Cost of Electricity Comparison
One of the simplest ways of analyzing the economic performance of a wind energy system is to compare the cost of electricity from the wind system to the cost of electricity from a conventional source — notably, the local utility — or some other renewable energy technology you are considering.
To begin, you must determine the annual electrical consumption of your home or business. Second, determine the average monthly wind speeds at the site. Third, identify a wind turbine that produces a sufficient amount of electricity to meet your needs. If you are contemplating an off-grid system, you want to size the system to meet your needs during the period of highest demand. If you’re installing a utility-tied system, you only need an annual match.
In the example presented earlier, a Proven WT6000 would produce 12,996 kilowatt-hours per year. Now multiply the kilowatt-hours produced in a year by the life of the system. How long would that be?
A well-made, heavy-duty wind turbine like the Proven WT 6000 could last 20 to 30 years, with regular inspection once or twice a year and maintenance and repairs as required. A lighter-weight and cheaper model might only last five years or fewer. If the Proven WT6000 lasts 30 years, it would produce about 389,880 kilowatthours over its lifetime. In 2008, the Proven installed on a 120-foot guyed tower cost a little over $60,000 in the United States. Dividing the cost of the system by the total output yields the cost of electricity per kilowatt-hour. In this example, then, the electricity, over the lifetime of the turbine, will cost about 15 cents per kilowatt-hour.
Now it is time to compare the cost of electricity generated by the wind turbine to electricity from your utility — or possibly some other renewable energy source. When calculating the cost per kilowatt of utility power, be sure to add in all the costs — that is, taxes, fees and fuel surcharges the utility includes. You don’t need to add the meter reading fee if you are installing a grid-connected system, as you’ll be paying this fee if you buy from the utility or generate your own electricity. If the alternative source costs 15 cents per kilowatt-hour or more, the Proven would be a pretty good
investment. Although the turbine will require maintenance and repair over the years, the cost of electricity from the utility is also bound to increase. It’s been rising, nationwide, at a rate just under 4.5 percent annually for the last 35 years and could increase more rapidly as energy prices rise. It is likely, then, that maintenance costs and rising costs could offset each other.
This system would make economic sense if you were paying 15 cents per kilowatt-hour or more for locally generated electricity. That is, if you don’t mind prepaying your electrical bill by laying down $60,000 all at once. You’ll either need to withdraw $60,000 from a savings account or some other investment or take out a loan.
When calculating the cost of electricity from a wind system, don’t forget to subtract financial incentives from federal, state and local governments, and local utilities. These incentives can be substantial. The federal incentive for wind, for example, is currently 30% of the system cost. Several states also offer incentives, either through state government or via local utilities, including New York, New Jersey, Wisconsin, Massachusetts, California and Oregon. In addition, the US Department of Agriculture also offers a 25 percent grant to cover the cost of wind systems on farms and rural businesses. To learn more about incentives in your state, look at the Database of State Incentives for Renewables and Efficiency at dsireusa.org.
If you are building a new home, don’t forget to include the cost of connecting to the electrical grid when comparing the cost of wind-generated electricity to the cost of power from the utility.
Calculating Simple Return on Investment
Another relatively simple way of determining the cost effectiveness of a renewable energy system is to determine the simple return on investment (ROI). Return on investment is the rate of return expressed as a percentage of an investment.
ROI can be calculated by dividing the annual value of electricity generated by a wind system by the cost of the system. Let’s calculate the return on investment for the $60,000 Proven WT6000 used previously. If the turbine costs $60,000 installed and produces 12,996 kilowatt-hours per year and electricity from the utility costs 15 cents per kilowatt-hour, the electricity would be worth $1,950 per year. To calculate the return on investment, divide the annual value of electricity by the cost of the system ($1,950 divided by $60,000). In this instance, the return on investment would be 3.2 percent. Not terribly good, but not bad either, especially given the state of the world economy and once you factor in the feel-good variables, like producing your own power from a clean, renewable energy source.
If this system were installed with a 30 percent tax credit from the federal government, the simple annual return on investment would be 4.3 percent ($1,950 divided by $45,000), which is much better than a certificate of deposit or even a mutual fund (at this writing). If a USDA grant were also obtained, the cost of the system would be reduced even more, increasing the return on investment.
Like the previous method, simple return on investment is just that, a crude way of estimating the economic performance of an investment. Neither method takes into account a number of other economic factors such as: (1) interest payments on loans required to purchase the system or lost interest if the system is paid from cash withdrawn from an investment, (2) insurance costs, or (3) property taxes. All of these lower the ROI.
This method also fails to factor in the increase in the cost of electricity from the local utility, which would make wind-generated electricity more valuable. Nor does it take into account possible income tax benefits for businesses, for example, accelerated depreciation. Return on investment also doesn’t take into account the fact that the system depreciates in value over time as it ages.
