-------
TABLE 3-9
IMPORTS OF ALUMINUM FORMING PRODUCTS
AS A PERCENT OF TOTAL CONSUMPTION, 1970-1981
(percent)
Year
1970
1971
1972
1973
1974
1975
1976
1977
1978
1979
1980
1981
Sheet and
Plate
3.8
3.3
3.0
1.8
1.3
2.8
2.8
2.2
6.7
5,7
2.3
4.3
Foil
5.4
4.8
4.0
2.6
2.1
0.9
1.6
1.4
2.6
1.8
1.1
1.6
Rod, Bar, and
Bare Wire
9.8
6.6
6.4
3.8
5.3
6.0
6.6
7.4
6.5
11.0
4.9
14.7
Tube and
Extruded
Shapes
0.3
0.2
0.2
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
0.1
Conductor
Wire and
Cable
0.3
0.1
0.1
0.1
0.2
0.1
0.1
0.1
*
*
*
NA
Forgings
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
NA
*Less than .05 percent.
NA = Not available
Source: The Aluminum Association, Aluminum Statistical Review.
3-21
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be passed through depends on the price-setting behavior within the industry
(i.e. intra-industry competition) and the market acceptance of price increases
as measured by the price elasticity of demand. The following discussions
cover these topics.
3.7.1 Price Elasticity of Demand
The price elasticity of demand measures the degree of responsiveness of
quantity demanded to price changes. An elasticity coefficient of between -1.0
and 0 refers to a generally inelastic (less responsive) market reaction to
price increases, while a coefficient of -1 or less will portray an elastic
(more responsive) market reaction. A price increase for a product with an
inelastic coefficient will yield a less than proportional reduction in
quantity demanded while a similar price increase for a product with an elastic
coefficient will result in a more than proportional reduction in quantity
demanded. For example, if a product with a price elasticity coefficient of
-0.6 experiences a price increase of 2 percent, the quantity demanded will
decrease by 1.2 percent (i.e., 0.6 times 2) which is less than the price
increase.
In general, the price elasticity of intermediate products such as the
aluminum forming products, are influenced by two main factors:
1) The number and closeness of substitutes
2) The proportion of the aluminum forming product cost in relation to
the total cost of the final product.
Substitutions can occur at several levels from raw materials to inter-
mediate to end products. At the raw or intermediate material level, manufac-
turers using aluminum forming products can either switch to other materials or
redesign their products to reduce their dependence on aluminum. If increased
aluminum prices cause increases in the prices of intermediate and end
products, the quantity demanded of these products may decline. These effects
are variable from one product to another, depending upon ease of substitution
and the ratio of the aluminum forming product cost to the total cost of the
3-22
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end products. The greater this ratio, the greater the potential impact on the
final product's price. Moreover, the greater this ratio, the greater the
likelihood that aluminum users will consider or search for substitutes.
For this study, econometric models were used to estimate the demand
elasticities for each of the six aluminum forming products and to project
their demand for 1985 and 1990. A description of the model appears in
Appendix D.
Table 3-10 summarizes the price elasticity estimates which are derived
from the demand model. Except for the wire and cable product group, all the
elasticity estimates are inelastic (i.e. less than one). This is consistent
with our, a priori expectations for each of the product groups. The long-run
price elasticity estimates shown in Table 3-10 range from -.4 for. the foil and
forging groups to -1.1 for the conductor wire and cable group. These
elasticity estimates, derived from the empirical model, are used in the impact
analysis described in Chapter 6.
3.7.2 Industry Competition
As described in Chapter 2, the level of competition is assessed through
the evaluation of industry concentration, product specialization, pricing
practice, profitability, capacity utilization rates, and capital intensity.
The four-firm and eight-firm concentration ratios shown in Table 3-3
indicate that the products which account for most of the output of the
aluminum forming industry are highly or moderately concentrated. Thus, the
pricing and output decisions of each firm in the market will have significant
effects on that of the other firms.
Most aluminum forming products are relatively undifferentiable. They
have well-defined physical and performance properties that generally conform
to standards specified by users. Thus, efforts at creating separate markets
through such means as advertising and marketing do not significantly affect
the price-setting behavior of firms in this industry.
3-23
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TABLE 3-10
ALUMINUM PRODUCT GROUP
PRICE ELASTICITY ESTIMATES
Aluminum
Product Long-Run
Group Elasticities
Sheet and Plate -.6
Foil -.4
Tube and Extruded -.9
Shapes
Rod, Bar, and Bare Wire -.8
Conductor Wire and -1.1
Cable
Forgings -.4
Source: JRB Associates estimates.
3-24
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It is difficult for a firm in the aluminum forming industry to increase
its market share simply by a price reduction. This is because a price cut
will usually be met by other firms in the industry. This condition hinders
pricing competition and sometimes develops into what is known as "price
leadership." A firm holding a large or the largest market share for a product
acts as a "price leader". When the "price leader" raises or lowers quoted
prices of the product, other major firms in the industry follow. The pricing
history of the industry indicates that the action of price leaders seems to
have been a significant determinant of pricing behavior.
Nevertheless, there is evidence of a certain degree of price competition
in the industry. On previous occasions, price leaders' attempts to change
prices failed due to consumer resistance, other firms' anticipation of
consumer resistance to a price increase, or the reluctance of other firms to
drop prices during periods of high capacity utilization. The discounting of
orders, which has been a prevalent practice in the industry, especially in
times of excess supply, is further evidence of competitive behavior.
Comprehensive information is not available on the extent of discounting on an
industry-wide basis since it is done on an individual firm basis and no
publicly available records were available.
As shown in Section 3.4, profit rates in the aluminum forming industry
are not excessive. In addition, the industry is highly cyclical and profit-
ability varies with the economic activity.
Capital intensity varies among the product groups. For most of the
industry's output it is high, with asset turnover ratios (i.e., sales to
assets) about 1.5. This is an indication of difficulty of entry into this
industry. Also, this suggests that firms consider it important to sustain
high levels of capacity utilization; therefore, in periods of low demand,
price competition may become an important factor.
3.7.3 Summary of Findings on Price Determination
The analysis of market structure and performance of the aluminum forming
industry reveals some characteristics that are indicative of competitive
3-25
-------
markets and some that are indicative of imperfectly-competitive markets. The
industry's characteristics that are indicative of imperfectly-competitive
markets include generally inelastic demand, high concentration, high capital
requirements (which indicate difficulty of entry into the market) and
instances of "price leadership." At the same time, the industry exhibits
characteristics of competitive pricing situations such as the existence of
relatively homogeneous products, relatively "normal" profit rates, and
periodic oversupply resulting in price discounts. Because of the conflicting
information regarding the industry's market structure, the industry's pricing
conduct cannot be classified specifically as clearly competitive or clearly
non-competitive.
3-26
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4. BASELINE PROJECTIONS OF INDUSTRY CONDITIONS
This section provides projections of conditions in the aluminum forming
industry to 1990 under the assumption that there would be no water pollution
control requirements resulting from the Clean Water Act. These projections
are used together with estimated costs and other information to assess the
effects of the effluent control requirements on future industry conditions.
The baseline projections in this report provide a general point of
reference for the analysis and are not intended to be a comprehensive,
authoritative forecast of future industry conditions. These projections
provide a plausible picture of future developments, and thus can be used as a
benchmark for comparison. Although minor changes to the baseline may result
from a more comprehensive treatment of forecasting techniques, they are not
likely to significantly alter the study's overall conclusions regarding the
extent of the economic impacts of the effluent guidelines.
The basic approach followed in developing the projections begins with a
forecast of demand-related factors. Then, using the resulting initial volume
estimates, industry supply factors are assessed to determine if there would be
any significant changes in the level of capital requirements and anticipated
growth in terms of the number of plants and quantity of production.
4.1 DEMAND-RELATED FACTORS
The primary reason for beginning the baseline projections with the demand
analysis is based on the hypothesis that the aluminum industry supply factors
will adjust to demand conditions. This results from two factors: (1) the
aluminum industry group is a small proportion of the total economic activity
in the U.S. and is, therefore, more likely to react to general trends rather
than influence them; and (2) the demand for aluminum products is a derived
demand, depending on the sales and use of thousands of other products that use
aluminum, such as automobiles, refrigerators, air conditioners, and other
electrical products.
4-1
-------
Demand forecasting is an inexact discipline, with considerable dependence
on individual judgment and simplifying assumptions. Each forecasting
technique has its own particular advantages and disadvantages, which could
result in different types of errors. The requirement for this study is not a
precise, comprehensive forecast of industry conditions; instead this study
requires an approximate estimate of the likely trends in quantity of aluminum
forming products demanded. To make this approximation, a regression analysis
was performed.
