1. Evaluating Energy Efficiency
Opportunities
Module 5

2. Disclaimer
This material has been developed as part of the UTS
Business School and Ernst & Young ‘Leadership & Change
for Energy Efficiency in Accounting & Management’ project.
The project is supported by the NSW Office of Environment &
Heritage as part of the Energy Efficiency Training Program. For
more information on the project, please go to:
http://www.business.uts.edu.au/energyefficiency/.
This presentation is for educational purposes only, and does not
contain specific or general advice. Please seek appropriate
advice before making any financial decisions.
2

3. Agenda
► Introduction
► Feasibility Analysis
► Simple Payback
► Net Present Value
► Internal Rate of Return
► Accounting Rate of Return
► Other Considerations
► Marginal Abatement Cost Curve (MACC)
► Case Study
3

4. Outline
5.0 Contr ol 1.0 Define
and monitor ener gy
ener gy baseline
Ener gy Efficiency
2.0 Measur e
4.0 Implement 2 ener gy data
Oppor tunities
3
3.0 Analyse
efficiency
oppor tunities
4

5. Learning Objectives
At the end of this module, you will:
► Be able to complete a financial analysis of an opportunity and
calculate various metrics that can be used to evaluate a project
► Payback
► Net present value
► Internal rate of return
► Accounting rate of return
► Be able to identify and quantify where possible the wider
business costs and benefits resulting from an implemented
opportunity
► Have a system for prioritising all the evaluated opportunities to
maximise the value of energy savings
5

6. Introduction
► This module provides a framework for the financial
evaluation of energy and emissions reduction initiatives.
When evaluating any such project, the decision to
proceed should occur within the broader decision making
process of your business.
► To ensure the successful implementation of any new
energy saving measure you should, as a minimum:
► Produce a detailed cash flow of each alternative
► Ensure that all costs and benefits are included
► Consider any investment allowances, grants and taxation issues
► Undertake the financial appraisal of each
► Implement and monitor the performance of the project
6

7. Simple Payback Period
The payback period is the time required for the cash inflows
to equal the original cash investment, i.e. how long it takes
to get your money back
Payback Period (PP) = The Costs of the Project/ Investment
Annual Cash Inflows/ Savings
E.g. A lighting retrofit project costs $200,000 and the
expected returns are $40,000 annually.
PP = $200,000 / 40,000 = 5 years.
7

8. Net Present Value
NPV is what the project is worth today.
Projects with identical simple payback periods can have very different net
present values depending on the timing and duration of cash flows.
E.g. Two $100,000 projects, each has a simple payback period of two years.
Investment
Payback NPV Yr 1 Yr 2 Yr 3 Yr 4 Yr 5 Yr 6 Yr 7 Yr 8 Yr 9 Yr 10
today
Project A 2 ($12k) ($100k) $50k $50k
Project B 2 $188k ($100k) $50k $50k $50k $50k $50k $50k $50k $50k $50k $50k
The projects are equal when using payback period, but project B is clearly
superior, so projects with identical simple payback period can be ranked by
calculating the present value of future cash flows.
NPV Yr 1 Yr 2
Project A $87k $50k $50k
Project B $83k $100k
8

9. Internal Rate of Return (IRR)
► Discount rate at which the benefits equal the costs (i.e. NPV = 0)
► The higher the cash flows after the initial investment, the higher the
discount rate needed to achieve NPV of zero, so a higher return
► Indicates whether funds to be spent on energy saving investments
could be better deployed in other projects, or in an interest bearing
deposit
► Investments are compared against a required rate of return that a
business sets for proposals
► If a project’s internal rate of return is greater than required rate of return
then it can be accepted
► If it falls below the required rate of return then it should be rejected
► Can be calculated easily in Excel using IRR and XIRR functions
Investment
IRR Yr 1 Yr 2 Yr 3 Yr 4 Yr 5 Yr 6 Yr 7 Yr 8 Yr 9 Yr 10
today
Project A 21% ($100k) $25k $25k $25k $25k $25k $25k $25k $25k $25k $25k
Project B 49% ($100k) $50k $50k $50k $50k $50k $50k $50k $50k $50k $50k
9

10. Accounting Rate of Return (ARR)
► Investments are compared against a required rate of
return that a business sets for proposals
► If a project’s accounting rate of return is equal to or greater than
required rate of return then it can be accepted
► If it falls below the required rate of return then it should be rejected
► The higher the ARR the more attractive the investment
Accounting Rate of Return (ARR) = Average Cost Saving
Initial Investment
10

11. Feasibility analysis
Method Benefits Disadvantages
Payback ► Easy to compute ► Ignores the benefits that
► Easy to understand occur after the payback
period
► Ignores the time value of
money
Net present ► Accounts for changing ► Needto select an
value value over time, i.e. time appropriate discount rate
value of money
Internal Rate of ► Provides a benchmark for ► Need to select an
Return what should and should appropriate benchmark IRR
not be invested in ► Doesn’t give an indication
of the absolute value of a
project
Accounting ► Easy to compute ► Ignores the time value of
Rate of Return money
11

