5/14/2018 Annualized Cost

Annualized Cost

The annualized cost of a component is the cost that, if it were to occur equally in every year of
the project lifetime, would give the same net present cost as the actual cash flow sequence
associated with that component.
HOMER calculates annualized cost by first calculating the net present cost, then multiplying it
by the capital recovery factor, as in the following equation:

where:
CNPC = the net present cost [$]
i = the annual real discount rate [%]
Rproj = the project lifetime [yr]
CRF() = a function returning the capital recovery factor

Example: A wind turbine has an initial capital cost of $165,000, a replacement cost of $95,000,
a lifetime of 20 years, and an operation and maintenance (O&M) cost of $5,000/yr . What is its
annualized cost over a 25-year project lifetime at an annual real interest rate of 6%?

The actual cash flow sequence associated with this wind turbine appears in the graph below.
This graph shows the large capital expense in year zero, the small O&M cost that appears in
every year, the large replacement cost that occurs after 20 years, and the salvage value that
occurs at the end of the project:

We want to calculate an equivalent cash flow sequence, meaning one that gives the same net
present cost, in which a single cost occurs in every year of the project. That single cost is the
annualized cost, and the equivalent cash flow sequence would look like the one that appears
below:

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5/14/2018 Annualized Cost

To calculate the net present cost of the wind turbine, we create a cash flow table as shown
below. For each year, we calculate the discount factor, the nominal cash flow, and discounted
cash flow, which is equal to the nominal cash flow multiplied by the discount factor. The sum of
the discounted cash flows is the net present cost of the wind turbine over the project lifetime:
$241,938. We multiply this by the capital recovery factor, which for 25 years and 6% is equal to
0.0782, giving an annualized cost of $18,926/yr.

Discount Actual Cash Flows

Year
Factor Nominal Discounted
0 1.000 -165,000 -165,000
1 0.943 -5,000 -4,717
2 0.890 -5,000 -4,450
3 0.840 -5,000 -4,198
4 0.792 -5,000 -3,960
5 0.747 -5,000 -3,736
6 0.705 -5,000 -3,525
7 0.665 -5,000 -3,325
8 0.627 -5,000 -3,137
9 0.592 -5,000 -2,959
10 0.558 -5,000 -2,792
11 0.527 -5,000 -2,634
12 0.497 -5,000 -2,485
13 0.469 -5,000 -2,344
14 0.442 -5,000 -2,212
15 0.417 -5,000 -2,086
16 0.394 -5,000 -1,968
17 0.371 -5,000 -1,857
18 0.350 -5,000 -1,752
19 0.331 -5,000 -1,653
20 0.312 -100,000 -31,181
21 0.294 -5,000 -1,471
22 0.278 -5,000 -1,388
23 0.262 -5,000 -1,309
24 0.247 -5,000 -1,235
25 0.233 66,250 15,436
Total -241,938

To check our work, we can create a cash flow table for this equivalent cash flow sequence, and
verify that it gives the same net present cost. The table below shows that the equivalent cash
flow does indeed lead to the correct net present cost.
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5/14/2018 Annualized Cost

Equivalent Cash
Discount
Year Flows
Factor
Nominal Discounted
0 1.000 0 0
1 0.943 -18,926 -17,855
2 0.890 -18,926 -16,844
3 0.840 -18,926 -15,891
4 0.792 -18,926 -14,991
5 0.747 -18,926 -14,143
6 0.705 -18,926 -13,342
7 0.665 -18,926 -12,587
8 0.627 -18,926 -11,874
9 0.592 -18,926 -11,202
10 0.558 -18,926 -10,568
11 0.527 -18,926 -9,970
12 0.497 -18,926 -9,406
13 0.469 -18,926 -8,873
14 0.442 -18,926 -8,371
15 0.417 -18,926 -7,897
16 0.394 -18,926 -7,450
17 0.371 -18,926 -7,028
18 0.350 -18,926 -6,631
19 0.331 -18,926 -6,255
20 0.312 -18,926 -5,901
21 0.294 -18,926 -5,567
22 0.278 -18,926 -5,252
23 0.262 -18,926 -4,955
24 0.247 -18,926 -4,674
25 0.233 -18,926 -4,410
Total -241,937

The annualized cost serves as a useful metric for comparing the costs of different components
because it measures their relative contribution to the total net present cost. It allows for a fair
cost comparison between components with low capital and high operating costs (such as diesel
generators) and those with high capital and low operating costs (such as PV arrays or wind
turbines).
The annualized costs of each system component and of the system as a whole appear on the
Cost Summary tab of the Simulation Results window.

See also
Net Present Cost
Discount Factor
Capital Recovery Factor
Cost Summary Outputs
Total Annualized Cost

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