Despite these shortcomings, simple return on investment is a nice way to evaluate the economic performance of a renewable energy system. It’s light years ahead of the black sheep of the economic tools, payback.
Payback is a term that gained popularity in the 1970s. It is used for energy conservation measures and renewable energy systems. Payback is the length of time it takes a system or energy conservation measure to pay back its cost through the savings.
For a wind energy system, payback can be determined by dividing the cost of the system by the anticipated annual savings. If the $60,000 wind energy system with a 30% federal tax credit produces 12,996 kilowatt-hours per year and grid power costs you 15 cents per kilowatt-hour, the annual savings of $1,950 yield a payback of 23 years ($45,000 divided by $1,950). In other words, it will take the savings from your system 23 years to pay off the cost, ignoring the
maintenance and repair costs. From that point on, the system produces electricity free of charge.
Simple payback has very serious drawbacks. The most important is that it can be misleading, as this example clearly illustrates: a 23-year payback seems ridiculously long, while 4.3 percent ROI seems pretty good — but they’re two ways of looking at the very same investment!
Simple payback is also a concept we rarely use. Do anglers calculate the payback on their new bass boats? Do couples calculate the payback on the new chandelier?
Simple payback and simple return on investment are closely related metrics. Mathematically speaking, return on investment is the reciprocal of payback. That is, ROI = 1/payback. For example, a wind system with a 10-year payback represents a 10 percent return on investment (ROI = 1/10).
Discounting and Net Present Value: Comparing Discounted Costs
For those who want a more sophisticated tool, economists have developed a technique known as discounting. Unlike the previously discussed methods, discounting factors in numerous economic factors such as the maintenance costs, the rising cost of grid power, and another key element, the time value of money.
The time value of money takes into account the fact that a dollar today is worth less than a dollar tomorrow and even less than a dollar a few years from now. Economists calculate the loss of value by applying a discount factor. The discount factor represents something economists refer to as opportunity cost and it includes inflation. Opportunity cost is the cost of lost economic opportunities by pursuing one investment path over another — for example, investing your money in a solar system instead of in the stock market.
To make life easier, this economic analysis can be performed by using a spreadsheet like the one shown in Table 4.2. The first column is the year. The second column includes the discount factor. For simplicity, we recommend choosing the highest interest rate on any debt you have, including your mortgage, as the discount factor. Or, if you have no debt, choose the highest investment interest rate you can get with a risk profile similar to the renewable energy system,
which is usually very low. A ten-year government bond is a good basis and currently pays less than 3%. As indicated in column 2, a dollar today will be worth 55 cents in 20 years.
The next column (under the category “Buy Utility Electricity”) shows the cost of electricity from the local power company — that is, how much you will pay each year for electricity if you purchased it from the local utility rather than generating with a wind turbine. This column factors in the rising cost of electricity using a 4.4% annual increase. As shown here, the wind system produces $1,950 worth of electricity in year one. In year 2, that electricity would cost
you $2,036 because of the rising cost. The last entry in column 3 is the total cost of electricity to you — $60,537. That’s how much money you will pay the utility over the 20-year period if you purchase 12,996 kWh of electricity per year from them (with an inflationary increase of 4.4% per annum).
The next column under the heading “Buy Utility Electricity” is the discounted cost of electricity from the utility. The discounted cost of electricity from the utility is the cost of electricity taking into account the discount rate (the declining value of the dollar due to inflation) applied to the rising cost of electricity. This calculation allows one to calculate “present value” of the money spent on electricity from the utility over a 20-year period. Put another way
that’s the value of the money one would spend over a 20-year period in present-day dollars.
As you can see, although you will have shelled out $60,537 to the utility company, the net present value of that money — that is, the $60,537 you will spend on electricity in 20 years is only worth $43,176 in present dollars.
In the fifth column of the spreadsheet is the cost of the wind energy system — $60,000 minus the 30% federal tax incentive or $45,000. Note that $200 is added every other year for maintenance. Over a period of 20 years, you will have invested $47,000 in your system (in present dollars).
The last column of the spreadsheet is the discounted cost of the wind system. This is the present value of your expenditure, taking into account the discount factor of 3%.
The final step is to compare the discounted cost of the system ($46,466) to the discounted cost of electricity from the utility ($43,176). In this example, the present value of the wind system is $3,290 more than the present value of the cost of utility electricity.
In this technique, if a present value of a wind system is lower than the present value of buying electricity, it makes economic sense. If it costs more, it doesn’t. The greater the difference in the cost of the two systems, the more compelling the decision. Even if the differential is small, however, the investment may be worth it.
