PROCESS PRODUCT MANUFACTURING AACE INTERNATIONAL

CONTINGENCIES
As is true with a capital cost estimate, any operating or man-
ufacturing cost estimate should include a contingency
allowance to account for those costs that cannot readily be
determined or defined or that are too small to estimate indi-
vidually but may be significant in the aggregate. The contin-
gency allowance applies both to direct and indirect costs and
ranges from 1 to 5 percent (and more in some cases), depend-
ing upon the uncertainty in the data used to prepare the esti-
mate and the risk associated with the venture.
Hackney [3] has suggested the following guidelines for con-
tingency allowances in operating and manufacturing cost
estimates:
1. installations similar to those currently used by the com-
pany, for which standard costs are available—1 percent;
2. installations common to the industry, for which reliable
data are available—2 percent;
3. novel installations that have been completely developed
and tested—3 percent; and
4. novel installations that are in the development stage—5
percent.
Alternately, for preliminary estimates, indirect overhead may
be approximated at 40 to 60 percent of labor costs or 15 to 30
percent of direct costs. Humphreys [4] has suggested 55 per-
cent of operating labor, supervision, and maintenance labor
for the mineral industries. Again, these factors may be some-
what higher outside the U.S. depending upon local customs
and laws.
It is important to note that indirect or factory overhead (gener-
al works expense) does not include so-called general expense
(i.e., marketing or sales cost) and administrative expense.
DEPRECIATION
Depreciation, while not a true operating cost, is considered to
be an operating cost for tax purposes. It is customarily listed
as a fixed, indirect cost.
The purpose of depreciation is to allow a credit against oper-
ating costs, and hence taxes, for the nonrecoverable capital
expense of an investment.

GENERAL WORKS EXPENSE The basis for computation of depreciation is the total initial
capital expense for tangible assets, including interest during
General works expense or factory overhead represents the construction and start-up expense. The depreciable portion
indirect cost of operating a plant or factory and is dependent of capital expense is equal to the total initial investment less
upon both investment and labor. Black [1] suggested that fac- working capital and salvage value.
tory overhead be estimated by the sum of investment times
an investment factor and labor times a labor factor. In this In theory, working capital can be totally recovered at any
case, labor is defined as total annual cost of labor, including time after the plant or process is shut down. Similarly, sal-
direct operating labor, repair and maintenance, and supervi- vage value, the scrap or sales value of the process equipment
sion; and labor for loading, packaging, and shipping. at the end of its useful life, can, in theory, be recovered at any
time after plant shutdown. Thus, the sunk and permanently
Black’s suggested labor and investment factors for various lost capital is the total initial investment less working capital
industries are as follows: and salvage value (including land value). Through deprecia-
tion, this sunk investment may be recovered as an operating
Investment expense over the useful life of the project.
factor Labor factor
Industry (% per year) (% per year) Unfortunately, the true useful life of a project generally does
not correlate with the permissible depreciation period dictat-
Heavy chemical ed by tax laws. The U.S. Internal Revenue Service (IRS) estab-
plants
lishes criteria for useful life of various investments that must
(large-capacity) 1.5 45
be observed in cost and tax calculations whether or not these
Power plants 1.8 75 criteria actually reflect the true projected life of the plant or
Electrochemical process. Table 10.3 lists typical permissible depreciation peri-
plants 2.5 45 ods (the class life) for various plants and investments as
approved by the IRS. In countries other than the U.S., local
Cement plants 3.0 50 taxing authorities should be consulted to determine the per-
Heavy chemical missible life that can be used in depreciation calculations for
plants any particular type of investment.
(small capacity) 4.0 45
Taxing authorities usually permit the use of any generally
accepted method of depreciation calculation provided that it

10.14