Proper time horizon for projects

[DennyO]

I have a big "selling" job to do, to justify an approximate $8 million dollar investment for a sorter in a distribution firm. I have a very good rate of return, 22% after tax, if I use a 15 year time horizon, which is very much in keeping with the equipment capability and our own past practices with such equipment. In fact the project would involve replacing an aging 24 year old piece of equipment mnow used to sort the items in question.

However, our corporate finance people insist that such equipment investment projects use strictly a 5 year horizon, and in this short term light, the return is actually negative.

Does anyone know of references in the literature I could research to get our financial "wizzes" to budge on this?

I have tried appealing to their common sense, even gave a comparison to an electric utility I am familiar with which uses 18 and 20 year time horizons, but to no avail, I am guessing they do not possess any common sense, but have locked themselves into a mental strait jacket on this..

 

[Iskit4iam]

Unless your organization has zero debt and tons of unspent cash you are not going to move them. Even then you probably won't move them.

Their job is to set priorities for how to spend a limited resource, capital. If you only had 8MM to invest and one project paid a return in five years and the other fifteen where would you spend your money?

Having said all that I'll tell you about a project I did with exactly the same problem. In fact, my first conclusion was not to do the project but I got so much flack from my colleagues I had to go back and convince management I made a mistake. Assuming that you've inflated and extrapolated all the cost streams associated with the equipment and there is no room there. The "mistake" I made was not projecting the cost of replacing the machine in the future. At some point it has to be replaced, right? I put the future cost of replacemnt into my cost avoidance stream. At the time inflation was 4% so I compound inflated the present cost five years, included that avoided cost in the analysis and my return went positive big time. Now you're arguing engineering; is the machine dead in five years or isn't it; not accounting. Good Luck

 

[owg]

In my experience, corporate defines the the measuring device for projects from around the corporation. For them, the important thing is that everyone uses the same yardstick. If 5 years seems short, then perhaps you can put in a substantial "scrap value" for the sorting machine at the end of 5 years. Maybe you have been too conservative with your revenue stream. Look at the variables that corporate does not control and see if you can make the numbers show what you know to be the real opportunity.

HAZOP at

http://www.curryhydrocarbons.ca

 

[flexibility]

Denny

As far as I know 5 years used to be quit an exceptable time limit. Today with the advancement of technology and new products I would say that 5 years is too risky.

You may use my colleagues advise of including substantial "scrap value" for the sorting machine at the end of 5 years.

I would suggest that you reconsider your proposal and find new processing technology and resources that cost less and results with ROI in less than 5 years.
There is no one solution to any problem.

 

[owg]

Here is a quote from Hydrocarbon Processing, Jan 1982, page 204. "The operating period is an estimate of the length of time in which a facility is expected to operate profitably. It may be long as 30 years for projects which have a secure feedstock supply, serve a stable market, are not prone to rapid physical deterioration, and are not likely to be made prematurely obsolete by technical advances." You can see that the operating period is related to factors beyond the machine. If you convince corporate that they are wrong, they will have to go to the other divisions and explain why they were wrong and you were right. It isn't going to happen.

HAZOP at

http://www.curryhydrocarbons.ca