Regression analysis is a statistical technique used to summarize the
relationship between the fluctuations in the value of a variable and that of
the variables that are believed to cause these fluctuations, or explanatory
variables. It is an empirical tool that is extensively used in business and
economic analyses to explain relationships between variables and to predict
market phenomena. In demand analysis this technique is used to relate changes
in quantities of a product demanded to the level of activity in economic
entities that use the product and to product prices and prices of substitute
and complementary products. Once such a relationship is established, a
forecast of the future demand conditions can be made based on exogenous
predictions of the explanatory variables.
In this analysis, it is assumed that there is a causative flow of
activity that runs from macroeconomic activity to activity in industries that
produce investment and consumer goods to activity in industries that produce
fabricated metal products to the aluminum forming industry itself. Thus,
activity variables were sought for which exogenous forecasts are readily
available from such sources as the Wharton EFA model, Predicasts Inc., and
the Data Resources Inc. model. These activity variables consisted of general
economic indicators, such as the Federal Reserve Board industrial production
indexes, GNP, and personal consumption expenditures. The price of aluminum
products is expressed relative to other metal products. The prices of
substitute and complementary products were tested, but found to be statis-
tically insignificant.
4-2
-------
After testing a variety of functional forms, different estimation time
periods and price variables, a dynamic model of the log-log form employing a
Koyck distributed lag structure was selected for use in the baseline forecast.
The explanatory variables, time period, structure, and statistical properties
of this model are described in Appendix D. The projections derived from the
model are reported in Table 4-1.
The demand for aluminum forming products is found to be highly cyclical,
primarily because they are used in the manufacture of durable goods, the
demand for which is highly cyclical. The projections shown in Table 4-1
indicate a trend ranging from almost no growth for the forging, and wire and
cable product groups to five percent annually for the sheet and plate group.
4.2 SUPPLY FACTORS
The primary supply factors of interest are the number of industry
establishments, prices, profits and industry locations.
4.2.1 Number of Industry Establishments in 1990
This subsection addresses the number of baseline closures and new sources
that might be expected during the 1980s. The above forecasted increase in
demand through the 1980s can be supplied by (a) increasing capacity
utilization at current plants, (b) modifying current plants to increase their
capacity, (c) constructing new plants, and (d) increasing imports. Since
aggregate industry output is expected to increase, baseline closures would not
likely result from economic trend.
During the 1980-82 period, capacity utilization at aluminum mill products
plants has been low. A significant portion of the increased demand during the
1980s can be met by increasing operating levels at existing facilities.
Therefore it is unlikely that a substantial number of new plants will be
opened during the 1980s. There may, however, be modifications at existing
plants. There is insufficient information to determine the number of
modifications that will be substantial enough to be subject to new source
standards.
4-3
-------
TAHLE 4-1
PROJECTIONS OF DOMESTIC CONSUMPTION OF ALUMINUM FORMING PRODUCTS
Year
1974
1975
1976
1977
1978
1979
1980
1981
Projected
1985
1986
1990
1970-1980
1975-1980
1979-1980
1980-1981
Projected
1981-1985
1985-1990
Sheet
and
Plate
5314
3882
5376
5821
6488
6209
5551
5756
7427
8654
9643
55.8
43.0
-10.6
3.7
29.0
29.8
Foil
745
606
769
803
886
884
802
842
972
1085
1188
37.6
32.3
-9.3
5.0
15.4
22.2
Tube and
Extruded
Shapes
(Millions of
2287
1549
2043
2286
2474
2390
2178
2082
2288
2411
2506
(Percentage
24.2
40.6
-8.9
-4.4
9.9
9.5
Rod , Bar
and
Bare Wire
Pounds)
410
257
376
206
390
409
379
324
353
396
440
Growth)
66.2
47.5
-7.3
-14.5
9.0
24.6
Conductor
Wire and
Cable
980
644
598
671
754
815
734
637
758
762
765
-0.9
14.0
-9.9
-13.2
19.0
0.9
Forgings
109
79
80
100
116
123
104
106
106
106
106
55.2
31.6
-15.4
1.9
0
0
Source: JRB Associates estimates
4-4
-------
As discussed in Section 3.8, the U.S. has always been a net exporter of
aluminum mill products and time series data does not indicate any shift in
this situation. Moreover, imports and exports are a small proportion of total
domestic consumption. However, as history indicates, periodic strains on
domestic capacity may cause aluminum mill product users to turn to foreign
suppliers.
For the above reasons, there is no reason to expect significant changes
in the number of aluminum mill products plants during the 1980s.
4.2.2 Product Price and Profitability
If the price of aluminum forming products were to change substantially
relative to those of competing products, then the aforementioned demand
relationships may change. In addition, changes in industry profitability will
change the industry's ability to finance the pollution control equipment. To
account for these possible situations, a review of the factors affecting costs
was conducted to determine the likelihood of such changes during the 1980s.
The primary factors of production in this industry are raw materials,
energy, capital, and labor. Although energy costs are potentially volatile,
it is believed that they would not increase more than the general price levels
(e.g., GNP deflator) in the future. There is currently an over supply of oil
in the World today which is placing a downward pressure on the price of oil
and energy in general. This downward pressure on oil prices is expected to
last during the 1980's as OPEC continues to lose its market share and the
concomittant power to maintain artificially high prices. Labor, capital and
other costs are expected to increase at the same rate as those of other
industries. Because the industry's cost structure and market structure is not
expected to change significantly during the 1980s, there is no reason to
expect significant changes in the profitability of aluminum forming.
4-5
-------
4.3 SUMMARY OF BASELINE CONDITIONS
The following summarizes the major conclusions of the baseline analysis:
Industry demand for aluminum forming products will grow moderately.
Prices of aluminum forming products will increase at about the same
rate as those in the general economy.
The number of establishments will not change significantly during the
1980s and there will be no baseline closures.
Insufficient information is available to reliably estimate changes in
profitability measures for the industry. However, no reason was found
to expect it to change and the economic analysis was conducted under
the assumptions that profit rates remain at normal levels.
These conclusions are used in Chapter 6, in conjunction with other
information, to estimate the likely economic impacts to result from the
regulations.
4-6
-------
5. COST OF COMPLIANCE
5.1 OVERVIEW
The recommended water treatment control systems, costs, and effluent
limitations for the aluminum forming category are enumerated in the Develop-
ment Document for Effluent Limitations Guidelines and Standards for the
Aluminum Forming Point Source Category, cited earlier. That document
identifies various characteristics of the industry, including the
manufacturing processes; products manufactured; volume of output; raw waste
characteristics; supply, volume, and discharge destination of water used in
the production processes; sources of wastewaters; and the constituents of
wastewaters. Using the data in the Development Document, pollutant parameters
requiring limitations or standards of performance were selected by EPA.
The EPA Development Document also identifies and assesses the range of
control and treatment technologies within each industry subcategory. The
assessment procedure involved an evaluation of both in-plant and end-of-pipe
technologies that could be designed for each subcategory. Information about
these technologies for existing surface water industrial dischargers was
evaluated to determine the effluent limitations required for the Best
Practical Control Technology Currently Available (BPT), and the Best Available
Technology Economically Achievable (BAT). A similar evaluation was performed
for existing dischargers to publicly owned treatment works (POTWs) to develop
Pretreatment Standards for Existing Sources (PSES). Finally, New Source
Performance Standards (NSPS) and Pretreatment Standards for New Sources (PSNS)
were developed. The identified technologies were analyzed to estimate cost
and performance of each. Cost data were expressed in terms of investment,
operating and maintenance costs, depreciation, and interest expense.
Pollution characteristics were expressed in terms of volume of wastewater
produced per unit of mass of product (gal/ton or 1/kkg) for each subcategory.
5.2 POLLUTANT PARAMETERS
The selection of pollution parameters for the application of effluent
limitations guidelines and standards was primarily based on a review of
5-1
-------
laboratory analyses of wastewater samples from 20 aluminum plants and
responses to a mail survey submitted to 580 firms . This information was
used to estimate the concentration of each of the 129 priority pollutants as
well as the "conventional and non-conventional pollutants" in the study of
water pollution. The specific approach to selecting pollutant parameters is
presented in Sections V, VI, IX, X, XI and XII of the Development Document.
