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Distributed Generation: Hype vs. Hope

Separating myth from reality in identifying DG applications.
Fortnightly Magazine - June 1 2002

that economic value, we developed with the Electric Power Research Institute (EPRI) an economic framework to evaluate DG applications based on advanced investment analysis techniques. Our approach incorporates future uncertainties concerning market prices, operating costs, and load growth, and shares common aspects with the financial and real options models that are increasingly popular, in that they can determine the most valuable investment strategies today and in the future. 3 We have found that these uncertainties can make or break DG economics. To evaluate DG opportunities, we consider other options that can meet necessary engineering specifications for a local distribution planning area. Then, we compare all of those options on an equal basis, much as a financial analyst would compare alternative investments.

For example, in one study we looked at a local distribution area that encompassed an area with a growing residential/commercial presence, with a large new shopping mall, commercial office space, and new residential housing developments. However, the timing of that new load growth is uncertain: although several large chain stores committed to opening in the new mall, strict land use regulations and continuing court challenges made the timing uncertain. The same was true of anticipated residential housing developments.

From the local utility's standpoint, the problem was vexing. Without the necessary infrastructure, the new growth cannot be accommodated. Yet the utility has an obligation to serve. One option for the utility was to install a large new substation and several new feeder lines. That would provide sufficient capacity, but would require a large cash outflow. Additionally, if the development process were delayed or halted-a real possibility for this shopping development, which had been first proposed two decades earlier-the utility could find itself with much unused new distribution capacity, which would raise unpleasant regulatory issues. Alternatively, the utility could prepare the sites for modular DG installation, and bring in trailer-mounted combustion turbines. Although more expensive on a per-kW basis than the substation and feeders, the DG option would provide far greater flexibility. The DG could also defer the need for a new substation or it might allow a smaller, less expensive substation to be constructed. Although the mathematics is somewhat complicated, the question is straightforward: is the "insurance" value provided by DG worth the additional cost to avoid the large cost commitment required to build the substation and feeder lines?

To see the tradeoff more clearly, it's easiest to show a hypothetical example where there is no uncertainty about costs or load growth. Figure 1 represents the utility's cost tradeoff. In the figure, we show the present value of the cost of installing 3 MW increments of DG every 12 months to match local area load growth, and the present value cost of installing a 100 MVa substation at various future times. As the substation is deferred longer into the future, its present value cost steadily declines. (We're assuming that the substation's purchase cost doesn't change.) The present value of the cost of the annual sequence of DG investments is a step function, such that the height of each step is the present