Plant investments must compete with new product development and other priorities for limited capital, and the challenge is particularly difficult for infrastructure and utility improvements.

Plant utilities are almost an afterthought when manufacturers establish capital spending priorities, even when efficiency improvements can pay big long-term dividends.

Corporate social responsibility initiatives and sustainability programs help increase the likelihood food companies will tackle energy efficiency and recovery projects not directly related to production, but utilities upgrades still are a hard sell. Even when a lower hurdle rate is applied, infrastructure improvements must generate a return on investment, and in some cases, attaining a respectable ROI is getting harder, not easier.

The funding challenge for high-profile infrastructure projects was laid bare by Dan Fonner, senior manager-global utilities for H.J. Heinz Co., in a presentation at Food Engineering’s 2011 Food Automation & Manufacturing Conference. Since 2005, Heinz’s energy consumption per unit of production is down 15.1 percent, and water use has been reduced by 21.8 percent at 75 facilities worldwide; in absolute terms, energy use declined 13.7 percent over six years. Increasingly, however, efficiency improvements are realized through Kaizen events and other grassroots efforts. Capital projects are playing a diminishing role: Although 101 utility optimization projects have generated ROIs in the 25 to 35 percent range from $13 million in spending, all but a handful were implemented before 2009. Since then, projects that initially looked attractive but might “end up on our balance sheet as a contingent liability” have been rejected, Fonner said.

Nine of Fonner’s 101 utility projects involved compressed air optimization. Air-leak remediation is the poster child for successful Kaizen events, but compressor upgrades are among the toughest funding sells. Consider, for example, Weetabix Co. Inc.’s installation of a 335hp oil-free compressor paired with an energy recovery system at its Clinton, MA facility in late 2010. Even with the local gas and electric utility ponying up half the $471,510 cost (see chart on page 40), the project wasn’t going to move forward until National Grid sweetened its offer with no-interest financing of Weetabix’s share. The company’s 24 monthly loan installments are roughly equivalent to the combined electric and gas savings.

The cereal manufacturer had two oil-lubricated compressors (75hp and 60hp) in a packaging hall and a 200hp oil-free unit in the production building. The packaging compressors “were reaching the end of their useful life,” says Ron Whelan, sales manager in Atlas Copco Compressor’s Springfield, MA office, though plenty of useful life remained on the third. Replacing all three with a single VFD-equipped compressor reduced electrical demand. National Grid also was intrigued by the replacement of a heatless desiccant dryer that consumed significant amounts of compressed air during the regeneration cycle with a closed evaporative cooling system that uses the waste heat from compression to regenerate the desiccant. Waste heat also preheats boiler feed water to 185°F, lowering demand on both the electrical and gas grids. The MD desiccant dryer installed by Atlas Copco “wastes no purge air, and its electrical cost is equivalent to a light bulb,” Whelan says.

Reductions in natural gas costs accounted for a quarter of Weetabix’s ROI calculations. Those savings assumed a cost of $6.83 per thousand cubic feet. That is double today’s price, according to data from the U.S. Energy Information Administration and underscores the vulnerability of ROI assumptions to pricing volatility that can undermine a capital return model. Evaluated from a rearview mirror, yesterday’s can’t-miss project can look like today’s investment sinkhole.

Often, the ROI model assumes energy costs will be flat or will replicate the previous year’s trend. Either way, the assumption can make or break a project. An alternative is to treat energy consumption as a component of cost of goods sold. If the energy inputs per pound of production can be quantified, “it doesn’t really matter if the price is 10 percent more next year or 10 percent less,” notes Diane Wolf, formerly the global vice president-safety and environmental sustainability at Kraft Foods. How effectively a project reduces those inputs determines its value.

“If you are making an investment in automation, you have to make assumptions about labor costs,” Wolf adds. “The same is true about energy costs.” Rather than getting bogged down in regression analyses of future energy costs or suffer recriminations if the savings don’t pan out because of price declines, inputs per pound of production provide a stable measure of project success.