5.3 CONTROL AND TREATMENT TECHNOLOGIES
Based on the analysis of the significant pollutant parameters and treat-
ment in place in the aluminum forming category, EPA identified 6 treatment
technologies that are most applicable for the reduction of the selected
pollutants. These treatment technologies are described in detail in the
Development Document and are listed below:
Treatment Option 1: Hexavalent chromium reduction, cyanide removal
and chemical emulsion breaking (where applicable); oil skimming;
chemical precipitation; sedimentation
Treatment Option 2: Option 1 plus flow reduction by recycle, and
counter-current rinsing
Treatment Option 3: Option 2 plus polishing filtration after settling
Treatment Option 4: Option 2 plus thermal emulsion-breaking to
achieve zero discharge of emulsified lubricants
Treatment Option 5: Option 4 plus polishing filtration
Treatment Option 6: Option 5 plus granular activated carbon as a
preliminary treatment step.
EPA evaluation of Treatment Option 6 concluded that this technology would
provide only minimal incremental removal of pollutants at significantly higher
costs than the other options. For this reason, Treatment Option 6 was
eliminated from consideration. Furthermore, Treatment Options 4 and 5 are not
being considered for promulgation. Consequently, the economic impact analysis
concentrated on Treatment Options 1, 2 and 3 only.
279 responses applicable to the aluminum forming category were returned.
5-2
-------
5.4 COMPLIANCE COST ESTIMATES
5.4.1 Cost Factors, Adjustments, and Assumptions
In developing the compliance cost estimates, a number of critical factors
were estimated, and adjustments and assumptions were made by EPA. These
assumptions, as outlined in the Development Document, are as follows:
All costs are expressed in January, 1978 dollars.
The cost of electricity used is 4.0 cents per kilowatt
hour, which is based on the average value reported in the
industry survey.
Capital costs are amortized at 10 years and 12 percent
interest. The annual cost of depreciation was calculated
on a straight line basis over a 10-year period.
Subsidiary costs associated with system construction are
included in the system cost estimates. These include:
- major and auxiliary equipment
piping and pumping
- shipping
sitework
installation
- contractors' fees
- electrical and instrumentation
- enclosure
- contingencies
- engineering, and
- yard piping.
Sludge disposal costs are included in the cost estimates,
where applicable.
The cost of land has not been included in the cost
estimates.
Where a batch, continuous, or haul-away treatment system
was possible, the system with the lowest life cycle cost
(over a 10-year period) was selected for presentation in
the system cost table.
A labor rate of 20 dollars per man-hour, including fringe
benefits and plant overhead was used to convert the
man-hour requirements into annual cost.
5-3
-------
5.4.2 Compliance Costs of Existing Sources
The economic analysis covers 271 aluminum forming plants. However, the
compliance costs do not affect 140 "zero discharge" plantsi.e.,plants at
which no process wastewater is generated. Those affected are 131 plants
discharging wastes: 59 plants discharging to surface waters (direct
dischargers) and 72 discharging to publicly owned treatment works (indirect
dischargers). Plant-specific compliance costs estimates are available for 123
plants (57 direct and 66 indirect), and these are extrapolated to estimate the
costs for all 131 dischargers in the industry.
Table 5-1 shows that total industry annual compliance costs range between
$27.4 million for Treatment Option 1 and $33.8 million for Treatment Option 3
in 1978 dollars. Capital investment requirements vary between $45.9 million
for Treatment Option 1 and $63.8 million for Treatment Option 3.
Table 5-2 and 5-3 summarize the compliance costs for direct and indirect
dischargers respectively. The selected option for both the direct and
indirect dischargers is Option 2. These tables show that the costs of the
regulations as measured by the annual compliance cost to revenue ratios are
higher for the indirect dischargers than for the direct dischargers. This is
primarily because direct dischargers generally have more treatment equipment
already in place.
5.4.3 Compliance Cost of New Sources
Compliance costs of new source normal plants are estimated for treatment
options 1, 2, and 3. Table 5-4 summarizes the compliance cost estimates of
these alternatives by each technical subcategory. The costs apply to existing
facilities that are substantially modified and to greenfield (new) plants.
Section 8 of the Development Document explains in detail the composition of
the aluminum forming normal plants.
The 1978 EPA survey identified 279 plants in operation in 1977. Since then
eight have either shut down or discontinued aluminum forming production.
5-4
-------
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6. ECONOMIC IMPACT ANALYSIS
This section provides an assessment of the economic impacts which are
likely to occur as a result of the costs of the effluent treatment
technologies described in Chapter 5. It is based upon an examination of the
estimated compliance costs and other economic, technical, and financial
characteristics of 263 plants for which compliance costs have been estimated.
Because of lack of data, compliance costs are not estimated for eight plants
(all extrusion plants) and they are not included in this analysis. The
analytical methodology used is described in Chapter 2. The primary economic
impacts discussed include changes in industry profitability, plant closures,
substitution effects, changes in employment, shifts in imports and exports,
and industry structure effects.
The 263 plant sample represents about 97 percent of the plants in ;he
industry, and contains a wide range of both large and small plants.
Furthermore, this sample includes 123 (94 percent) of the 131 known
discharging plants in the industry. Therefore, the sample appears to
adequately represent the industry for the purposes of this study.
6.1 BASELINE CONDITIONS
As presented in Chapters 3 and 4 of this report the following factors
point to a favorable baseline projection:
The demand for aluminum forming products, although cyclical, has
exhibited an upward trend,
A continuation of this growth pattern is projected through the 1980s,
The number of plants in the industry has been generally constant
through the 1970s.
6-1
-------
There is no evidence of general industry conditions that would lead to
attrition in the baseline number of plants, ' volume of production, or number
of employees in the industry.
6.2 PRICE AND QUANTITY CHANGES
Table 6-1 shows the industry-wide price increases and the resulting
quantity changes for each compliance option estimated from the pricing
strategy model described in Chapter 2. The price increases are generally
small, not exceeding one percent for any option. Similarly, the quantity
changes are also very small. The percentage changes in price and quantity are
small in comparison to the forecasted growth rate of the aluminum forming
industry. The small changes in quantity demanded suggest that the major
impacts, to the extent they exist, will be intra-industry. That is, the
degree to which the unit compliance costs are unequally distributed across the
industry will determine the extent of the impacts.
After the industry-wide price and quantity adjustments are determined,
the individual plant impacts are examined. The following sections focus on
these impacts.
6.3 MAGNITUDE OF COMPLIANCE COSTS
To evaluate the magnitude of the costs of the regulations, the ratios of
annual compliance costs to revenues (ACC/R) and compliance capital investment
to revenues (CCI/R) ratios are calculated for each plant. Tables 6-2 and 6-3
present the distribution of the ACC/R and CCI/R ratios respectively, for the
263 aluminum forming sample plants. These tables indicate that the financial
burden of the regulations is estimated to be greatest for the extrusion, wire
drawing and forging plants. A detailed impact analysis which determines
potential plant closures and other impacts is presented in the following
sections.
Although eight plants have been identified to have either closed down or
discontinued their aluminum forming operations since 1977, these instances
are due to special individual market conditions and/or corporate marketing
strategy and are not representative of the general industry growth pattern.
6-2
-------
TABLE 6-1
ANTICIPATED INDUSTRY PRODUCT PRICE AND PRODUCTION CHANGES (in percent)
Product Group
Option 1
dP/P dQ/Q
Option 2
dP/P dQ/Q
Option 3
dP/P dQ/Q
Sheet & Plate 0.19 -0.11 0.24 -0.14 0.27 -0.16
Foil 0 00000
Tube & Extruded
Shapes 0.64 -0.58 0.71 -0.64 0.75 -0.68
Rod, Bar, and
Bare Wire 0.36 -0.29 0.36 -0.29 0.38 -0.30
Conductor Wire
and Cable 0.25 -0.29 0.26 -0.29 0.28 -0.31
Forging 0.76 -0.30 0.79 -0.32 0.83 -0.33
Sheet and Plate/
Foil/Tube &
Extruded Shapes
(SFE)a' 0.13 -0.07 0.17 -0.09 0.19 -0.10
Rod, Bar, and Bare
Wire/Conductor
Wire and Cable
(RBW) ' 0.31 -0.31 0.31 -0.31 0.33 -0.33
dP/P m change in price f pre-compliance price (percent)
dQ/Q = change in quantity r pre-compliance quantity (percent)
Weighted average of Sheet and Plate (70 percent) and foil (30 percent)
product groups.
Weighted average of Rod, Bar and Bare Wire (50 percent) and Conductor Wire
and Cable (50 percent) product
groups.
Source: JRB Associates estimates.
