# LIFE-CYCLE COST ANALYSIS METHOD

The LCC analysis method is the most commonly accepted method to assess the economic benefits of energy conservation projects over their lifetime. Typically, the method is used to evaluate at least two alternatives of a given project (for instance, evaluate two alternatives for the installation of a new HVAC system: a VAV system or a heat pump system to condition the building). Only one alternative will be selected for implementation based on the economic analysis.

The basic procedure of the LCC method is relatively simple because it seeks to determine the relative cost-effectiveness of the various alternatives. For each alternative. including the base case, the total cost is computed over the project lifetime. The cost is commonly determined using one of two approaches: the present worth or the annualized cost estimate. Then, the alternative with the lowest total life-cycle cost (LCC) is typically selected.

Using the cash flow diagram of Figure 3.1, the LCC amount for each alternative can be computed by projecting all the costs (including costs of acquisition, installation, maintenance, and operating the energy systems related to the energy-conservation project) on either of the following cases:

i. One single present value amount that can be computed as:

This is the most commonly used approach in calculating LCC in energy retrofit projects.

ii. Multiple annualized costs over the lifetime of the project:

Note that the two approaches for calculating the LCC values are equivalent.

In most energy-efficiency projects, the annual cash flow remains the same after the initial investment. In this case, LCC can be estimated based on the initial cost /С and the annual cost AC as follows:

Example 3.6 shows the application of the LCC analysis method to decide between different retrofit options of a heating system.

Example 3.6

The building owner in Example 3.5 has three options to invest his money, as briefly described below.

A. Replace the entire old boiler (including burner) with more efficient heating system. The old boiler/burner system has an efficiency of only 60 percent, whereas a new boiler/burner system has an efficiency of 85 percent. The cost of this replacement is \$10,000.

B. Replace only the burner of the old boiler. This action can increase the efficiency of the boiler/burner system to 66 percent. The cost of the burner replacement is \$2,000.

C. Do nothing and replace neither the boiler nor the burner.

Determine the best economical option for the building owner. Assume that the lifetime of the retrofit project is ten years and the discount rate is 5 percent. The boiler consumes 5,000 gallons/year at a cost of \$1.20/gallon. An annual maintenance fee of \$150 is required for the boiler (independent of its age). Use the LCC analysis method to determine the best option.

SOLUTION

The total cost of operating the boiler/burner system is considered for the three options. In this analysis, the salvage value of the boiler or burner is neglected. Therefore, the only annual cash flows (A) after the initial investment on a new boiler are the maintenance fee and the net savings due to higher boiler efficiency. To present the calculations for LCC analysis, it is recommended to present the results in a tabular format and proceed as shown below:

 Cost Item Option A Option В Option C Initial investment (a) Replacement cost (\$) 10,000 2,000 0 Annual operating costs: (b) Fuel use (gallons) 3,530 4,545 5,000 (c) Fuel cost (\$) [SI .2 x (b)] 4,236 5,454 6,000 (d) Maintenance fee (\$) 150 150 150 (e) Total operating cost (\$) [(c) + (d)] 4,386 5,594 6,150 USPW factor [d =5%, N = 10, Eq. (3.22)1 7.740 7.740 7.740 Present worth (\$) [(a) + USPW x (f)] 43,948 45,298 47,601

Therefore, the LCC for option A is the lowest. Thus, it is recommended for the building owner to replace the entire boiler/burner system.

This conclusion is different from that obtained by using the simple payback analysis [indeed, the payback period for option A, relative to the base case C, is SPB(A) = (\$10,000)/(\$1,765) = 5.66 years; and for option B, SPB(B) = (\$2,000)/ (\$546) = 3.66 years].

Note that if the discount rate were d = 10 percent (which is unusually high for most markets), the USPW would be 6.145 and the LCC for each option will be:

Therefore, option В will become the most effective economically and will be the recommended option to the building owner.

# GENERAL PROCEDURE FOR AN ECONOMIC EVALUATION

It is important to remember that the recommendations for energy conservation projects that stem from an energy audit should be based on an economically sound analysis. In particular, before making the final recommendations, the auditor should ask several questions:

Will project savings exceed costs?

Which design solution will be most cost-effective?

What project size will minimize overall building costs?

Which combination of interrelated projects will maximize net savings?

What priority should projects be given if the owner has limited investment capacity?

As alluded to earlier, the best suitable economic assessment method is the LCC method described in Section 3.6. Before the application of the LCC, several data are needed to perform an appropriate and meaningful economic analysis. To help the auditor in gathering the required information and in the application of the LCC method, the following systematic approach in any economic evaluation is proposed:

• 1. Define the problem that the proposed retrofit project is attempting to address and state the main objective of the project. (For instance, a building has an old boiler that does not provide enough steam to heat the entire building. The project is to replace the boiler with the main objective to heat all the conditioned spaces within the building.)
• 2. Identify the constraints related to the implementation of the project. These constraints can vary in nature and include financial limitations or space requirements (for instance, the new boiler cannot be gas-fired because there is no supply of natural gas near the building).
• 3. Identify technically sound strategies and alternatives to meet the objective of the project. (For instance, three alternatives can be considered for the old boiler replacement: (i) a new boiler with the burner of the old boiler, (ii) a new boiler/burner system, and (iii) a new boiler/burner system with an automatic air-fuel adjustment control.)
• 4. Select a method of economic evaluation. There are several alternatives, including the base case (which may consist of the alternative of “doing nothing”); however, the LCC method is preferred for energy projects. When a preliminary economic analysis is considered, the SPB method can be used.

As mentioned earlier, the payback period method is not accurate and should be used with care.

• 5. Compile data and establish assumptions. The data include the discount rates and the energy, installation, operating, and maintenance costs. Some of these data are difficult to acquire and some assumptions or estimations are required. For instance, an average discount rate over the life cycle of the project may be assumed based on a historical data.
• 6. Calculate indicators of economic performance. These indicators depend on the economic evaluation method selected. The indicators are the LCCs for the LCC method.
• 7. Evaluate the alternatives. This evaluation can be performed by simply comparing the values of the LCC obtained for various alternatives.
• 8. Perform sensitivity analysis. Because the economic evaluation performed in Step 6 is typically on some assumed values (for instance, the annual discount rate), it is important to determine whether the results of the evaluation performed in Step 7 depend on some of these assumptions. For this purpose, the economic evaluation is repeated for all alternatives using different but plausible assumptions.
• 9. Take into account unqualified effects. Some of the alternatives may have effects that cannot be included in the economic analysis but may be determining factors in decision making. For instance, the environmental impact (emission of pollutants) can be important to disqualify an otherwise economically sound alternative.
• 10. Make recommendations. The final selection will be based on the findings of the three previous steps (i.e.. Steps 7, 8, and 9). Typically, the alternative with the lowest LCC value will be recommended.

Once the project for energy retrofit is selected based on an economic analysis, it is important to decide on the financing options to actually carry out the project and implement the measures that allow a reduction in the energy cost of operating the facility. The next section discusses the common payment and financing options typically available for energy retrofit projects.