LCOE formula: how to calculate the levelized cost of energy

The LCOE formula

LCOE = Σ costₜ ÷ (1 + r)ᵗ ÷ Σ energyₜ ÷ (1 + r)ᵗ, summed over the years t = 0 to n of the system's life.

• Costs: the investment in year 0 (net of any grants or tax credits you are sure to receive), operation and maintenance every year, insurance, and one-off items such as an inverter replacement. Add fuel for power plants that burn fuel.
• Energy: the kWh produced each year, after degradation. For a system you own, use the kWh you can actually use or sell.
• r: the discount rate, your cost of capital or the return you could earn elsewhere.

The result is in dollars per kWh. Compare it with what a kWh is worth to you: the retail price you avoid for self-consumed power, or the export tariff for power you sell.

Why the energy is discounted too

Discounting kWh looks odd at first, because a kWh is not money. The reason is the definition: the LCOE is the price per kWh at which the present value of revenue equals the present value of costs. Revenue is price × kWh, earned year by year. Moving the constant price out of the sum leaves the discounted kWh in the denominator: price × Σ energyₜ/(1+r)ᵗ = Σ costₜ/(1+r)ᵗ.

Solar has nearly all of its cost in year 0 and its energy spread over 25 years. Dividing undiscounted totals treats a kWh in year 25 like one today and makes solar look much cheaper than it is. In the example, $22,000 ÷ 226,137 kWh = $0.097 per kWh, against the true LCOE of $0.150.

Working through the example

The system costs $16,000 net in year 0, $160 a year to maintain and $2,000 for a new inverter in year 13. It produces 9,600 kWh in year 1, a specific yield of 1,200 kWh per kWp, and loses 0.5% a year to degradation, so year n produces 9,600 × (1 − 0.5%)^(n − 1). The discount rate is 5%.

Each row divides the cost and the energy of its year by (1 + 5%)^year. Summed over 25 years, the costs have a present value of $19,316 and the energy of 129,073 kWh, out of 226,137 kWh actually produced. $19,316 ÷ 129,073 kWh = $0.150 per kWh. If a kWh you use yourself saves more than 15 cents, the system pays for itself at a 5% return; if most of the output is exported for less, it may not.

Worked example: LCOE of an 8 kWp rooftop solar system over 25 years

The inputs are in column G. Costs, degraded energy and both present values are formulas, filled down from year 0 to year 25.

Worked example: LCOE of an 8 kWp rooftop solar system over 25 years

	A	B	C	D	E	F	G
1	Year	Cost ($)	Energy (kWh)	PV of cost	PV of energy	Input	Value
2	0	16,000	0	16,000	0	Net system cost, $	16,000
3	1	160	9,600	152	9,143	O&M per year, $	160
4	2	160	9,552	145	8,664	Inverter replacement, $	2,000
5	3	160	9,504	138	8,210	Inverter year	13
6	4	160	9,457	132	7,780	Year-1 energy, kWh	9,600
7	5	160	9,409	125	7,373	Degradation per year	0.5%
8	6	160	9,362	119	6,986	Discount rate	5.0%
9	7	160	9,316	114	6,620
10	8	160	9,269	108	6,274
11	9	160	9,223	103	5,945
12	10	160	9,177	98	5,634
13	11	160	9,131	94	5,339
14	12	160	9,085	89	5,059
15	13	2,160	9,040	1,145	4,794
16	14	160	8,994	81	4,543
17	15	160	8,949	77	4,305
18	16	160	8,905	73	4,079
19	17	160	8,860	70	3,866
20	18	160	8,816	66	3,663
21	19	160	8,772	63	3,471
22	20	160	8,728	60	3,289
23	21	160	8,684	57	3,117
24	22	160	8,641	55	2,954
25	23	160	8,598	52	2,799
26	24	160	8,555	50	2,653
27	25	160	8,512	47	2,514
28	Total	22,000	226,137	19,316	129,073
29	LCOE = PV of costs ÷ PV of energy, $/kWh				0.150
30	Same LCOE in one cell with NPV, $/kWh				0.150
31	Undiscounted cost ÷ kWh (too low), $/kWh				0.097

System size, costs, yield and rates are illustrative. Real figures depend on your location, installer, tariffs and incentives.

The one-cell shortcut with NPV

=(B2+NPV(G8,B3:B27))/NPV(G8,C3:C27) gives the same LCOE without the helper columns. Excel's NPV function discounts its first value by one full year, so the year-0 investment stays outside the function, and year-0 energy is zero anyway. Putting B2 inside NPV is the most common error and lowers the LCOE, because it discounts the investment by a year.

For a quick estimate without a table you can use the capital recovery factor: LCOE ≈ (investment × CRF + yearly O&M) ÷ yearly kWh, with CRF = PMT(r, n, -1). It ignores degradation and one-off costs, so the full table is better for a decision.

What moves the LCOE most

• Investment and yield: the year-0 cost sits in the numerator undiscounted, and the yield drives the whole denominator. A 10% higher yield lowers the LCOE by about 9%.
• Discount rate: a higher rate shrinks the discounted kWh far more than the discounted costs, so capital-heavy technologies such as solar and wind are very sensitive to financing costs.
• Life: extra years add energy at a low present value, so going from 25 to 30 years helps less than you might expect.
• Degradation and O&M: small at 0.5% a year and $160, but they add up over 25 years.

LCOE says nothing about when the energy is produced. Solar power at noon may be worth less than power in the evening, which is why a battery or a time-of-use tariff can change the decision even when the LCOE stays the same. For the go/no-go question, calculate the NPV and IRR of the system with your actual savings per kWh.

Common mistakes

• Dividing undiscounted totals. $22,000 ÷ 226,137 kWh gives $0.097 instead of $0.150 and flatters any technology with high up-front cost.
• Putting the year-0 investment inside NPV. NPV discounts its first value by one year. Keep year 0 outside.
• Ignoring degradation. Without it the energy stays at 9,600 kWh for 25 years and the LCOE comes out too low.
• Leaving out one-off costs. Inverter replacements, roof work and removal at the end belong in the cost column in the year they occur.
• Comparing the LCOE with the wrong price. Self-consumed kWh save the retail price, exported kWh earn the export tariff. Weight them by your own split.
• Using a discount rate of zero. Money tied up in panels has a cost. Use your loan rate or the return you give up.