Capital spending over the next 12 months will increase at 59 percent of the food and beverage companies recently surveyed by the accounting firm KPMG LLP. New product launches and business acquisitions are the most likely spending areas, though more than a third (36 percent) identified technology as another significant area for investment. But uncertainty about infrastructure improvements’ ability to positively affect bottom line performance can sidetrack those projects and shift dollars to projects with more clearly defined returns, according to Raman Kansal, national line of business director for food, drink and consumer goods in KPMG’s Chicago office. “Executives are asking us, ‘How do you determine what the return on investment is from energy efficiency and other sustainability investments?’” he relates. “How do you determine the best way to measure if you’re really getting that ROI?” Companies can monetize the return from new products, but the same may not be said about new boilers or air compressors, Kansal adds.

Big, hairy, audacious projects

Food processors and dairy operators are two industrial sectors targeted by Southern California Gas Co. (SCG) for biofuel recovery projects, according to Ron Goodman, biofuels market development manager. SCG is part of San Diego-based Sempra Energy, which provides both gas and electric service to 20 million customers. California mandates that utility companies derive a third of their power from renewable sources by 2020, and it is Goodman’s job to identify operations with enough digestible waste to make biogas projects economically feasible. The onion-waste-to-energy project at Gills Onions exemplifies the kind of projects Goodman looks for (see story on page 42). “There are about 35 states that want to create energy from renewable sources,” he estimates, and many of them, including California, offer cash subsidies to help justify projects.

State and federal tax credits and accelerated depreciation schedules also can help a project pencil out, notes Gary Floyd, sales manager-lighting services group at Georgia Power Co. A refundable federal tax credit of 30 percent is available for renewable energy projects under the Energy Policy Act of 2005, for example, and the state’s Clean Energy Property Tax Credit provides a credit of up to 35 percent. Poultry processors, farms and hatcheries are among the businesses Georgia Power targets, though current economics are not conducive. “There are some high capital costs right now,” says Floyd, a member of the advisory board of the Georgia Tech Research Institute, “and natural gas costs are not conducive.”

Nonrefundable tax credits are only valuable to profitable corporations, points out Michael Marsh, CEO of Western United Dairymen, Modesto, CA, and California dairy operations have only had two profitable years since 2005. His trade group initiated the Dairy Power Production Program (DPPP) when the California Energy Commission allocated $9.64 million in 2001 to subsidize biogas-to-electricity initiatives. That funding is now exhausted, and “there’s just a paucity of funds on the federal side, as well,” says Marsh. But the methane digesters built under DPPP provide a glimpse of the economic viability of biogas projects.

Ten DPPP projects were operational in 2006, including five covered lagoon, four plug-flow digesters and one modified mix-plug flow. A detailed analysis of their economic performance showed a wide range of financial returns, with simple payback of 70 years in one case. When a $500,000 grant was factored in, a simple payback of 5.1 years on net expenses of $739.923 was calculated for the Hilarides Dairy project in Lindsay, CA. Biogas from two covered lagoons powers four engines that drive generators with a combined 500 kW capacity. The emissions those engines produce exceed today’s regulatory limits, making similar projects impossible, says Marsh.

Still, the favorable financial return enabled Hilarides to secure a second grant of $600,000 for a purification and pressurization system that converts the biogas to compressed natural gas (CNG). Diesel engines in the Hilarides fleet were converted to spark-ignited methane burners. CNG from the dairy’s 6,000 cows produces the equivalent of 650 gallons of diesel fuel a day.

Pressure swing adsorption (PSA) is an efficient technique for removing carbon dioxide from biogas to produce pipeline-grade methane, but the economics at today’s natural gas prices make PSA unattractive, particularly if the gas utility requires removal of trace elements of PCBs, mercury and other contaminants, says James P. Hays, senior project manager in the San Diego office of POWER Engineers. The utility can heap additional costs that would sink a project. On the other hand, PSA for a CNG end use might be financially attractive, he adds.

While a detailed economic analysis was never done by the dairy association, Marsh believes the CNG system would be economically viable if diesel sold for $2.50 a gallon. “At $4 a gallon, the payback pencils out,” he says.