6-3
-------
TABLE 6-2. DISTRIBUTION OF ANNUAL COMPLIANCE
COST TO REVENUE RATIOS
Number
Product/Group of Plants
Option in Sample
Sheet & Plate 21
Option 1
Option 2
Option 3
Foil 6
Option 1
Option 2
Option 3
Tube and
Extruded Shapes 150
Option 1
Option 2
Option 3
Conductor Wire
and Cable 44
Option 1
Option 2
Option 3
SFE3' 20
Option 1
Option 2
Option 3
RBWb/ 6
Option 1
Option 2
Option 3
Forging 16
Option 1
Option 2
Option 3
Total Sample 263
Option 1
Option 2
Option 3
Nt
Number
of Dis-
chargers 0-0.5
11
8
8
7
0
0
0
0
74
12
9
8
9
4
4
4
12
12
11
11
5
3
3
3
12
1
1
1
123
40
36
34
Number of Sample Discharging Plants
with ACC/R (in percent)
0.5-1
2
2
2
0
0
0
29
23
18
1
1
1
0
1
1
0
0
0
4
4
4
36
31
26
1-2
1
1
2
0
0
0
23
32
37
3
3
3
0
0
0
2
2
2
3
3
3
32
41
47
2-5
0
0
0
0
0
0
9
9
10
1
1
1
0
0
0
0
0
0
3
3
3
13
13
14
>5
0
0
0
0
0
0
1
1
1
0
0
0
0
0
0
0
0
0
1
1
1
2
2
2
a/
b/
Sheet & Plate/Foil/Tube and Extruded Shapes
Rod, Bar & Bare Wire/Conductor Wire & Cable
Source: JRB Associates estimates.
6-4
-------
TABLE 6-3. DISTRIBUTION OF COMPLIANCE CAPITAL
INVESTMENT TO REVENUE RATIOS
Number of Sample Discharging Plants
Number
Product Group/ of Plants
Option
Sheet & Plate
Option 1
Option 2
Option 3
Foil
Option 1
Option 2
Option 3
Tube and
Extruded Shapes
Option 1
Option 2
Option 3
Conductor Wire
And Cable
Option 1
Option 2
Option 3
SFEa/
Option 1
Option 2
Option 3
b/
RBW '
Option 1
Option 2
Option 3
Forging
Option 1
Option 2
Option 3
Total Sample
Option 1
Option 2
Option 3
in Sample
21
6
150
44
20
6
16
263
Number
of Dis-
chargers 0-1
11
8
7
7
0
0
0
0
74
30
26
25
9
5
5
5
12
11
10
9
5
3
3
3
12
1
1
1
123
58
52
50
with CCI/R (in
1-2
2
3
2
0
0
0
20
17
15
2
2
0
1
2
3
0
0
0
4
3
3
29
27
23
2-5
1
1
2
0
0
0
23
29
32
2
2
4
0
0
0
2
2
2
7
7
6
35
41
46
percent)
5-10
0
0
0
0
0
0
1
2
2
0
0
0
0
0
0
0
0
0
0
1
1
1
3
4
>1
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
0
1
0
0
0
a/
b/
Sheet & Plate/Foil/Tube and Extruded Shapes
Rod, Bar & Bare Wire/Conductor Wire & Cable
Source: JRB Associates estimates.
6-5
-------
6.4 PROFIT IMPACT ANALYSIS
The assessment of the impact of compliance on plant profitability (ROl)
is based on the algorithms shown in Chapter 2 combined with the parameters in
Table 6-4. These parameters represent average industry financial ratios.
These ratios are imputed to each plant because plant-specific baseline
financial characteristics (e.g., plant profit margin, assets value, variable
and fixed costs of production) are not available. The differences in
profitability among the various product groups are due primarily to different
assets to sales ratios across product groups. Appendix C describes the
methodology for estimating the baseline values for the key financial
variables.
After .compliance ROIs (before taxes) were calculated for each of the 263
sample plants. Table 6-5 presents the distribution of plant changes in ROI as
the result of the regulations. The regulations seem to affect the extrusion,
wire drawing, and forging plants most as 16 plants (11 extrusion, 2 wire, and
3 forging) have ROI reductions greater than 3 percent at Treatment Option 2.
Plants with post-compliance ROI less than 2.7 percent are considered to
be "potential" plant closures. The 2.7 percent ROI threshold level (before
taxes) is based on the assumption that plants cannot continue to operate as
viable concerns if they are unable to generate for the owners/stockholders 8
percent after-tax return on the liquidation value of their investments (i.e.
return on liquidation value equity). Appendix B describes in detail the
methodology for estimating the ROI threshold level.
Three extrusion plants, one wire and cable plant, and one forging plant,
a total of 5 plants, have estimated ROIs below the critical value at all three
treatment options. Table 6-6 summarizes the results of the profit impact
analysis.
6.5 CAPITAL REQUIREMENTS ANALYSIS
As presented in Chapter 2, the "fixed charge coverage" ratio was used to
evaluate a firm's ability to raise the capital necessary to install the
proposed pollution control systems. The "fixed charge coverage" ratio is
6-6
-------
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6-7
-------
TABLE 6-5. DISTRIBUTION OF CHANGE IN ROI
Product Group/
Option
Sheet & Plate
Option 1
Option 2
Option 3
Foil
Option 1
Option 2
Option 3
Tube and
Extruded Shapes
Option 1
Option 2
Option 3
Conductor Wire
and CabJLe
Option 1
Option 2
Option 3
SFEa/
Option 1
Option 2
Option 3
RBWb/
Option 1
Option 2
Option 3
Forging
Option 1
Option 2
Option 3
Total Sample
Option 1
Option 2
Option 3
Number of Number
Plants of Dis-
in Sample chargers
21 11
6 0
150 74
44 9
20 12
6 5
16 12
263 123
Number of Sample Discharging Plants
<1
9
9
8
0
0
0
33
27
24
5
5
5
12
12
12
3
3
3
5
6
5
67
62
57
with ROI
1-2
1
1
2
0
0
0
24
27
26
1
1
1
0
0
0
1
1
1
2
2
2
29
32
32
Reduction
2-3
1
1
1
0
0
0
8
9
13
1
1
1
0
0
0
1
1
1
2
1
2
13
13
18
(in
percent)
3-4 >4
0
0
0
0
0
0
2
4
3
1
1
1
0
0
0
0
0
0
2
2
1
5
7
5
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0
0
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7
7
8
1
1
1
0
0
0
0
0
0
1
1
2
9
9
11
Sheet & Plate/Foil/Tube and Extruded Shapes
Rod, Bar & Bare Wire/Conductor Wire & Cable
Source: JRB Associates estimates.
6-8
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-------
defined as the ratio of earnings before interest and taxes to all fixed charge
obligations (i.e., interest payments). This ratio is often used by lenders to
evaluate firms' ability to incur additional debt. In this analysis, the ratio
is applied to individual plants. Firms or plants with fixed charge coverage
ratios greater than 2 are generally considered solvent and will not have much
difficulty obtaining additional loans.
Table 6-7 presents the results of the capital availability analysis.
Five plants (3 extrusion, 1 wire, and 1 forging) have coverage ratios less
than 2. These 5 plants are the same plants that failed the profit impact test
described in Section 6.4.
6.6 PLANT CLOSURE ANALYSIS
While financial parameters are the paramount determinants of plant-
closures, non-financial factors are also important and, may dominate the
decision process. Therefore, the plant closure decision, like most investment
decisions, ultimately involves managerial judgment. For this reason, decision
makers consider a number of other factors, in addition to financial variables.
Some of these other factors are market growth potential, contribution to total
firm's product line, diversification, integration, intra-industry competition,
and substitution potential for the products.
In this analysis, the relevant investment decision factors are combined
in a summary table to model the investment decision-making process, thereby
facilitating estimates of plant closures. This information is shown in Table
6-8 for the five highly impacted aluminum forming plants in the sample identi-
fied in the above profit impact and capital requirements analyses. The Table
shows that all five plants are projected to have high probability of closure
at each treatment option.
Table 6-9 summarizes the results of the plant closure analysis. Other
impacts of the regulations such as employment, community and regional effects,
substitution effects, foreign trade impacts, and industry structure effects
are examined in Section 6.7.
6-10
-------
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-------
TABLE 6-9. SUMMARY OF PLANT CLOSURE ANALYSIS
(ALL TREATMENT OPTIONS)
Discharging Plants
Total Direct Indirect
Tube and Extruded Shades
Number of Plants 82 36 46
Number of Closures 321
Employment Losses 258 221 37
Annual Production of 26 13 13
Closed Facilities (million Ibs)
Market Share of Closed Facilities (%) 1.2 0.6 0.6
Conductor Wire and Cable
Number of Plants , 918
Number of Closures 101
Employment Losses 203 0 203
Annual Production of
Closed Facilities (million Ibs) 606
Market Share of Closed Facilities (%) 1.0 0 1.0
Forging
Number of Plants . 12 0 12
Number of Closures 101
Employment Losses 36 0 36
Annual Production of
Closed Facilities (million Ibs) <1 0 <1
Market Share of Closed Facilities (%) <0.1 0 <0.1
These projected closures are 1ine closures; the plants also manufacture
other products in addition to aluminum forming products.
