Phoenix Convention Center Phoenix, Arizona Introduction to Life-Cycle Cost Analysis Agency Energy ManagerLife-Cycle Cost Methodology Mike Mills, CPA, BEP Sain Engineering Associates, Inc. August 12, 2015

Energy Exchange : Federal Sustainability for the Next Decade Agenda Introduction to Life-Cycle Cost Analysis (LCCA) Time Value of Money / Discounting Present Value Calculations Supplementary Measures of Economic Performance 2

Energy Exchange : Federal Sustainability for the Next Decade What is LCCA? Methodology to determine the most cost-effective option among different alternatives to purchase, own, operate, maintain, and dispose of a building or building system over its entire lifetime Useful to compare project alternatives that are technically acceptable, but differ with respect to initial costs and operating costs Allows an investor to calculate all project costs and compare cost effectiveness of alternative investment options Required by Federal mandates for new design, renovation, or procurement of energy efficient projects 3

Energy Exchange : Federal Sustainability for the Next Decade Types of Life-Cycle Costs Initial costs – Purchase – Acquisition – Construction – Installation Replacement costs Residual values – Resale – Salvage values – Disposal costs Operation, maintenance, and repair costs – Utility costs Costs are only considered if they are relevant and significant 4

Energy Exchange : Federal Sustainability for the Next Decade Steps to Performing LCCA Identify alternatives Specify data requirements and establish assumptions Estimate costs and adjust for time value of money Calculate total LCC for each alternative Compute supplementary measures if needed 5

Energy Exchange : Federal Sustainability for the Next Decade Time Value of Money A dollar today is not equivalent to a dollar in the future Important premise of LCCA – adjust all life cycle costs for the time value of money Projects can be effectively evaluated once future costs are adjusted to their present values 6

Energy Exchange : Federal Sustainability for the Next Decade Discounting Costs to Present Value Process of converting costs to a common point in time to reflect the time value of money The discount rate is the interest rate that reflects an investor’s opportunity cost of money over time (i.e., the investor’s MARR) Important financial abbreviations: PV = Present Value FV = Future Value i% = Interest or Discount Rate n = Period AV = Annual Value e% = Escalation Rate 7

Energy Exchange : Federal Sustainability for the Next Decade Project ABC - Cash Flow Diagram FUTURE COSTS Base Date End Date A B C A A – Single non-recurring future costs B – Annually recurring uniform costs C – Annually recurring non-uniform costs 8

Energy Exchange : Federal Sustainability for the Next Decade PV of Single Non-Recurring Future Costs In Project ABC, we have single non-recurring future costs of the following: – Replacement cost of $1,000 in year 3 – Disposal cost of $2,000 in year 5 Investor’s MARR is 12% Replacement CostDisposal Cost 9

Energy Exchange : Federal Sustainability for the Next Decade PV of Annually Recurring Uniform Costs In Project ABC, we have annually recurring uniform costs of the following: – O&M costs of $500 each year Investor’s MARR is 12% 10

Energy Exchange : Federal Sustainability for the Next Decade PV of Annually Recurring Non-Uniform Costs In Project ABC, we have annually recurring non-uniform costs of the following: – Energy costs escalating at 10% each year (base year energy costs were $91) Investor’s MARR is 12% 11

Energy Exchange : Federal Sustainability for the Next Decade Life-Cycle Cost for Project ABC Present value of: – Acquisition cost$10,000 – O&M costs $1,802 – Replacement cost $712 – Energy costs $431 – Disposal cost $1,135 $14,080 12

Energy Exchange : Federal Sustainability for the Next Decade Supplementary Measures of Economic Performance LCCA is the most complete and accurate way to estimate project costs over its lifetime Other measures of economic evaluation that supplement LCCA: – Net Savings (NS) – Savings to Investment Ratio (SIR) – Adjusted Internal Rate of Return (AIRR) – Simple or Discounted Payback (SPB or DPB) All of these supplementary measures are based on life-cycle costs 13

Energy Exchange : Federal Sustainability for the Next Decade Net Savings The amount that an alternative project will save over the base case NS = LCC - LCC NS calculations can be used to determine whether to accept or reject a project (NS > 0) A project with the highest NS is equivalent to choosing a project with the lowest LCC BCA 14

Energy Exchange : Federal Sustainability for the Next Decade Savings to Investment Ratio SIR = SIR > 1 generally means that a project is cost effective Can be used to accept or reject a project Useful in ranking and prioritizing independent projects (a higher SIR means higher savings) Operating Savings Investment Costs 15

Energy Exchange : Federal Sustainability for the Next Decade Adjusted Internal Rate of Return Measures the economic performance of an investment as a % yield AIRR is a more accurate measure of return because it adjusts the cash flows using an explicit reinvestment rate AIRR = (1 + i%) SIR - 1 For projects to be attractive, AIRR > MARR Similar to SIR, also useful in ranking and prioritizing independent projects 1/n 16

Energy Exchange : Federal Sustainability for the Next Decade Simple or Discounted Payback Time required for the cumulative savings from a project to recover its initial investment costs Calculations ignore all future costs and savings that occur after the payback period has been reached Used as a rough measure on whether to accept or reject a project Payback period < Project life equals a valid project 17

Energy Exchange : Federal Sustainability for the Next Decade LCCA Resources FEMP’s Building Life-Cycle Costing (BLCC) software can help calculate LCC, NS, SIR, AIRR, and PB NIST Handbook 135, “Life-Cycle Costing Manual”, is a guide to understanding LCC methods and criteria established by FEMP Annual Supplement to NIST Handbook 135 details discount factors and price indices as determined by FEMP as well as formulas and tables for PV calculations 18