Free Wind Turbine, Free Wind … No-Brainer? Right? Wrong!

Author: Charles F. Adkins, Vice President Advisors at ABB

The City of Tybee Island Georgia received a donation from a wind turbine vendor! What could be better? A free wind turbine and free wind, that decision should be a no-brainer. Not quite! The cost of a small-scale 50 kW generating station is $200,000. The wind turbine only represents 64% of the total cost. That leaves the City of Tybee with an investment requirement of $128,000 for foundation and tower construction. That is not quite free! Find out more, at ABB Advisors Consulting, about evaluating the true economic value of capital asset decisions.

As with all capital asset decisions, the first step is the “Laugh Test”. With a donated turbine and 64% of the costs eliminated, this decision passes the initial “Laugh Test”.

Energy production from a wind turbine is a function of wind speed. The minimum wind speed for generation is 8 MPH with resulting generation of 50,000 kWH. At 20 MPH, the resulting generation is 300,000 kWH. The wind speed around Tybee Island is 13 MPH and the facility would generate 150,000 kWH. The capital decision analysis indicated that the wind facility would be break-even, i.e., revenues equal to expenses, with an average wind speed of 14 MPH. With a slightly lower expected wind speed, the wind facility has a high likelihood of being non-economic and only a marginal likelihood of breaking even.

A life cycle analysis is the only way to evaluate the economics of this capital decision. A life cycle analysis is an annual cash flow model that represents all the benefits and expenses throughout the project life cycle. Using discounted cash flow, we can express all the future year dollars in terms of today’s dollars. A life cycle analysis generates three important project metrics: benefit/cost ratio, return on investment, and project payback. Benefit/Cost ratio is the ratio of the total project benefit divided by the cost to execute the project. Return on investment is the efficiency of profits versus investment. Project payback is the number of years required to recoup the funds expended to reach the break-even point.

The first step in the life cycle analysis is to identify the project benefits. The benefits of the wind turbine are primarily the avoided utility expenses for the City’s wastewater facility. With the wind turbine, the city can avoid 150,000 kWH and reduce its utility bill by $8.6 Million.

The primary expenses are the capital investment stated in terms of depreciation and interest expenses over the life of the asset. Annual maintenance contracts have a term that is substantially shorter than the asset life. Economic theory states that any service offered today will be available in the future, adjusted for inflation. Therefore, the maintenance costs are inflated to cover the entire life of the asset.

The final phase of the capital asset decision is risk mitigation. A sound engineering study will mitigate development risk. An analysis of construction overruns and setting aside a contingency fund to serve as insurance and added to the total construction cost will mitigate construction risk. The Operations risk is mitigated by maintaining and operating within warranty, maintaining operations and maintenance contracts, conservative estimates, and due diligence to validate assumptions. Finally, volume risk is mitigated by conservative assumptions and due diligence to validate assumptions.

With a projected average annual wind speed of 13 MPH, the wind facility has a high likelihood of being non-economic and only a marginal likelihood of breaking even. There are mitigating economic circumstances that could push a project like this wind facility out of the red and into the black. A critical one is the Federal Production Tax Credit, which is available to investor owned utilities and independent power producers, was not available to the municipality. To achieve some portion of this tax credit, the city could enter a sale-lease back agreement. However, such a sale-lease back agreement could represent a legal/political liability for the city. Another mitigating economic circumstance is the life extension of the asset. The city could assume that the wind turbine would operate five to ten years past its expected useful life. Unfortunately, long-term benefits do not meet the immediate needs of political justification. In the end, the project risks and marginal economics dictated that even a free wind turbine was not necessarily a good thing.