Source: JRB Associates estimates.
6-13
-------
A sensitivity analysis assuming a lower baseline return on assets (6.4
percent instead of 7.9 percent) was performed for the integrated producers.
The results of this sensitivity analysis show no additional plant closures
(see Section 8.3.1).
6.7 OTHER IMPACTS
6.7.1 Employment, Community, and Regional Effects
As shown in Table 6-9, there is potential for five plant closures at all
three treatment options involving a loss of about 500 jobs. The plants
projected to close are generally located in large metropolitan/industrial
areas and do not account for a significant portion of community employment;
hence there are no significant community or regional impacts likely.
Meanwhile, the industry price increases due to regulations result in less
than 0.8 percent reduction in quantity of aluminum forming products demanded
(see Table 6-1). Since most aluminum forming plants have less than 500
employees (see Table 3-2), such small quantity reduction would affect on the
average leas than 4 employees per plant. Such small employment effect will
not have substantial community or regional impacts.
6.7.2 Substitution Effects
The price increases due to regulatory compliance costs will frequently
lead to substitution by other products and materials which, in turn, results
in a decrease in the quantity of product demanded.
However, the compliance costs of the regulations for the aluminum forming
industry are relatively small and the price increases due to compliance are
projected to be less than one percent for all industry segments. As shown in
Table 6-1, such low price increases will result in changes in quantity
demanded ranging from zero percent for some product groups to 0.8 percent for
others. Thus, the regulations will cause insignificant shifts to the use of
other materials.
6-14
-------
6.7.3 Foreign Trade Impacts
As described in Chapter 3, foreign trade in some segments of the aluminum
forming industry increased in recent years. If there is a significant price
effect from the regulations, the U.S. competitive position could be damaged.
However, as shown in Table 6-1, the price increases estimated to result from
the regulations are quite small, amounting to fractions of a percent for all
product groups. Price increases of this magnitude would not be large enough
to change the trading pattern.
6.7.4 Industry Structure Effects
As discussed in Section 6.6, it is estimated that a total of 3 extrusion
plants, 1 wire drawing plant, and 1 forging plant are projected to close at
all treatment options. The wire drawing and forging closures are operations
with less than 6 million pounds annual production and account for a fraction
of a percent of the industry total production; their closures, therefore, will
not affect the structure of these industry groups.
The 3 extrusion plants projected to close at Option 2 include both small
and large plants. Total production of these closed facilities accounts for
about 1 percent of industry output, and their closures are not expected to
significantly change the industry structure.
6.8 NEW SOURCE IMPACTS
Total system compliance costs of new sources are summarized in Table
2 /
5-4 For the purpose of evaluating new source impacts, compliance costs of
new source standards are defined as incremental costs over the costs of
selected standards for existing sources. The selected treatment technology
for existing sources is Treatment Option 2. The selected NSPS and PSNS
technology is Option 2 plus filtration (this is equivalent to existing source
Technology Option 3). As indicated in Table 5-4, the incremental annual
compliance cost between Treatment Option 3 and Treatment Option 2 is less than
0.1 percent of plant revenues for all process subcategories. Incremental
costs of such magnitude are not expected to result in barriers to entry.
_
Compliance cost estimates were based on aluminum forming normal plants
developed by EPA. Section 8 of the development document explains in detail
the composition of the normal plants.
6-15
-------
7. SMALL BUSINESS ANALYSIS
The Regulatory Flexibility Act (RFA) of 1980 (P.L. 96-354), which amends
the Administrative Procedures Act, requires Federal regulatory agencies to
consider "small entities" throughout the regulatory process. The RFA requires
an initial screening analysis to be performed to determine if a substantial
number of small entities will be significantly impacted. If so, regulatory
alternatives that eliminate or mitigate the impacts must be considered. This
analysis addresses these objectives by identifying and evaluating the economic
impacts of the aforementioned regulations on small aluminum forming plants.
As described in Chapter 2, the small business analysis is developed as an
integral part of the general economic impact analysis and is based on the
examination of the distribution by plant size of the number of aluminum
forming plants, plant revenues, wastewater volumes, compliance costs and
potential closures from the regulations.
As explained in Section 2.11, rather than define small business in terms
of firm total employment (i.e., SBA definition), a more appropriate definition
for the present analysis is in terms of plant size, with size measured by rate
of production. Several plant size definitions based on plant annual produc-
tion are used to provide the EPA possible alternative definitions of small
aluminum forming plants. These are:
Plants with less than 200,000 pounds in production
Plants with less than 500,000 pounds in production
Plants with less than 1 million pounds in production
Plants with less than 3 million pounds in production
Plants with less than 5 million pounds in production
Plants with less than 7 million pounds in production
Plants with less than 10 million pounds in production
Plants with less than 15 million pounds in production
Table 7-1 shows the number of aluminum forming plants falling into
selected size categories as well as the potential plant closures due to
regulations.
7-1
-------
TABLE 7-1
DISTRIBUTION OF ALUMINUM FORMING PLANTS
BY PRODUCTION VOLUME
Total
Number of
Sample
Plants
Sheet and Plate - Total
Dischargers
Zero Dischargers
Potential Closures
Foil - Total
Dischargers
Zero Dischargers
Potential Closures
Tube and Extruded
Shapes - Total
Dischargers
Zero Dischargers
Potential Closures
Conductor Wire and
Cable - Total
Dischargers
Zero Dischargers
Potential Closures
SFE - Total
Dischargers
Zero Dischargers
Potential Closures
RBW - Total
Dischargers
Zero Dischargers
Potential Closures
Forging - Total
Dischargers
Zero Dischargers
Potential Closures
Total Industry
Dischargers
Zero Dischargers
Potential Closures
21
12
9
0
6
0
6
0
150*
74
76*
3
44
9
35
1
20
12
8
0
6
5
1
0
16
12
4
1
263
124
139
5
Number of Plants with Production
(in million pounds)
<1
1
0
1
0
0
0
0
0
9
1
8
0
14
1
13
0
0
0
0
0
1
0
1
0
8
6
2
1
35
10
25
1
1-3
2
2
0
0
2
0
2
0
16
3
13
1
3
1
2
0
0
0
0
0
0
0
0
0
1
0
1
0
25
7
18
1
3-5
1
1
0
0
1
0
1
0
14
7
7
0
4
1
3
0
1
0
1
0
0
0
0
0
1
0
1
0
20
8
12
0
5-10
1
0
1
0
0
0
0
0
40
15
25
0
7
4
3
1
0
0
0
0
0
0
0
0
2
2
0
0
53
15
38
1
>10
16
9
7
0
3
0
3
0
64
48
16
2
5
2
3
0
19
12
7
0
5
5
0
0
4
4
0
0
105
64
41
2
*Production data is not available for 7 plants.
Source: JRB Associates estimates.
7-2
-------
A total of five plants (3 extrusion, 1 wire and 1 forging) are projected to
close at all treatment options if all dischargers are required to comply with
the effluent regulations. The forging plant projected to close is a small
plant with less than 500,000 pounds annual production, and the wiredrawing
closure has less than 6 million pounds of production. Meanwhile, the
extrusion closures are not limited to small plants as they include 2 plants
with annual production over 10 million pounds.
Tables 7-2 through 7-4 present the distribution of plant production and
compliance costs by plant size for the three product groups in the potential
plant closures as a result of regulation: extruded shapes, wire, and forging
product groups, respectively.
7-3
-------
TABLE 7-2
SUMMARY OF SMALL BUSINESS ANALYSIS -
TUBE AND EXTRUDED SHAPES PRODUCT GROUP
All Plants
Number of Plants
Production-10 x Ibs
All Plants
Discharging Plants
Revenues-$mi 1 1 ions
Direct Dischargers
Number of Plants
Production-10 x Ibs
-% of disch.c
Potential Closures (All
Number
Employment
Production-10 Ib
Treatment Option 1
Investment-$000
Annual -$000
-<15
44
1,488.7
1,260.5
1,363.9
23
882.9
57.8
0
0
0
9,746.2
4,648.4
0.5
10,874.6
5,131.9
0.6
12,014.2
5,498.8
0.6
7-4
-------
TABLE 7-2
SUMMARY OF SMALL BUSINESS ANALYSIS -
TUBE AND EXTRUDED SHAPES PRODUCT GROUP (Continued)
Indirect Dischargers
Number of Plants
Production-10 x Ibs
-% of disch.C|
Potential Closures (All
Number
Employment
Total
Sample .
