H1 Tine Compernolle_Cost Effectiveness

7/30/2019 H1 Tine Compernolle_Cost Effectiveness

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Decision to invest

A cost effectiveness analysis (CEA)


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Assistance in Clean Coal & Environmentally Sound Storage Solutions

Presentation outline

1. CBA versus CEA

2. CEA: average cost effectiveness

3. CEA: incremental cost effectiveness

4. Conclusion


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Outline CBA versus outline

CEA

1. Project definition (CBA = CEA)

- Boundary definitions

- Alternative projects Communicate clearly

Is the investment worth its cost?Which alternative to choose?


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CEA

2. Classification of impacts (CBA = CEA)

- Timing of impacts

- Irrelevant impacts

e.g. Fuel consumption, maintenance, avoided CO2emission,


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CEA

3. Conversion into monetary terms (CEA CBA)

- CBA: all impacts- CEA: only the cost impacts, benefits are

measured in an effectiveness term (e.g. human lifes saved,Mton emission avoided, )


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CEA

4. Discounting (CBA CEA)

- The value of consumption in the future- Time preference (uncertainty, impatience)

CBA: cost and benefits are discountedCEA: only costs are discounted


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CEA

0

50

100

1 11 21 31 41 51 61 71 81 91 101

r=3% r=5% r=8%

4. Discounting


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CEA

5. Project assessment (CBA CEA)

- CBA: Net present value (NPV) NPV = Investment sum of discounted net cash flows

Net cash flow = annual benefit annual cost

- CEA: cost effectiveness ratios

Average cost effectiveness ratio

Incremental cost effectiveness ratio


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CEA

6. Sensitivity analysis (CBA = CEA)

How do variations in parameter values affectthe economic result, the decision?


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Cost effecteveness analysis

A cost effectiveness analysis (CEA):

- The effects/benefits are not monetized

- Comparison of mutually exclusive alternatives

- A ratio of cost and effectiveness measure


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Cost effectiveness ratios

Average cost effectiveness ratio (ACER)

- C/E for each alternative- Overall efficiency

- The alternative with the lowest cost

effectiveness ratio should be selected


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Example ACER

Cost and effectiveness Alternative A Alternative B

Cost measure (M)

Effectiveness measure (Mton

CO2 emission reduction)

CE ratio (/Mton)

1

4

250 000 500 000

200

100

Comment?


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Comment

Scale issue

What if 1 Mton CO2 reduction is worth

1M?

Applying cost benefit analysis, one woulddecide to adopt alternative 2

Net benefit of alternative 1:4 Mton * 1M/Mton 1M = 3M

Net benefit of alternative 2:

200 Mton * 1M/Mton 100M = 100M


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Incremental cost effectiveness ratio (ICER)

- Alternative strategies versus one referencestrategy

- Ratio of a change in cost to a change in effect

- C/ E

- Decision rule: CE-plane


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Positive Incremental Cost

Negative Incremental Effect Positive Incremental Effect

Negative Incremental Cost

ICER1

ICER2

E1,2

C1

C2

E1,2

NB1>0

NB2


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Example ICER

Cost and effectiveness Alternative A Alternative B

Cost measure (M) 1 100

Effectiveness measure (MtonCO2 emission reduction)

4 200

(Reference)

C (M)

E (Mton CO2 emission reduction)

C/E (M/Mton)

99

196

0.505102


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Cost effectiveness plane

-200

-150

-100

-50

0

50

100

150

200

-150 -100 -50 0 50 100 150 200 250

Incremental

effect (Mton)

Incremental cost (M)


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Cost effectiveness plane:

= 0.505102 M/Mton

Net benefit alternative B = E * - C

Indifference between reference A andalternative B

196 Mton* 0.5 M/Mton - 99 M = 0


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= 0.505102 M/Mton


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= 0.6 M/Mton


Alternative B

196 Mton* 0.6 M/Mton - 99 M = 18.6 M


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= 0.6 M/Mton


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= 0.3 M/Mton


Reference A

196 Mton* 0.3 M/Mton - 99 M = - 40.2 M


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= 0.3 M/Mton


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Conclusion

Average cost effectiveness ratioNo burden of monetizing effects/benefits

But issue of scale

Incremental cost effectiveness ratio

Step towards CBA

H1 Tine Compernolle_Cost Effectiveness

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