September 2005
  
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Performance Contracting
…the next wave and how it will impact Automation

  John J. "Jack" Mc Gowan, CEM
Energy Control Inc
.
Contributing Editor

Energy Services, often called Performance Contracting, is one of the most exciting concepts to hit the energy business in the last two decades.  Yet this industry and the business model that it spawned, has experienced many transitions over that time and seems poised for more change.  Several recent studies of Performance Contracting combined with general observations of trends paint an interesting picture of energy services today.  More importantly I believe energy services is poised for a next wave that will be characterized by revisions in the technology applied as well as the financing approaches used.  Key sources of data are two studies published this year by Lawrence Berkeley National Laboratory (LBNL).  These reports along a new Frost and Sullivan market analysis point to a vibrant industry that generates over $3 billion in sales each year, and is comprised of sixty plus companies doing business nationally.  One trend is that many would believe that those national companies with recognizable names are the only players in this market.  To the contrary these large Energy Service Companies (ESCO’s) share the market with dozens of smaller companies offering energy services on a state and regional basis. According to LBNL these smaller ESCO’s offer a full range of services from energy efficiency contracts for individual technologies to guaranteed savings contracts.    This is a major shift in the ESCO supply chain that could be attractive to System Integrators who want to offer such services.  In addition the industry is seeing other trends including the focus of this article; energy service financing and technology.

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Understand Performance Contracting

One clear indication that energy services has come of age is the wealth of information available over the Internet. Three Web sites that include great data on performance contracting are the Rebuild America site http://www.eere.energy.gov/buildings/program_areas/rebuild.html, http://www.naesco.org/ and http://www.escperform.org/.  A simple search on the Rebuild site under the term performance contracting, results in numerous documents.  In some states like Colorado, the Rebuild site (http://www.colorado.gov/rebuildco/epc.htm) includes everything from general information to sample contracts.  NAESCO, the major ESCO trade association, has a Web site offering information to better understand the process, the pitfalls and answers to many other questionsNAESCO, Rebuild America and the Association of Energy Engineers offer Web resources and sponsor seminars throughout the year.  The ESC is a national nonprofit organization composed of experts from wide ranging organizations working, at state and local levels, to increase the number building energy upgrades completed through performance contracting.  This organization also offers sample documents like Request for Proposals or performance contract documents.  The ESC Web site also has list of providers and other industry professionals.  The LBNL study also has good basic information and it may be downloaded at http://eetd.lbl.gov/ea/EMS/EMS_pubs.html .

Technology Measures

Technology MeasuresFrom a technology perspective, LBNL’s report provides valuable information based on a database of 1900+ projects installed through 2002.  It is important that these sites document the investment in energy efficiency projects since the early 1990’s at $15 to $19 billion with median payback times of 5 to 15 years depending on the market.  Longer payback times are for Federal projects, which allow terms up to 25 years.  It is significant that these projects have generated over $1.7 billion in excess savings in 2003 dollars along with a great deal of non-energy savings.  The median energy savings for all markets studied was ~15% to 20% of the utility bill.  These projects also provide a snapshot of the types of measures installed.  LBNL reported this data on measures installed with projects in their database; 90% included lighting retrofits, 80% included HVAC controls and 27% including more capital intensive HVAC.  By 2002 the implementation of distributed generation had grown to 9% of the projects, yet there is no mention of renewable energy.  Key recent trends not reflected in LBNL’s study include: Web Services, Enterprise Energy Management and renewable energy, which are showing up in more recent projects.  It is reasonable to believe that many of the fast payback measures, i.e.: lighting retrofits, have already been done, but I believe these measures will still be in most performance contracts.  There are two reasons for this; 1) those first generation lighting projects are ready for phase 2 relamps and 2) new lamp technology continues to hit the market.  Another factor is that cost has come down on technologies, like direct digital control (DDC) or plate to frame heat exchangers, which are now more achievable in phase two performance contracts.  Therefore lighting, controls and HVAC will continue to be prime ESCO measures, yet trends indicate that more projects will include new measures such as Energy Web Services and renewable energy.  Enterprise Energy Management technology combines real-time metering with integration to DDC data from BTU and flow meters and custom software to complete measurement and verification (M&V) often via the Internet.  M&V is important to any energy project but is critical for all ESCO projects.  Renewable energy measures are becoming more common from distributed generation to biomass or photovoltaic arrays or for heating.  One such example is a 180 horsepower Biomass Heating plant that was installed at Jemez Mountain Public Schools in New Mexico.  Senator Jeff Bingaman (D) and Congressman Tom Udall (D) are shown here at the plant with Superintendent Robert Archuleta and representatives from the ESCO that did the project.  This project demonstrates a key benefit of ESCO projects, the fact that fast payback projects, like lighting and controls, can be blended with longer payback measures, like Biomass heating, to generate a combined payback that can be funded within a ten year period. 

Financing

PlantPROCORE A critical aspect of performance contracting is financing.  Traditionally these projects have been done using either taxable or tax-exempt municipal leases.  The majority of projects in LBNL’s database are public facilities that qualify for tax exempt financing.  At this writing long term financing rates are extremely low, Neal Skiver of National City Energy Capital says that these rates are below 4%. Much is being written about this currently and even Alan Greenspan has call this disconnect between short term and long term rates a conundrum.  Regardless it is good news for owners that are entering ESCO contracts now.  As projects are expanded to include renewable energy and other long payback measures, financing will become more complex.  What is important here is not interest rates however; it is first the need to understand financing and blended finance methods.  Anyone exploring performance contracting should become a student of financing and learn about how these deals work.  Attending a seminar or visiting the Web sites above is one alternative.  Readers might also explore Energy Star’s CFO Calculator, which can be downloaded from http://www.energystar.gov under the Business Improvement Tab.  This tool helps potential customers understand the financial aspects of performance contracts.   Blended financing is an important trend and is becoming more common.  In California ESCO’s are using utility subsidies to buy down the first cost of solar projects and financing the balance with performance contracts.  The Biomass project discussed here blended grant funding with district capital and a performance contract. For System Integrators who want to do projects of this type on a smaller scale financing can still be a tools.  One option is that there are new financial options from companies like HVAC Capital Corporation http://www.hvaccapital.com/, who business is to offer contractors and integrators an option to finance systems for owners that may not have the budget available to do projects.

The blended financing trend can be expected to continue, and this is likely to expand the technology measures to include Internet and other energy services.  Using the energy services sales processes to identify projects that are a candidate for design build projects without guarantees is also interesting.  LBNL identified this trend in their study and I believe it will become more common.  This trend demonstrates that customers now understand that guarantees may not be necessary for proven technologies, and it also opens up the market to more competitors including state and regional companies.  The bottom line is that performance contracting is proven and the model has worked so well that it is appears to be expanding to incorporate a completely new generation of energy technology and services.

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About the Author

Mc Gowan is an author and President of Energy Control Inc., an Energy Service Company and System Integrator.  He has published 5 books including “Direct Digital Control” on Fairmont Press.  The Association of Energy Engineers named him 1997 “International Energy Professional of the Year.  Mc Gowan sits on the DOE GridWise Architecture Council and the Energy and Power Management Technical Advisory Board.  He is a Contributing Editor with www.automatedbuildings.com. 

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