Torpedoed improvements

Though government grants are scarce funding sources for food plant utility projects, first year write-offs under the 179 depreciation schedule can improve project payback significantly. Additionally, companies often commit 20 to 30 percent of capital budgets to upgrading systems not directly related to production, points out Wolf, raising the funding likelihood for the most promising initiatives, even if the payback is less than alternative capital applications.

No such guarantee exists at Heinz, where energy projects compete for funding with other initiatives. “My biggest challenge is ROI,” Fonner told FAM 2011 attendees. Even projects with strong backing from top management can wither on the vine or spend years in project-approval limbo.

He cited the example of a 600 kW solar project that would have generated a 20 percent internal rate of return and a simple payback in 3.8 years. The solar array, which was to be installed in San Diego, CA, would have generated almost 1 million kWh annually and saved more than $2.2 million in electric costs over 10 years. Between the federal renewable energy credit and a five-year grant, three-fifths of the $4 million cost would be covered, and depreciation allowances would have covered the balance. “Credits and depreciation made it look good, but it would end up on our balance sheet as a contingent liability, so it was a no-go,” Fonner said.

A bold water recycling and biogas generation project at the company’s Ontario, OR potato processing facility drew the CEO’s enthusiastic support, but after a year and a half review, it too was shelved. The filtration system would have recycled one billion gallons of water annually, about 90 percent of the facility’s consumption, with residual solids converted to biogas. Positive cash flow of $700,000 to $1 million was projected, and a resolution to an impending moratorium on discharges to the Snake River would be in place. Even after a 15-year lease with a third party that would own and operate the system was considered, the project was scrubbed, despite requiring no money down and having no impact on Heinz’s balance sheet.

The leasing option bumped the project’s price tag to $50 million, enough to give any organization second thoughts. But for capital-constrained companies, the involvement of energy services companies that install and operate a project and then sell the resulting energy to the manufacturer at a fixed cost can be attractive, says POWER Engineers’ Hays, particularly if the in-house engineering staff lacks the time or expertise to undertake the project.

Third-party owned and operated capital projects are becoming more common, Wolf agrees, citing combined heat and power systems with a lease-back arrangement that are owned and operated by third parties as an example. For many food companies, the only options are “using someone else’s money or doing nothing.”

Available time may be a bigger deterrent than available capital for non-production oriented projects, particularly at mid-sized companies, suggests Atlas Copco’s Whelan. Rebates, grants and other subsidies drive 90 percent of the compressor upgrades he installs, and the largest food companies “have a fleet of engineers” who can build those subsidies into ROI models that already account for accelerated depreciation and tax credits. “It’s the medium-sized companies that are understaffed from an engineering standpoint” that struggle with the cost justification, Whelan says. Even when the improvement pencils out, those engineers may prefer to spend their time on projects that directly impact production.

In the case of Weetabix, staff time was the only invested asset. While a simple payback of 15 months was calculated by Atlas Copco, free financing and utilities savings roughly equal to principal payments means there was never any financial capital at risk, only human capital.

Credit availability is easing and borrowing costs are down, notes KPMG’s Kansal, though he doubts that will make infrastructure improvements any more likely. Merger and acquisition activity is heating up, and firms readying themselves for sale are more likely to cut back on basic maintenance and plow available funds into high-profile product launches than underwrite improvements that will benefit the new owner. A low priority to begin with, nonproduction-related improvements are becoming even harder to justify.

As the complexity of corporate finance increases, it becomes more difficult to identify and champion the plant improvements that will be most beneficial. If infrastructure projects are to occur, engineers need to ensure all the funding and financial aspects of project payback are considered.  

For more information:

Ron Whelan, Atlas Copco Compressors, 413-493-7290

Raman Kansal, KPMG, 312-665-1000

Jim Hays, POWER Engineers, 858-810-5303, jim.hays@powereng.com

Ron Goodman, Southern California Gas Co., 213-244-5814, rgoodman@semprautilities.com