The life-cycle cost 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 cost (or LCC) is typically selected.
Using the cash flow diagram of Figure above, 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:
- One single present value amount that can be computed as follows:
This is the most commonly used approach in calculating LCC in energy retrofit projects.
- 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 IC and the annual cost AC as follows:
Example
A building owner has $10,000 available and has has three options to invest his money as briefly described below:
- Replace the entire older 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.
- 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.
- 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 per year at a cost of $1.20 per gallon. An annual maintenance fee of $150 is required for the boiler (independently of its age). Use the life-cycle cost 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:
Therefore, the life-cycle cost 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 equal to USPW = 6.145 and the life-cycle cost for each option will be
Therefore, Option B will become the most effective economically and will be the recommended option to the building owner.
FREQUENTLY ASKED QUESTIONS
The Life Cycle Cost Analysis method is commonly used to evaluate energy conservation projects, such as the installation of new HVAC systems, building envelope upgrades, lighting retrofits, and other energy-efficient technologies. The method can also be applied to other types of projects, including infrastructure development, transportation systems, and industrial processes, where long-term cost savings are a critical consideration.
The total cost computation in the LCC method includes the initial investment cost, operating and maintenance costs, energy costs, repair and replacement costs, and any other relevant expenses over the project’s lifetime. These costs are then discounted to their present value using a discount rate, allowing for a comprehensive comparison of the alternatives.
The LCC method can account for uncertainty and risks associated with energy conservation projects by incorporating sensitivity analysis, scenario analysis, and Monte Carlo simulations. These techniques enable the evaluation of how changes in key variables, such as energy prices or equipment lifetimes, affect the overall cost-effectiveness of the alternatives. This helps decision-makers to better understand the potential risks and opportunities associated with each option.
Discount rates play a crucial role in the LCC method, as they enable the conversion of future costs and benefits to their present value. The discount rate reflects the time value of money, allowing for a fair comparison of costs and benefits that occur at different points in time. The choice of discount rate can significantly impact the results of the analysis, and it should be carefully selected based on the project’s specific circumstances and the organization’s cost of capital.
Yes, the Life Cycle Cost Analysis method can be applied to evaluate non-energy conservation projects, such as infrastructure development, transportation systems, and industrial processes. The method’s flexibility allows it to be adapted to various types of projects, where long-term cost savings and benefits are critical considerations. By evaluating the total costs and benefits over the project’s lifetime, the LCC method provides a comprehensive framework for decision-making in a wide range of contexts.
