ideas. In this section, factors that should be considered and some
possible ranking methods are examined. For a product idea to
lead to a successful venture, it must meet the following four
requirements:
a)     An adequate present market for raw and finished product/s
b)    Market growth potential
c)     Competitive costs of production and distribution
d)    Low risk in factors related to demand, price, and costs
2.5.1. Present market: The size of the presently available
market must provide the prospect of immediate raw material
purchase and product/s sales volume to support the operation.
Sales estimates should not be based solely on an estimate of the
number of potential customers and their expected individual
capacity to consume. Some factors that effect sales are:
 Market size (number of potential customers)
 Product's relation to need
 Quality-price relationship compared to competitive
products
 Availability of sales and distribution systems and sales
efforts required
 Export possibilities
2.5.2. Market Growth Potential: There should be a prospect
for rapid growth and high return on invested capital. Some
indicators are:
 Projected increase in need and number of potential
customers
 Increase in customer acceptance
 Product newness
 Social, political and economic trends (favourable for
increasing consumption)
2.5.3. Competitive costs of production and distribution: The
costs of production factors and distribution must permit an
acceptable profit when the product is priced competitively. The
comparative rating process should consider factor likely to result
in costs higher than those of competitive producers should:
 Costs of raw material inputs
 Labour costs
 Selling and distribution costs
 Efficiency of production processes Patents and licenses
2.5.4. Risks involved: Obviously it is impossible to look into
the future with certainty, and the willingness to assume risk is
the major characteristic that sets the entrepreneur apart.
However, unnecessary risk is foolhardy and, while it may be
difficult or impossible to predict the future, one can examine,
with considerable confidence, the possible effect of
unfavourable future events on each of venture ideas. The
following factors should be considered.
 Market stability in economic cycles
 Technological risks
 Import competition
 Size and power of competitors
 Quality and reliability risks (unproven design)
 Initial investment cost
 Predictability of demand
 Vulnerability of inputs (supply and price)
 Legislation and controls
 Time required to show profit
 Inventory requirements
For purposes of preliminary screening, these factors can be
subjectively evaluated.
Lesson 3. Introduction to feasibility study and analysis
3.1 Pre selection/Pre-feasibility stage
The preliminary screening may have several ideas which appear
to be worthy of further study. Since a complete feasibility study
is time consuming and expensive, it may be desirable to perform
a pre-feasibility analysis in order to further screen the possible
ideas. The purpose of a pre-feasibility study is to determine.
 Whether the project seems to justify detailed
study
 What matters deserve special attention in the
detailed study (e.g. market analysis, technical
feasibility, investment costs)
 An estimate of cost for the detailed study
For many ideas the pre-feasibility analysis may provide
adequate evidence of venture profitability if certain segments are
more carefully verified. Emphasis depends on the nature of the
product and the area of greatest doubt. In most cases market
aspects and materials receive primary emphasis. The pre-
feasibility study and report may include some or all of the
following elements.
3.1.1 Product description: The product's characteristics should
be briefly described, along with possible substitutes which exist
in the market place. Also, allied products should be identified,
which can or should be manufactured with the product under
study.
3.1.2 Description of market: The present and projected
potential market and the competitive nature of the market should
be delineated.
 Where is the product now manufactured?
 How many plants exist and how specialized are
they?
 What are the national production, imports, and
exports?
 Are there government contracts or incentives?
 What is the estimated product longevity or future
consumption?
 What is the price structure?
3.1.3 Outline of technological variants: The technology choices
that exist for the manufacture of the product should be described
briefly. Also, the key plant location factors should be identified.
3.1.4 Availability of main production factors: Production factors
such as raw materials, water, power, fuel and labor skills should
be examined to ensure availability.
3.1.5 Cost estimates: Estimates should be made of the necessary
investment costs and costs of operation.
3.1.6 Estimate of profit: The data gathered should include
estimates of profits of firms manufacturing similar products or,
if the preliminary data are extensive, an actual estimated profit
for the project under study.
3.1.7 Other data: In certain cases, local attitudes toward
industry; educational, recreational and civic data; and
availability of local sites, may be the most important in the
evaluation of the suitability of a proposed product, especially in
the case of the establishment of a new firm.
Thus pre-feasibility study can be viewed as a series of steps
culminating in a document which permits determination of
whether or not a complete detailed feasibility study should be
made. It does not possess the depth the detailed study is
expected to have, and the data usually are gathered in an
informal manner.