12. Consider the full benefits
Energy efficiency actions often have benefits other than the obvious
reductions in direct costs, e.g. converting from standard fluorescent
tubes to triphospher tubes will not only save on electricity costs, but will
also:
► Increase lamp life, thereby reducing the cost of ordering, purchasing, storing
and installing replacement lamps
► Improve lamp light output, quality and reliability, potentially allowing the use
of fewer fittings and/ or improving productivity through better lighting levels
Benefits could include (but are not limited to):
► Reduced energy savings (gas, electricity, fuels)
► Reduced maintenance savings
► Savings from not having to purchase carbon offsets
► Value of Energy Savings Certificate or equivalent produced
12

13. Consider the full costs
► Costs go beyond the initial purchase price when you make a capital
investment.
► When comparing more than one opportunity, merely looking at the
purchase and installation price can ignore operational costs such as
maintenance costs and can result in the company paying more over
future years.
► Consider both capex and opex budgets in the financial analysis
Costs could include (but are not limited to):
► Cost of the capital asset
► Cost of alterations to existing capital assets
► Repair costs
► Consultancy fees
13

14. Consider other funding opportunities
► When a grant or tax incentive is provided, this should be
deducted from the initial implementation cost of the
project.
► This may include:
► Clean Technology Innovation grants
► Clean Technology Investment grants
► Clean Technologies Food and Foundries grants
► R&D tax incentives
14

15. Prioritising the implementation of opportunities
► All opportunities need to be scanned and prioritised to
ensure your company’s limited resources are directed to
those projects most likely to deliver the desired benefits.
► Marginal abatement cost curve (MACC):
► Marginal abatement cost curves are a decision making tool used
to analyse investments in presence of a carbon price
► MACCs can be used at an enterprise level, or can be used by
governments to assess impacts at a state, regional, and national
level
► When a MACC is determined for an entity, the curve represents
the marginal cost of the last unit of emission abated by that entity
15

16. Source: http://www.climateworksaustralia.org/Low Carbon Growth Plan.pdf
16

17. How to Create a MACC
1. Short-list a selection of carbon abatement options
2. Collect the relevant inputs for each abatement option;
including: operational inputs, technical and regulatory
information, financial and economic inputs
3. Build a customised analytical model
Key outputs include:
► Identification of the cost effectiveness of various abatement
options
► Visual representation of the scale and effectiveness of these
options
► Identification of opportunities to profitably engage in carbon trading
► Identification of the measures required to meet a set carbon cap
► Assessment of the point where it is most efficient to simply
purchase more carbon credits on the market, identification of
efficiency improvements available at the current $/t price
17

18. Summary
► Selecting which projects to undertake can be done by
comparing the different investment appraisal metrics for each
project providing they have all been prepared on a consistent
basis
► Ideally all the investment appraisal metrics should be
considered
► Using one metric in isolation could lead to misleading results and
potentially incorrect decisions being made
► Once the cash flows have been prepared, all metrics should be
easy to calculate
► NPV, IRR. Payback and ARR are all financial metrics.
Additionally, you can prioritise using tools such as a marginal
abatement cost curve.
18

19. Case Study 1 – Company A
► Company A's head office is considering an upgrade of its lighting in
one of its manufacturing plants.
► The project will involve changing the existing lamps to new LED
lights, which are 20% more energy efficient and will reduce the
number of lamps needed by 30 per cent. The project will also involve
the installation of time-delay switches, occupancy sensors and
devices that detect daylight control lighting levels. These measures
localise the control of lights so they are not running unnecessarily.
► The LED lamps last 5 times longer than the existing lamps.
Furthermore, testing has found that the improved lighting quality will
reduce the product defect rate by 3%.
► For an investment of $27k to buy and install the new lighting system,
the consultant has advised Company A that it will save 200,000 kWh
per annum
19

20. Case Study 1 – Company A
What are the costs and benefits for Company A?
Savings
► Electricity savings
► Reduced maintenance costs
► Reduced replacement costs
Costs
► New lighting and fixtures
20

21. Case Study 2 – Company B
► Company B’s brick manufacturing business has identified that it could
potentially use the landfill gas from the landfill it owns to replace the
natural gas that is it purchasing from its gas retailer to fuel its kiln.
► The project would involve constructing a landfill gas capture facility – cost
$1.5m
► The company has secured a grant of $25,000 of the cost of plant and
equipment to implement this project.
► Upgrades to the equipment also mean that less energy is required to run
the kiln
► The company commissioned a consultant who found that the annual
savings in natural gas used in the kiln from the project would be 130,000
GJ
► The landfill capture equipment has the potential to capture 400,000GJ.
Neighbouring manufacturers to Company B have also expressed interest
in purchasing landfill gas.
21

22. Case Study 2 – Company B
What are the costs and benefits for Company B?
Savings
► Natural gas savings
► Carbon abatement savings from landfill
► Carbon abatement savings from natural gas
► Grant received
Costs
► New capital equipment - $1.2m
22

23. Case Study 3 – Company ABC
► How would Company ABC go about prioritising the
energy efficiency opportunities it has identified?
23

24. Thank you
Module 5