Economic Evaluation of DSM Programs

Cost-benefit analyses of DSM programs are typically viewed from several perspectives. In order to evaluate the cost-effectiveness of DSM options as alternatives to supply options, an industry standard set of cost-benefit tests were developed. All DSM program costs and the associated energy, demand, and other benefits are summarized and compared with supply-based avoided costs through application of these tests.

Utilities, as part of their IRP processes, evaluate programs and individual measures on the basis of benefit-to-cost ratio (BCR) or NPV. The BCR is the present value of the program benefits derived over a defined period and divided by the present value of the program costs over the same time period. An NPV or net benefit (NB) analysis using present value benefits (i.e., discounted to reflect the time value of money) less discounted costs can show negative, zero, or positive net benefits. A ratio of benefits to costs that exceeds 1.0 indicates more benefits than costs, from the particular perspective being considered, and is used as a benchmark — or minimum threshold — in screening DSM programs.

BCR and NB are essentially accounting systems for benefits and costs. The values of each depend not only on all of the conditions involved in a particular action, but on the frame of reference, i.e., who or what bears the cost and reaps the benefit. Some actions might prove to have net benefits from all perspectives, some from just one. There are five standard industry benefit cost tests commonly used to measure the cost-effectiveness of DSM programs. These are based upon the California PUC's and Energy Commission's Standard Practice Manual. These five DSM tests are:

1. Participant test. This test measures DSM program cost-effectiveness from the perspective of those customers participating in the programs. The NB to participants equals the reduction in utility bills due to savings, plus the incentives or rebates from the utility, minus their cost to implement the measure.

2. Ratepayers impact measure (RIM). This test measures what happens to customer bills or rates due to changes in utility revenues and operating costs caused by a DSM program. It quantifies the impact of implementing a DSM program on non-participants and includes the impact of lost marginal revenues resulting from the implementation of a DSM option. Whenever the utility's rates and program costs and incentives paid to the participants are above its avoided costs, load-reducing DSM programs will produce an increase in rates resulting in a negative NB from this perspective.

3. Utility cost test. The NB of a DSM program to the utility is based on the total costs incurred by the utility, including incentives, and excludes any net costs incurred by the participant. It is a measure of the total revenue requirements impact of a particular DSM program and equals avoided utility supply costs, minus utility DSM program administration costs, minus total costs to implement the measure.

4. Total resource cost (TRC) test. This test measures the NB of a DSM program from the combined perspectives of the utility, all utility customers, and all persons in a state or region (total resource). This test measures the total cost of a DSM program, including costs incurred by both the utility and the participants, compared with the avoided capacity- and energy-related costs of a traditional supply-side resource. This test does not include utility incentives or lost revenues, which are typically viewed as being transfer payments between the utility and participants or non-participants.

5. Societal test. This test is similar to the TRC test, except that it also includes externalities, environmental or otherwise, as a benefit. Externalities are benefits or costs resulting from the production, distribution, or consumption of goods that are not reflected in the price. These include environmental costs imposed on human health, quality of life, and the health of other species, and the ecosystem as a whole. Also included are environmental compliance costs borne by the utility or energy user. Other more far-reaching concepts include consideration of other economic and social costs, such as impact on employment, risk of fuel interruption, and national security.

Table 20-1 provides a summary of the benefit and cost components that make up each of the five standard cost-effectiveness tests for load-reducing DSM programs. In the case of load-increasing programs, some benefits become costs (e.g., utility supply and capacity cost savings become incremental costs) and some costs become benefits (e.g., utility lost revenues become increased revenues). For each test perspective, a BCR can be computed from the parameters described that allows for the comparison and ranking of DSM programs. The ratios are formed from the calculation of the individual perspective benefits and costs, and are represented as positive values between 0 and infinity. Theoretically, the higher the value, the better the option ranks against supply. An option fails the test if its ratio is less than 1.

In most cases, a proposed DSM program will pass one or more of the standard cost-effectiveness tests, but not all. Thus, an important issue is the relative weight given to the alternative test. Most utilities and PUCs have placed primary weight to either the TRC or RIM test. Of course, a proposed DSM program needs to pass the participant test, otherwise there will not be anyone participating in the program.

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