3.2 Analysis stage
At the analysis stage various alternatives in marketing,
technology and capital availability need to be studied. The
analysis can be conducted at different levels of effort with
respect to time, budget and personnel, depending on the
circumstances. The complete study is referred to as techno-
economic feasibility study. In some cases such a detailed study
is not necessary. For example, if the product has an assured
market, in-depth market analysis is not required. In some cases,
a partial study of the market or of the technologies satisfies the
data requirements for decision making. The detailed analysis
should include the following.
3.2.1 Market analysis / study:
Market analysis can serve as a tool for screening venture ideas
and also as a means of evaluating the feasibility of a venture
idea in terms of the market. It provides:
 understanding of the market
 information on feasibility of marketing the
product
  analytical approach to the decision making
In addition, it assists in analyzing the decisions already taken.
Market analysis answers questions about:
 size of market and share anticipated for the
product in terms of volume and value
 pattern of demand
 market structure
 buying habits and motives of buyers
 past and future trends
 price which will ensure acceptance in the market
 most efficient distribution channels,
 company's strong points in marketing
Market analysis involves systematic collection, recording,
analysis, and interpretation of information on:
 existing and potential markets
 marketing strategies and tactics
 interaction between market and product
 marketing methods
 current or potential products
In collecting the market data, for whatever size market or type of
product, it is helpful to follow an orderly procedure.
The initial step is to put down in writing a preliminary statement
of objectives in as much detail as possible. A good procedure is
to structure the objectives in question form. When setting
objectives, always keep in mind as to how the information will
be used when it is obtained. This helps in eliminating objectives
that would not make a contribution to the market analysis.
3.2.2 Situational analysis related to market:
The situational analysis of the market involves analyzing the
product's relationship to its market by using readily available
information. The information reviewed and each question asked
will give the analyst a feel for the situation surrounding the
product. The state involves an informal investigation which
includes talking to people in wholesale market, brokers,
competitors, customers and other individuals in the industry. If
this informal investigation produces the sufficient data to
measure the market adequately, the analysis need not proceed
further. Also, in some instances, where time is critical or where
budget is a problem, the data gathered during the informal
market analysis may be all that is available on which to base
decisions.
Seldom do the data obtained during the situational analysis
answer all the necessary questions. The informal analysis
provides the basis for revision of the objectives and frequently
indicates the most fruitful methods by which market can be
studied. This also helps in preparing a comprehensive
programme of market study. Such a programme should include a
description of the tasks and methods by which each type of
information is to be gathered. It should include not only the time
schedule for each task, but also an estimate of costs likely to be
incurred.
Basic steps involved in a market study for a new enterprise are: 
 Define objectives of the study and specify
information required
 Workout details of the study as under:
- identify sources of information (both secondary and primary)
- time and cost involvement
- methodology and action plan
 Select samples and decide contacts and visits
 Prepare the questionnaire as the survey
instrument and field test the same
 Conduct the survey and analyze information
 Prepare the report with findings and
interpretations
The analysis should generally contain:
 A brief description of the market including the
market area, methods of transportation existing
rates of transportation, channels of distribution,
and general trade practices
 Analysis of past and present demand including
determination of quantity and value of
consumption, as well as identification of the
major consumers of the product
 Analysis of past and present supply broken down
as to source, information on competitive position
of the product such as selling prices, quality, and
marketing practices of the competitors
 Estimate of future demand of the product
 Estimate of the project’s share of the market
considering all above factors
3.2.3 Technical analysis:
The technical analysis must establish whether or not the
identified venture is technically feasible and, if so, make
tentative choices among technical alternatives and provide cost
estimates in respect of:
1. fixed investment
2. manufacturing costs and expenses and
3. start-up costs and expenses
 In order to provide cost estimates, tentative choices must be
made among technical alternatives such as:
(i) level of product / manufacturing technology,
(ii) raw material inputs,
(iii) equipments,
(iv) methods,
(v) organization, and
(vi) facilities location and design.
