moving beyond simple payback

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Moving Beyond Simple Payback: The Language of

Financial AnalysisRichard Donnelly

Planning & Development Manager

Tim PerrinBusiness Development

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Overview

• Brief Introduction to Efficiency Vermont

• The College & University Market

• The Language of Financial Analysis

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Efficiency Vermont: Who We Are

• Nation’s first statewide provider of energy efficiency services

• Created by the Vermont Legislature and Vermont Public Service Board in 2000

• Competitively-bid, performance-based contract managed by Vermont Energy Investment Corp.

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Efficiency Vermont: What We Do

•Technical Assistance & Recommendations

•Coupled with Economic Analysis

•Collaborate with Architects / Contractors

•Provide “Objective Expertise”

•Financial Incentives & Assistance

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• Through an Energy Efficiency Charge (EEC) on all electric bills

• Average residential customer ~$2-3 per month

• Most states have energy efficiency services—typically managed by their electric utility

• Other programs: charges buried in electric rates

Efficiency Vermont: How We’re Funded

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Efficiency Lowers Operating Expenses

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Efficiency Reduces Carbon Emissions

ISO-NE Margin Supply

1 kWh =

1.26 lbs CO2

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Efficiency: Our most cost-effectiveenergy resource

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• Market Approach to Delivering Services

• The Role of the College

• Identifying Barriers

• Seeking Alignment

Colleges & Universities Market

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The Role of College & University

• 3% . . . 100%

• Innovation

• Create future leaders

• Skills

• Engage & Build Community

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Identifying Barriers

• Lack of awareness

• Lack of knowledge

• Competing Priorities

• Lack of feedback

• Difficult to make the invisible visible

• Perceived need for a quick payback

• Support for efficiency projects hard to obtain

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Seeking Alignment

• President’s Office

• CFO

• Development & Marketing

• Students & Faculty

• Facility Managers

• Sustainability Coordinators

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Initial Cost – A Common Barrier

• Buy now, get paid later

• Competing resource priorities

• Instant gratification

• Not considered an investment

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• Simple payback

• Return on investment (ROI)

• Cash flow model

• Internal rate of return (IRR)

• Net present value (NPV)

• Cost of waiting

Financial Terms

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Financial Terms – Simple Payback

How long will it take to recoup my initial outlay?

Initial Cost / Periodic Benefit = Payback

Cost = $100, Benefit (annual) = $50

Payback = $100 / $50 = 2 years

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• Payback period ends…then what?

• Ignores time value of money

• Deals with opportunity cost, not financial return

• Unfortunately it is “simple” so used frequently

Issues With Simple Payback

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Financial Terms - ROI

Ratio of money gained (or lost) relative to investment

Benefit / Initial Cost = Return on Investment

Cost = $100, Benefit = $50

ROI = $50 / $100 = 50%

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+

+

–

–

Cumulative

Annual

Internal rate of return

=Equivalent interest rate to

achieve return

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Time Value of Money

• Money NOW > same amount in FUTURE

• Potential earning capacity

• Borrowing costs

• Risk aversion

• “Discount rate” quantifies that difference

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+

+

–

–

Cumulative

Annual

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+

+

–

–

Cumulative

Annual

Net present value

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Economic Analysis

Project Cost

Annual Savings

Simple Payback

Rate of Return

$100K $25K 4 years 21.4%

• Example: Athletic Facility – new lighting

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Economic Analysis

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Spend Someone Else’s Money

• Leasing/Financing – pay from operating budget

• Bonding for energy improvements

• Performance contracting – ESCOs

• Reduced utility bills offset payment

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Spend Someone Else’s Money

• Example: Athletic Facility - lighting

• Using conventional financing:

Project Cost

Annual Savings

Interest Rate

Term Length

$100K $25K 6% 5 years

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Spend Someone Else’s Money

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The Cost of Waiting

• $100K project cost

• $25K annual savings

• Cost of energy is trending upward

• $296K avoided over ten years

• Paid for project 3 times over

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Questions?

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Thank You!

Efficiency Vermont255 So. Champlain Street

Burlington, Vermont 05401_______________________

(888) 921-5990 Phone

www.efficiencyvermont.com

TPerrin@veic.org