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The levelized cost of energy (LCOE) approach has become popular, especially in the field of renewable energy. We argue that when assessing levelized cost of energy, different rates should be used for borrowing and discount rates. We further argue that the risk-free rate should be used for discounting when assessing and comparing the cost of energy across different producers and technologies. Recent analyses used the same rate for borrowing and discounting, which leads to underestimation of the cost for risky borrowers and to distorted sensitivities of the cost to financial and non-financial factors. Specifically, it is shown that they may lead to gross underestimation of the importance of solar-to-electricity conversion efficiency when applied to photovoltaics. The importance of device efficiency is re-established under the treatment of the discount rate proposed here.

Realistic estimates of the costs of energy from emerging energy generation technologies such as large-scale photovoltaic (PV) installations are necessary to guide rational resource allocation and to create a viable PV industry [_{n}_{n}

Uncertainties surrounding the values of input parameters in a model such as that of LCOE can be taken into account via Monte Carlo simulations sampling likely distributions of parameter values [

Specifically, in Ref. [_{ini}

In Ref. [^{2} with material costs accounting for 65 to 81% of the total. The LCOE was estimated to be between 0.19 and 0.50 €/kWh for installations using 7% efficient cells. The cost per kWh was linear with respect to hardware costs and inversely proportional to the insolation and conversion efficiency (see Fig. 7 of Ref. [_{BOM}^{fr}_{rem}_{m}

A common feature of both these analyses is the use of the same value for the borrowing rate and the discount rate

First, we note that it follows from Equation (1) that
_{ini}

Discounting was not applied to physical output in Ref. [

We now argue that _{ini}

The first fraction in Equation (5) is the present cost of the future bond repayment, which is also the cost of all electricity produced over the life cycle. If we set, as was done in Refs. [

The credit risk of the borrower is in the spread of interest payment _{0}

It can further be argued that ^{N}^{N}_{0}_{0}_{0}

Consequently,

We now present an analysis of the dependence of the nominal _{0}

The resulting dependence of the cost factor defined in Equation (6),
_{min}_{min}

A model US Treasury yield curve (blue) and the cost factor, Equation (6) for the spread over the risk-free rate of 5% (red) and 8% (green). A sample US Treasury yield curve was taken from ^{3.473272}, which approximates the yield curve as of October 3, 2011.

In _{0}

The effect on cost of system degradation rate (blue), discount rate (red), and credit spread (green). The curves are normalized to the cost at

The credit risk specific to the borrower has the most profound effect of all factors. The cost can be decreased four-fold for a near risk-free borrower, whereas it doubles if the spread is increased from 5% to 7.5%. Specifically, for low-risk borrowers (spreads below about 4%), the response of the cost to relative change in spread is smaller than to relative change in conversion efficiency and insolation. Research into improvement of solar-to-electricity conversion efficiency is thereby re-given the importance it lost in Ref. [

The models we considered do not provide a complete cost-benefit analysis. Cost-benefit models will have to include the cash flow from electricity sales [

In summary, we proposed a corrected description of financial factors influencing the cost of energy in the LCOE model, specifically solar energy,

The author acknowledges the support from Tier 1 AcRF grant (R-265-000-430-133) by the Ministry of Education of Singapore.

The author also thanks A. Chablinskaia, Sr. Financial Planning Analyst, the city of Toronto, Canada, A. Ordine, Model Validation Group, Ontario Teachers' Pension Plan, Toronto, Canada, and D. Fedorets, Trading Quantitative Analyst, ING Bank, The Netherlands for proofreading the manuscript.

The author declares no conflict of interest.