The analysis report should incorporate:
 Description of the product, including
specifications relating to its physical, mechanical,
and chemical properties as well as the uses of the
product Description of the selected
manufacturing process showing detailed flow
charts as well as presentations of alternative
processes considered and justification for
adopting the one selected
 Determination of plant size and production
schedule, which includes the expected volume for
a given time period, considering start-up and
technical factors
 Selection of machinery and equipment, including
specifications, equipment to be purchased and
origin, quotations from suppliers, delivery dates,
terms of payment, and comparative analysis of
alternatives in terms of costs, reliability,
performance and spare parts availability
 Identification of plant's location and assessment
of its desirability in terms of its distance from
raw material sources and markets. For a new
project this part may include a comparative study
of different sites, indicating the advantages and
disadvantages of each
 Design of a plant layout and estimation of the
costs of erection of the proposed types of
buildings and land improvements
 Study of availability of raw materials and
utilities, including a description of physical and
chemical properties, quantities, needed, current
and prospective costs, terms of payment, source
of supply and their location and continuity of
supply
 Estimate of labour requirements including a
breakdown of the direct and indirect labour
supervision required for the manufacture of
product
 Determination of the type and quantity of waste
to be disposed of, description of the waste
 disposal method, its costs and necessary
clearance from the authorities
 Estimation of the production cost for the product
The elimination of inappropriate technology alternatives for
producing the identified product can be done on the basis of side
effects. The factors which may be considered as side effects
include:
 contribution to employment
 requirements for scarce skills
 energy requirements
 capital requirements
 need for imported equipment
 support of indigenous industry
 multiplier effect of the venture operation
 environmental effects
 safety and health hazards
Information concerning manufacturing processes and
equipment, which may facilitate the selection and decision
making, may be obtained from: (i) existing manufacturers of the
product, (ii) trade publications, (iii) trade associations and
organizations, and (iv) equipment manufacturers.
3.2.4 Financial analysis:
The financial analysis emphasizes on the preparation of financial
statement, so that the venture idea can be evaluated in terms of
commercial profitability and magnitude of financing required. It
requires the assembly of the market and the technical cost
estimates into various proforma statements. If more information
on which to base an investment decision is needed, a sensitivity
analysis or, possibly, a risk analysis can be conducted. The
depth of analysis would depend, to a certain extent, on the
venture idea and the overall objectives of the feasibility analysis.
The financial analysis should include:
 For existing companies-audited financial
statements, such as balance sheets, income
statements and cash flow statements
 For new companies-statements of total project
costs, initial capital requirements and cash flows
relative to the project time table
 For all projects-financial projections for future
time periods, including income statements, cash
flows and balance sheets
 Supporting schedules for financial projections,
stating assumptions used as to collection period
of sales, inventory levels, payment period of
purchases and expenses, elements of product
costs, selling, administrative and financial
expenses
 financial analysis showing return on investment,
return on equity, break- even volume and price
analysis
 Sensitivity analysis to identify items that have a
large impact on profitability or possibility of risk
analysis
The analyst may obtain profitability measures for the venture
being studied in several ways. Common non-time value
approaches to measure profitability are the pay back period and
financial statement (accounting) rates of return. These rates of
return are based on some net income figure divided by some
investment base. Frequently used profitability measure of this
type are: net income to assets, first-year earnings to initial
investment, average net income to initial investment, and
average net income to average investment.
Profitability measures, which consider the time value of money,
that is, discounted cash flow methods, are net present value
(NPV), internal rate of return (IRR), and the discounted benefit /
cost ratio. When profitability measures other than financial
statement rates of return are used as the investment decision
criteria, the analyst needs estimates of the following:
 the net investment, which is gross capital less any
capital recovered from the sale or trade of
existing assets
 the operating cash flows, which are the after-tax
cash flows resulting from the investment
 the economic life of the venture, defined as the
time period during which benefits can be
obtained from the venture and
 the appropriate discount rate.
With the relevant cash flows computed for the venture, the next
step is to decide which investment decision criterion to use for
the acceptance or rejection of ventures as well as their ranking.
Theoretically, the net present value criterion is the best measure
of profitability of the investment decision criteria used to
evaluate new venture ideas, the internal rate of return appears as
the technique to be of prime importance. The payback period is
used primarily as a supplementary technique.
3.2.5 Sensitivity and risk analysis
Recognizing that the venture profitability forecast hinges on
future developments whose occurrence can not be predicted with
certainty, the decision- maker may want to probe further. The
analyst may want to determine the impact of changes in
variables such as product price, raw material costs, and
operating costs on the overall results. Sensitivity analysis and
risk analysis are the techniques that allow the analyst to deal
with such problems.
The purpose of sensitivity analysis is to identify the variables
that most affect the outcome of a venture. Sensitivity analysis is
useful for determining consequences of a stated percentage
change in a variable such as product price. It involves specifying
the possible range for the variable, such as price, and calculating
the effect of changes in this variable to profitability. With such a
calculation, the analyst can determine the relative importance of
each of the variables to profitability. However, only risk analysis
can provide any indication of the likelihood that such events
(change in product price) will actually occur.