Plants37
40
558.9
' 36.6
Options)
1
b/
Production-10 x Ibs b/
Treatment Option 1
Investment -$000
Annual -$000
-^/lb
Treatment Option 2
Investment -$000
Annual -$000
-4/lb
Treatment Option 3
Investment -$000
Annual -$000
-*/lb
7,563.5
5,994.4
1.1
8,711.7
6,725.6
1.2
9,590.8
7,049.2
1.3
<3
3
4.2
0.3
0
0
0
49.0
50.5
1.2
79.4
58.5
1.4
84.6
61.3
1.5
Plants
3-5
5
19.4
1.3
0
0
0
620.6
453.0
2.3
746.8
495.0
2.6
816.2
520.1
2.7
with Annual Production
(in million Ibs)
5-10
11
74.7
4.9
0
0
0
1,346.8
1,272.2
1.7
1,286.6
1,356.1
1.8
1,477.7
1,428.2
1.9
10-15
7
83.0
5.4
1
y
y
913.8
1,373.4
1.7
1,006.7
1,427.7
1.7
1,133.6
1,485.3
1.8
T15
14
377.6
24.7
0
0
0
4,633.3
2,845.3
0.8
5,592.2
3,388.3
0.9
6,078.7
3,554.3
0.9
Production data not available for 7 zero dischargers.
c/
e/
Withheld to avoid disclosure of confidential data. Values are reported in
the next size category.
Percent of discharging plants.
Estimated.
Source: JRB Associates estimates.
7-5
-------
TABLE 7-3
SUMMARY OF SMALL BUSINESS ANALYSIS -
CONDUCTOR WIRE AND CABLE PRODUCT GROUP
Total
Sample .
Plants3'
Plants with Annual Production
(in million Ibs)
<3 3-5 5-7 7-10 >10
Number of Plants
Production-10 x Ibs
All Plants
Discharging Plants
Revenues - $ millions
Direct Dischargers
Number of Plants
Production 10 x Ibs
-% of disch.
44
376.9
117.5
/ D'
C/ T
1
W
b/
Potential Closures (All Options)
Number 0
Employment 0
Production-10 x Ibs 0
23 5
11.1 20.1
1.0 4.2
45.3 30.7
358
17.1 40.4 288.2
17.1 8.3 W
16.9 46.4 268.9
1
b/
b/
0
0
0
Treatment Option 1
Investment - $000
Annual - $000
Treatment Option 2
Investment - $000
Annual - $000
Treatment Option 3
Investment - $000
Annual - $000
263.5
114.8
b/
263.5
114.8
b/
295.2
123.9
b/
263.5
114.8
b/
263.5
114.8
b/
295.2
123.9
b/
7-6
-------
TABLE 7-3
SUMMARY OF SMALL BUSINESS ANALYSIS -
CONDUCTOR WIRE AND CABLE PRODUCT GROUP (Continued)
Indirect Dischargers
Number of Plants
Production-10 x Ibs
-% of disch.
Potential Closures (All
Number
Employment
Production-10 x Ibs
Treatment Option 1
Investment - $000
Annual - $000
-*/lb
Treatment Option 2
Investment - $000
Annual - $000
-*/lb
Treatment Option 3
Investment - $000
Annual - $000
-4/lb
Total
Sample
Plants3'
8
b/
1 y
Options)
1
y
y
1,121.3
634.6
y
1,121.3
634.6
y
1,233.3
668.1
b/
Plants with Annual Production
(in million Ibs)
<3
2
1.0
0.4
0
0
0
9.7
11.0
1.1
9.7
11.0
1.1
9.7
11.0
1.1
3-5
1
b/
y
0
0
0
23.1
53.2
y
23.1
53.2
y
23.1
53.2
b/
5-7
3
21.2
18.0
1
b/
If
215.9
196.3
1.2
215.9
196.3
1.2
261.3
210.9
1.2
7-10
1
b/
b/
0
0
0
333.3
139.6
y
333.3
139.6
y
365.0
148.7
b/
>10
1
21.
18.
0
0
0
539
234
1.8
539
234
1.8
574
244
1.8
3
1
.3
.5
.3
.5
.1
.3
a/
May not add up due to rounding errors.
b/,,.-
c/
Withheld to avoid disclosure of confidential data. Values are reported in
the next size category
Percent of discharging plants
Source: JRB Associates estimates.
7-7
-------
TABLE 7-4
SUMMARY OF SMALL BUSINESS ANALYSIS -
FORGING PRODUCT GROUP
Number of Plants
Production-10 x Ibs
All Plants
Discharging Plants
Revenues - $ millions
Indirect Dischargers
Number of Plants
Production 10 x Ibs /
-% of disch._
Potential Closures (All
Number
Employment
Production-10 x Ibs
Treatment Option 1
Investment - $000
Annual - $000
-t/lb
Treatment Option 2
Investment - $000
Annual - $000
-*/lb
Treatment Option 3
Investment - $000
Annual - $000
-*/lb
Total
Sample ,
Plants
16
99.1
95.1
281.0
12
95.1
100.0
Options)
1
b/
W
4,321.6
2,043.3
2.1
4,543.4
2,105.6
2.2
4,962.1
2,218.0
2.3
Plants with Annual Production
(in million Ibs)
<.2
4
0.3
0.3
1.3
2
0.1
0.1
1
b/
W
29.7
32.1
22.3
52.5
39.2
27.2
61.0
42.2
29.3
.2-. 5
4
1.2
1.0
16.7
4
1.2
1.3
0
0
0
511.1
265.7
22.1
599.9
288.5
24.0
663.3
306.6
25.6
.5-1 1-3 3-5 >5
0206
0 3.9 0 93.7
000 93.7
0 7.7 0 256.1
0006
- 93.7
98.5
0 0 0
00-0
oo-o
- - - 3,780.9
- 1,745.4
1.9
- 3,891.0
- - - 1,777.9
1.9
- - - 4,237.8
- - - 1,869.2
- - 2.0
_ May not add up due to rounding errors.
_ Withheld to avoid disclosure of confidential data.
c/
_ Percent of discharging plants.
Source: JRB Associates estimates.
7-8
-------
8. LIMITATIONS OF THE ANALYSIS
This section discusses the major limitations of the economic impact
analysis. It focuses on the limitations of the data, methodology, assump-
tions, and estimations made in this report.
8.1 DATA LIMITATIONS
The accuracy of the conclusions of this report depends largely on the
accuracy of the data used in the analyses, especially that of the estimated
compliance costs, and plant financial and economic characteristics.
A critical data input to this study is the compliance cost estimates. The
assumptions relating to the estimation of compliance costs are outlined in the
technical Development Document and summarized in Section 5.3 of this report.
Total plant compliance costs were estimated for the multiple product plants.
In order to estimate the price increases for each product group, the plant
compliance costs were allocated to each product proportionately to production.
In the absence of a detailed financial survey for the aluminum forming
industry, a financial profile of the aluminum forming industry was developed
based on extensive review of trade literature and published financial reports.
This financial profile is subject to the following major assumptions and
limitations:
Plant value of shipments were surveyed by EPA, however, there were
missing data for a few plants. Thus, based on plant output volume
reported in the EPA survey, plant revenues were estimated for these
plants using 1977 prices published in the Bureau of Labor Statistics
Producer Prices and Price Indexes.
Lacking plant specific operating ratios such as profit margin, assets
value, fixed and variable costs of production, industry average
estimates were applied to the plants. The methodology for estimating
these financial variables are explained in Appendix C.
8-1
-------
Only a single year's plant production and value of shipments data
(1977) were collected in the EPA industry survey. Multiple years
production data would have enabled a more in-depth analysis,
encompassing the cyclical nature of the industry. As shown in Figure
3-3 in Chapter 3, the 1977 period was neither a peak nor a trough for
the industry and the general economy and is, therefore, considered to
be representative of average conditions in the industry over the long
run.
8.2. METHODOLOGY LIMITATIONS
In addition to the data limitations described above, this study is also
subject to limitations of the methodology used. These limitations are related
to critical assumptions on price increase, profit impact, and capital
availability analyses.
