Guidelines for calculation of incremental costs in tobacco expansion projects

In the absence of experience with implementation of projects in this sector, and pending a judgment by TEAP on the classification of CFC-11 use in tobacco expansion as a process agent, the following draft guidelines are conceptual at this stage.

Capital costs

Industry sources informed the Secretariat that the main part of CFC-11 based equipment cannot be used when switching to CO₂. Therefore, new production equipment suitable for CO₂ must be installed.

If the same methodology used in the Philippines tobacco expansion project were to be applied, the baseline cost would be either the cost of new CFC-11 expansion equipment calculated as a future payment and discounted to the present year; or the depreciated value of the existing CFC-11 expansion equipment, whichever amount is higher.

Capacity of CFC-11 expansion process (baseline equipment) and that of CO₂ process should be the same. If the minimum capacity delivered by the CO₂ process is higher than the baseline, the difference should be calculated and accounted for as a capacity increase. This capacity increase should be quantified and deducted from the capital cost.

Thus, the eligible incremental capital cost (ICC) should be calculated according to the methodology adopted by the Executive Committee at its Eighteenth Meeting (UNEP/OzL.Pro/ExCom/18/75 Decision 18/25):

      IC   =    [CC - NPV(FI)] + NPV[FB_b - Fb_p]

      where,

      IC is the incremental cost

      CC is the capital cost of the conversion project

      FI is future baseline investments (that would have occurred absent the conversion).

      Fb_b is the future baseline benefits (that would have occurred absent the conversion).

      Fb_p is the future benefits of the conversion project

      NPV refers to the net present value of a stream of costs/benefits

The projected investment and benefits profiles of the enterprise (with and without the conversion project) should be reviewed by the technical reviewer and the Implementing Agency to ensure broad consistency with the technological and commercial practices of the enterprise.

Capital costs should not include costs of patents.

Operating costs

The two major components of operating costs/savings in tobacco expansion are the patent royalty fee, applicable to both CFC-11 and CO₂ processes, and the costs associated for raw materials, energy and labour.

In some cases, the license agreement for the G-13C equipment stipulates a royalty fee of US $0.10 per pound on all tobacco treated, and has a duration of the last-expired G-13C patent unless terminated earlier. In other cases, the license agreement stipulates a royalty fee of US $0.12 per pound for the first 50 million pounds, and US $0.09 for each pound produced thereafter for the lifetime of the patent. It is to be noted that if royalty fees were to be passed on to the end-user, the incremental cost per package of cigarettes would be about US $0.004.

The license agreement between the technology provider and the enterprise is, however, negotiable. It may depend on several factors, which include inter alia, the existing license agreement, expiration date, equipment capacity and production. However, the Executive Committee is requested to decide whether royalty fees should be paid for by the Multilateral Fund for this sector.

The amount of raw materials, electricity and fuel used for tobacco expansion varies depending on the compound used for expanding tobacco. The higher expansion ratio achieved by the CO₂ process will result in 25% less tobacco compared with the CFC-11 process, as indicated by industry sources. Table 1 demonstrates the operating costs of the two technologies as applied to a plant that processes 5.9 million kilograms of raw tobacco. Information in this table could be used as a guide in the calculation of incremental operating costs/savings.

Table 1

COMPARISON OF OPERATING COSTS OF CFC-11 AND CO₂ EXPANSION PROCESSES

Amount of expanded tobacco (kg/year)                          5,900,000

CFC-11 equipment capacity (kg/hr)                                        192

CO₂ equipment capacity (kg/hr)                                              567

Expansion ratio (CFC-11)                                                     75%

Expansion ratio (CO₂)                                                         100%

(UNEP/OzL.Pro/ExCom/20/72, Decision 20/44, para. 66).

(Supporting document: UNEP/OzL.Pro/ExCom/20/64).