Risk analysis takes into account the recognized fact that
variables, such as product price, depend on future events whose
occurrence can not be predicted with certainty. Hence,
investment decision situations can be characterized with respect
to certainty, risk and uncertainty. Since certainty seldom exists
for future returns on investment, only risk and uncertainty are of
interest. Uncertainty is used to refer to an event, such as
technological breakthrough resulting in obsolescence, that is
expected to take place although the probability of its occurrence
cannot be forecasted during the venture's lifetime. Risk refers to
a situation in which a probability distribution of future returns
cannot be established for the venture. The riskiness of the
venture can be defined as the variability or dispersion of its
future returns. In practice, there are usually several variables and
the aggregate risk of the venture cannot be determined easily
because it is composed of numerous risks. The purpose of risk
analysis is to isolate the risks and to provide a means by which
various venture outcomes can be reduced to a format from
which a decision can be made. A more detailed coverage can be
found under profitability analysis.
3.3 Feasibility cost estimates
A lot of guess work goes into feasibility cost estimate. Attempts
are always made to collect and update historical figures with
additions for escalation / inflation and local factors, based on
statistics and guess work. In such a situation what is expected is
a rule of thumb or an order of magnitude estimate. The order of
magnitude estimate is derived from the cost reports of
completed ventures. Probability of this estimates accuracy is
generally between +25, and 40 percent. Preliminary control
estimate is often used in the feasibility report.
This is prepared, generally, after the completion of the process
design and major equipment listing. Accuracy of this estimate
may vary between + 15 and 25 present. Endeavour is usually
made to achieve a +20 present accuracy in the feasibility report
estimates. For a rule of thumb, the following are the percentages
of the venture cost factors:
-Project development and detailed project report (DPR)
preparation - 2 %
-Engineering and design - 13 %
-Brought out materials and equipment-55 %
-Fabrication and construction- 30 %
Depending on the type of venture, sector and complexity, these
can vary on either side.
3.4 Break-Even Analysis
Break-even analysis is a technique widely used by production
management and management accountants. It is based on
categorizing production costs between those which are
"variable" (costs that change when the production output
changes) and those that are "fixed" (costs not directly related to
the volume of production).
Total variable and fixed costs are compared with sales revenue
in order to determine the level of sales volume, sales value or
production at which the business makes neither a profit nor
a loss (the "break-even point").
“A breakeven analysis is used to determine how much sales
volume business needs to start making a profit.”
3.4.1 The Break-Even Chart 
The break-even chart is a graphical representation of costs at
various levels of activity shown on the same chart as the
variation of income (or sales, revenue) with the same variation
in activity. The point at which neither profit nor loss is made is
known as the "break-even point" and is represented on the chart
below by the intersection of the two lines:
In the diagram above, the line OA represents the variation of
income at varying levels of production activity ("output"). OB
represents the total fixed costs in the business. As output
increases, variable costs are incurred, meaning that total costs
(fixed + variable) also increase. At low levels of output, Costs
are greater than Income. At the point of intersection, P, costs are
exactly equal to income, and hence neither profit nor loss is
made.
3.4.2 Fixed Costs
Fixed costs are those business costs that are not directly related
to the level of production or output. In other words, even if the
business has a zero output or high output, the level of fixed costs
will remain broadly the same. In the long term fixed costs can
alter - perhaps as a result of investment in production capacity
(e.g. adding a new factory unit) or through the growth in
overheads required to support a larger, more complex business.
Examples of fixed costs:
- Rent and rates
- Depreciation
- Research and development
- Marketing costs (non- revenue related)
- Administration costs
3.4.3 Variable Costs
Variable costs are those costs which vary directly with the level
of output. They represent payment output-related inputs such as
raw materials, direct labour, fuel and revenue-related costs such
as commission.
3.4.4 Break Even Point Calculation
Calculation of BEP, per unit of production, can be done using
the following formula: 
Total fixed costs
BEP=Unit’s selling price – Unit’s
variable costs
For example, suppose that fixed costs for producing 100000
units were
$30,000 a year. Variable costs are $2.20 materials, $4.00 labour,
and $0.80 overhead, for a total of $7.00. If selling price was
chosen as $12.00 for each units, then: Break even point will be
$30,000 divided by ($12.00 - 7.00) equals 6000 units. This is the
number of units that have to be sold at a selling price of $12.00
before business will start to make a profit.
3.4.5.1 Advantages and limitation of Break Even Analysis
It explains the relationship between cost, production volume and
returns. The major benefit to using break-even analysis is that it
indicates the lowest amount of business activity necessary to
prevent losses.
However, it is best suited to the analysis of one product at a time