8.2.1 Price Increase Assumptions
Because the aluminum forming industry exhibits characteristics of both
competitive and non-competitive market behavior, it is assumed that the
industry's pricing behavior will follow a strategy that will maintain the
industry-wide initial return on sales. This assumption appears to be fairly
reasonable since the demand price elasticities for aluminum forming products
are relatively inelastic.
8.2.2 Profit Impact Assumptions
In studies where detailed, plant-specific data are available, potential
plant closures can be identified by using discounted cash flow analyses.
Using this approach, a judgment can be made about the ability of a plant to
continue in business after compliance with effluent regulations, by comparing
the discounted value of the plant's cash flow with the plant's estimated
salvage value. The application of this approach requires plant-specific data
on cash flows and salvage values, and since data at this level of specificity
were not available for this study, this approach was not deemed to be
practical. As an alternative method, profitability impacts were measured
through the use of return on investment (assets) analysis. Although this
financial ratio analysis is based upon accounting data and do not account for
the time value of money, it is widely used in comparative financial analyses
and is simple to apply.
8-2
-------
Another limitation relates to the ability of the profit impact
methodology to assess the combined effects of the business cycle and the
timing of the effective date of the regulation. As previously mentioned,
portions of the study rely on inferences from only one or a few years of data.
Where this occurred, care was taken to insure that any point estimate was not
taken for an extreme year, such as a trough of a recession or a peak of an
expansion. As shown in Figure 3-3, the 1977 time period was neither a peak
nor a trough for the industry or the general economy; and is, therefore,
considered to be representative of average conditions in the industry over a
long period of time. Moreover, a recent EPA study on macroeconomic conditions
projected that the aluminum forming industry will have recovered from the
latest recession by 1985. This study also forecasted that profit of the
aluminum industry will return to the 1978-1979 level which is better than
1977. Therefore, the assumptions of 1977 profit level for this study seems to
be conservative.
Finally, long term profitability estimates were used to project closures
since major investment decisions are made primarily on the basis of long run
expectations. Economic analysis generally distinguishes between long run and
short run outcomes. Decisions regarding variable costs and relatively small
amounts of resources are generally made on short run criteria. On the other
hand, decisions regarding large investment in fixed assets are made on the
basis of long run expectations. This means that large capital expenditures
are generally made based on the expected return on the investment over a
period of years. Cyclical fluctuations in the general economic conditions
usually do not affect the outcome of these decisions but only their timing.
8.2.3 Capital Availability Assumptions
The capital investment requirements analysis was assessed through an
evaluation of the "fixed charge coverage" ratio. Although this technique does
not provide a precise conclusion on a firm's ability to make the investment,
it does provide a good indication of the relative burden of the requirement.
USEPA, Macroeconomic Conditions and Performance of Regulated Industries,
June 19&T.
8-3
-------
8.3 SENSITIVITY ANALYSES
The study's conclusions, as presented in Chapter 6, are based on the best
estimates for key variables such as baseline profit and compliance cost
estimates. To assess the sensitivity of the study's results to these
parameters, sensitivity analyses were performed on the following factors:
Industry baseline profit
Monitoring costs
Sludge disposal costs
RCRA costs.
The sections below assess the effect of a change in these assumptions.
8.3.1 Sensitivity on Baseline Profit
As indicated in Appendix C, the aluminum forming industry baseline profit
estimates are based on FTC line of business operating margin data for industry
category 33.09 (aluminum sheet, plate and foil; aluminum estimated; aluminum
rolling and drawing, nee). However, aluminum forming operation of integrated
firms may be reported in industry category 33.06 (primary aluminum) because
FTC allows the nonferrous metal companies to report their rolling and drawing
activities together with their primary metal operations. As shown in Table
C-2, the operating margin of industry group 33.06 is lower than industry group
33.09.
To evaluate the effects of a lower baseline profit for the integrated
producers, a sensitivity analysis is performed assuming a 6.4 percent baseline
return of assets (i.e., average of industry group 33.06 and 33.09) instead of
7.9 percent assumed in the analysis described in Chapter 6. The results of
this sensitivity analysis show no additional plant closures.
8.3.2 Sensitivity Analysis on Monitoring Costs
Compliance costs used in the impact analysis presented in Chapter 6
assume monitoring schedule that vary from once a month to ten times a month
depending on individual plant flow rate. A sensitivity analysis is performed
8-4
-------
to evaluate the effects of the maximum sampling of 10 tests a month on all
plants. No additional closure is found under this monitoring schedule.
8.3.3 Sensitivity Analysis on Sludge Disposal Costs
In response to public comments that EPA underestimated the costs of
sludge disposal, a sensitivity analysis is performed by doubling sludge
disposal costs assumed in the analysis presented in Chapter 6. The results of
this sensitivity analysis show that there will be additional closures of six
plants at Treatment Option 2.
8.3.4 Sensitivity Analysis on RCRA Costs
The compliance cost estimates used in the impact analysis presented in
Chapter 6 do not include costs associated with RCRA requirements for hazardous
wastes disposal. EPA identified the presence of cyanide in the sludge of 11
forging plants and 8 drawing with neat oil plants. These plants will have to
comply with RCRA requirements. EPA compliance cost estimates used in the
analysis presented in Chapter 6 include the cost of sludge disposal. The
additional cost of RCRA requirements over and above the sludge disposal costs
were estimated to be (in 1982 dollars) $80,898 for all forging plants and
$202,300 for all drawing with neat oil plants. Based on the above RCRA cost
estimates, a sensitivity analysis is performed and the results show no
additional closures due to RCRA requirements.
8.4 SUMMARY OF LIMITATIONS
Although the above factors may affect the quantitative accuracy of the
impact assessments on specific aluminum forming plant, it is believed that the
results of this study represent a valid industry-wide assessment of the
economic impacts likely to be associated with effluent guideline control
costs.
8-5
-------
APPENDIX A
SELECTED FINANCIAL RATIOS
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APPENDIX B
CALCULATION OF PROFIT IMPACT THRESHOLD VALUE
-------
APPENDIX B
CALCULATION OF PROFIT IMPACT THRESHOLD VALUE
The evaluation of the economic viability of a plant after compliance to
the regulations is based on determining whether it is more profitable for the
stockholders to keep the plant in operation or to liquidate the plant and
invest the proceeds in alternative investments. To answer this question, it
is necessary to calculate the plant after-tax return on liquidation value of
stockholders' equity and compare it to the opportunity cost of other invest-
ment alternatives. As illustrated in the following example, a plant is
earning 5 percent after-tax return on the book value of equity; however,
assuming the liquidation value of assets is 75 percent of book value, the
return on liquidation value of equity would be 10 percent. If the alternative
investments yield 8 percent, it would be better for the stockholders to keep
the plant in operation.
Book Value Liquidation Value
Assets ($ million) 10.0 7.5
Debt ($ million) 5.0 5.0
Equity ($ million) 5.0 2.5
Before-tax profit ($ million) 0.5 0.5
After-tax profit ($ million) 0.25 0.25
After-tax return on equity (%) 5.0 10.0
The above illustration shows that after-tax return on liquidation value
of equity would vary when the assumptions on liquidation value, capital
structure (i.e., debt to equity ratio), and corporate income tax rate change.
To avoid recalculating after-tax return on liquidation value of equity every
time any of the above assumptions is changed, the analysis is modified to use
before-tax return on book value of assets (which is not affected by any of
B-l
-------
the above mentioned assumptions) to evaluate the plant's profitability. This
modified analysis requires that the opportunity cost of alternative investments
expressed in ceiois of required after-tax return on equity investment be trans-
lated into a targeted before-tax rate of return on book value of assets. The
next section describes how the threshold value of book value return on assets
is derived. The section that follows explains the estimation of the opportunity
cost of investment.
B.I ESTIMATION OF BEFORE-TAX RETURN ON BOOK VALUE OF ASSETS THRESHOLD VALUE
To translate the targeted after-tax return on book value of equity into
a before-tax return on book value of assets the following steps are proceeded.
First, the ratio of liquidation value of equity to assets is expressed in
terms of the equity to assets ratio and is:
LE = LA - LD
LD - D
LE = LA - D
= LA - (A - E)
M - LA - (A "El =. LA _ (1 - E)
A A A A
where:
A = book value of assets
LA - liquidation value of assets
D = book value of debt
LD = liquidation value of debt (assumed to be equal to D)
E « book value of equity
LE = liquidation value of equity.
B-2
-------
For example, if the liquidation value of assets is 75 percent of book value
(i.e., LA/A = 0.75), and the book value equity to assets ratio (E/A) is 0.45,
the ratio of liquidation value of equity to assets (LE/A) is:
LE
~ = 0.75 - (1 - 0.45) =- 0.20
That is, the liquidation value of equity is 20 percent of the book value of
assets.
To calculate the rate of return on book value of assets (ROI) that will
yield to the stockholders an after-tax return r on the liquidation value of
their equity, the following algorithms are used:
ATROI = ATP = ATP x LE =, r x LE
A LE A A
BTROI - ATROI * (1 - t)
where: ATROI » After-tax return on book value of assets
ATP = After-tax profit
BTROI = Before-tax return on book value of assets
t - Corporate tax rate
Assuming the required rate of return on liquidation value of equity r
is 8 percent and the corporate tax rate is 40 percent,
ATROI - 8 x 0.2 - 1.6 percent
BTROI - 1.6 * (1 - 0.4) = 2.67 percent.
That is the profit impact threshold value is 2.67 percent of book value of
assets.
Table B-l presents estimates of the profit impact threshold values for
selected assumptions on assets liquidation value ratio, equity to assets
ratio, and corporate tax rate.
B-3
-------
TABLE B-l. ESTIMATED ROI THRESHOLD VALUES THAT GENERATE 8% ROE
ATROE - 8.0 PERCENT
E/A
0.40
9.40
0.40
0.40
0.40
0.40
0.4Q
O./JO
0.45
0.45
0.45
0.45
0.45
0.45
0.45
0.45
0.50
0.50
0.50
0.50
0.50
0,50
C.50
).50
LA/A
0.15
0.30
0.75
0.70
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0.61
P. 55
0.50
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0.75
3. TO
3.65
0.60
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0.75
0.70
0.6?
0.00
>.:s
i/. 50
LE/E
0.125
C.500
0.375
1.250
1.1^5
-.000
-.125
-.250
0.6*7
0.556
i).'4n*
0.333
0.222
o.lll
-.30"
-.111
3.700
t.SOO
3.500
0.400
0.300
0.200
3.100
-.0^0
ATROI
«)
2.00
1.60
1.20
O.BO
0.10
****
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2.40
2.00
1.60
1.20
0.90
0.45
****
«***
2.30
2. J''
2.00
l.oO
1.20
«.*0
1.U1
****
T - 40%
BTROI
C%)
3.33
2.A7
2.00
1,33
0.67
*»*
****
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4,00
3.33
2,o7
2.00
1.33
0,67
»***
*«*«
4.67
4.10
3.33
2,o7
2.90
1.33
0.67
»»*«
T - 35%
BTROI
3. OS
2.46
1.85
1.23
0.62
***
**
***»
3.69
3.08
2.46
1.35
1.23
0.62
****
«**«
4.31
3.69
3.0*
2.46
1.45
1.23
0.62
***
B-4
-------
B.2 ESTIMATION OF OPPORTUNITY COST OF ALTERNATIVE INVESTMENT
As explained in Section 2.5, the opportunity cost of alternative invest-
ments is assumed to be equal to the rate of a risk-free investment (such as
Treasury bonds) plus a risk-premium factor. For this study, the risk adjusted
opportunity cost is assumed to be 8 percent after tax return on the liquidation
value of stockholders' equity. The 8 percent targeted return on equity invest-
ment is based on a 6.7 percent risk-free rate for 3-year Treasury bonds for
1977 plus a 1.2 percent risk-premium factor. The year 1977 was selected for
both the industry baseline profit and the cost of capital estimates because
it was neither a cyclical peak year nor a cyclical trough year and therefore
seemed to represent a normal year for both the aggregate economy and the
aluminum industry.
The risk premium is defined as the average spread between returns on risk-
free investments (such as 3-year U.S. Treasury bonds) and returns to equity
investment in the aluminum industry. This spread is estimated as follows:
lrS&P400 ~
and
rS&P400 * dS&P400 + dpS&P400
where
rS&P400 = rate of return on equity for the Standard and Poors 400
industrial stocks
rTB = yield on 3-year U.S. Treasury bonds
&al " beta coefficient (a measure of variability of financial
returns) for aluminum stocks
dS&P400 * annual dividend yield of the S&P 400 industrial stocks
annual change in price of the S&P 400 industrial stocks.
The 1960-1982 average spread between 3-year Treasury bond yields and S&P 400
industrial stocks returns is 1 percent. Assuming the beta factor for aluminum
stocks is 1.2, the risk premium for aluminum stocks would be 1.2 percent.
B-5
-------
APPENDIX C
ESTIMATION OF PLANT ASSETS VALUE
AND BASELINE RETURN ON SALES
-------
APPENDIX C
ESTIMATION OF PLANT ASSETS VALUE AND BASELINE RETURN ON SALES
This appendix described the methodology for estimating two critical
financial parameters of the economic impact analysis. These parameters are:
Plant assets value, and
Plant baseline return on sales.
Data for the above estimations are obtained from the 1977 Census of Manufac-
tures, the Federal Trade Commission's Annual Line of Business Report and
Quarterly Financial Report for Manufacturing, Mining and Trade Corporations,
and various corporate annual reports.
C.I ESTIMATION OF PLANT ASSETS VALUE
For this analysis, plant assets is defined as plant property and equip-
ment net of depreciation, plus inventories and other current assets (i.e.,
cash, short-term investments, receivables, etc.). Table C-l presents the
steps and assumptions for estimating aluminum forming plant assets values.
The asset values range from 52 percent to 68 percent of annual value of
shipments.
C.2 ESTIMATION OF BASELINE RETURN ON SALES
The industry baseline ROI estimate is based on FTC Line of Business data
(LBD) which is the most readily available public information on disaggregated
line-of-business financial performance. Operating margins (i.e., earnings
before interest expenses and income taxes) are calculated from FTC LBR data
for 1974-1976 and projected to 1977 which appears to be a cyclically normal
year of moderate expansion for the aluminum industry and the aggregate economy
and is, therefore considered to be representative of average conditions in the
industry over the long run. The operating margins of industry category
C-l
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C-2
-------
TABLE C-2. ESTIMATION OF ALUMINUM FORMING BASELINE OPKRATING MARGIN
OPERATING INCOME!/
(In Percent of Assets)
YEAR
1974
1975
1976
1974-76 Avg.
1977
b/
BIG-THREE"
11.3
6.4
7.8
8.5
9.1
c/
LBR 33.06-
10.7
3.2
6.5
6.7
7.31/
d/
LBR 33.09-
14.1
4.1
11.2
9.8
10. 4£/
AVERAGE OF
33.06 AND 33.09
12.4
3.7
8.9
8.3
8.9£/
JL' Earnings before interest expenses and income taxes.
Ji' Averages for Alcoa, Kaiser Aluminum, and Reynolds Metals.
SJ Federal Trade Commission's Line of Business Report, industry category
33.06 (primary aluminum).
£/ Federal Trade Commission's Line of Business Report, industry category
33.09 (aluminum sheet, plate, and foil; aluminum extruded products; aluminum
rolling and drawing, nee).
.£' Estimated assuming 1977 spread between LBR and Big-Three operating income
is equal to the average differential for 1974 to 1976.
SOURCE: JRB Associates estimates.
C-3
-------
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uminum, and Reynolds Metals.
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33.09 (aluminum sheet, plate and foil; aluminum extruded products; aluminum
rolling and drawing, nee) are selected to represent the aluminum forming
industry. Table C-2 presents the estimation of 1977 baseline operating
margin of the aluminum forming industry, and Table C-3 described the calcula-
tion of the average baseline returns on sales of each aluminum forming pro-
duct group.
The ROI estimate is applied to each of the six product groups in this
study, even though the actual ROI calculated by individual firms may differ
among product groups within a particular firm. There are reasons for using
a single ROI for all product groups. First, the aluminum industry is highly
integrated both horizontally and vertically. Economic theory indicates that
rational multi-product firms will invest in the product line that provides
the greatest marginal return. This implies that over the long run the returns
to different lines of business will converge. Second, there is a lack of
available profit data that correspond to the product line definitions used
in this study. Third, many integrated firms consider it important to their
marketing efforts to have a "full", well-rounded product line, even though
some products may be less profitable than others. In this type of situation
it is difficult to determine from accounting data the "true" profit attribu-
table to a specific product group. The fourth reason for using a single
profit rate involves variations in transfer pricing policies among firms.
Because transfer pricing policies vary among firms and because transfer
prices of any specific firm may differ from one type of financial report to
another (i.e., Census versus annual report versus tax reporting), it is
often difficult to estimate a range of values that is appropriate for an
industry-wide assessment. For these reasons, the average profit rates from
the FTC LBR appears to be a valid representation of baseline industry-wide
profit rates.
C-5
iU.S. CPO 1983-1)21-083/1429
-------
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