Evaluating project level investment trends for the U.S. ESCO industry: 1990–2017
Introduction
The U.S. energy services company (ESCO) industry provides energy savings and other benefits through comprehensive building retrofits, efficient equipment installation and other energy services. This private-sector industry has a 40-year track record of providing cost-effective energy efficiency, primarily to customers in the public and institutional sectors. The ESCO industry delivers significant incremental energy savings each year. In 2012, ESCO-implemented projects delivered energy savings (electricity, gas and other resources) of approximately 224 million MMBtu or about 1% of total annual energy consumption for all U.S. commercial buildings (Carvallo et al., 2015).
Larsen et al. (2012) define an ESCO as:
“A company that provides energy-efficiency-related and other value-added services and for which performance contracting is a core part of its energy-efficiency services business. In a performance contract, the ESCO guarantees energy and/or dollar savings for the project and ESCO compensation is therefore linked in some fashion to the performance of the project.”
ESCOs deliver cost and energy savings primarily through the energy savings performance contract (ESPC) business model. ESPCs are long-term contracts between ESCOs and end-use customers that enable customers to finance large energy efficiency, onsite generation, and other types of energy projects without the need for significant up-front capital. In an ESPC, the ESCO typically guarantees that the project will generate a specified annual stream of savings sufficient to pay back the project installation and financing costs. ESPC distinguishes ESCOS from other energy efficiency service providers that may install efficient equipment, but not provide performance guarantees. Nearly three-quarters of 2014 ESCO industry revenue came from performance contracting (Stuart et al., 2016). Non-ESPC agreements, such as fee-for-service or design-build1 projects, made up about 15% of revenue; power purchase agreements (PPA), consulting and other services made up 10% of industry revenue (Stuart et al., 2016).
Public policy has also played an influential role in the development of the U.S. ESCO industry, specifically its popularity in the public/institutional sector (Goldman et al., 2005; IEA, 2017a). First, nearly all states and the federal government have enabled performance-based contracts through legislation that authorizes institutional sector entities to enter into long-term contracts with ESCOs. In these arrangements, capital investments in high efficiency equipment, controls, lighting, renewables and onsite generation are repaid through energy and operational savings over the expected lifetime of the project. Second, ESCOs have also utilized and leveraged financial incentives (e.g., rebates) offered by many U.S. electric and gas utilities for installation of high-efficiency equipment which can shorten the payback times for customers for high-efficiency and renewable energy investments. Utility rebates were particularly important in the earliest years of the ESCO industry in order to help overcome customers concerns regarding installation and technical performance of high efficiency equipment.
Past studies suggest a changing environment for the U.S. ESCO industry. Larsen et al. (2012) found that project investment levels were increasing somewhat faster than benefits in ESCO projects implemented between 1990 and 2008. Since that time, a range of economic conditions and government policies has affected the ESCO industry: the 2008 financial crisis, the American Reinvestment and Recovery Act (ARRA) of 20092, and Presidential mandates.3 Stuart et al. (2018) reported that after 20 years of growth, ESCO industry revenue appeared to flatten between 2011 and 2014 at $5.3 billion (nominal $) and that the financial crisis, ARRA, and other factors may partly explain the trend.
A key objective of this paper is to address an important gap in recent research on the economics of energy efficiency, specifically U.S. ESCO industry projects, by exploring factors that may explain trends in project investment levels over time. We categorize ESCO projects into five contiguous vintages that reflect macro-economic trends, significant changes in electricity sector policies, and ESCO industry maturity (see Table 1).4
A primary motivation for this research is that the long-term viability of a private sector efficiency services industry depends on its ability to deliver cost-effective projects that are highly valued by end users. This paper is intended to inform U.S. policymakers, ESCO industry executives, end-users, and other stakeholders interested in continuing to foster a robust private sector energy efficiency services industry. Analysis of trends in the U.S. ESCO industry may also be useful for policymakers and stakeholders in Asia, Europe, and other emerging markets.
The remainder of this report is organized as follows. Section 2 includes a literature review of ESCO industry development, market barriers and potential policy drivers. Section 3 describes our data sources and overall methodological approach. Section 4 provides descriptive statistics of key ESCO project variables. In section 5, we investigate potential ESCO project investment level drivers and their relative influence on investment trends using a regression model. Section 6 summarizes our findings, explores the impacts of cost increase in ESCO project economics, and identifies future research needs.
Section snippets
Research on ESCO industry, project economics and market trends
Most literature on the U.S. and international ESCO industries has focused on emerging ESCO models, broad market trends, and barriers to end users engaging in ESPC (e.g. Bertoldi et al., 2014, 2007; Bertoldi and Boza-Kiss, 2017; Hilke and Ryan, 2012; Marino et al., 2011; Nakagami and Murakoshi, 2010; Okay and Akman, 2010; Pätäri and Sinkkonen, 2014; Vine, 2005; Vine et al., 1999). A number of studies focus on barriers to ESCO industry development and potential policy drivers in specific European
Data sources and methods
This study analyzes ESCO-implemented project and measure level data from two datasets: the LBNL/NAESCO database of projects and the eProject Builder (ePB)7 online database system. The LBNL/NAESCO database has served as the basis for a number of reports about the U.S. ESCO industry (Bharvirkar et al., 2008; Goldman et al., 2005, 2002; Larsen et al., 2012). This is the first time that measure level information from the ePB system is used in a formal analysis.
Descriptive statistics and trends
This section provides a succinct overview of trends for key factors that are reported in the LBNL/NAESCO database that may correlate with trends in the economics to customers of ESCO projects. More information on ESCO industry and market trends can be found in the latest LBNL State of the U.S. ESCO Industry (Carvallo et al., 2018).
Contribution of factors that affect project investment level trends
Based on previous research and discussions with ESCOs, we hypothesize that the level of project investment is correlated with the following factors:
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An increase in ESPC projects that are more expensive per square foot than non-ESPC projects;
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A changing mix of project measures with the increasing presence of more capital-intensive measures (e.g., onsite generation, roof replacement) which we characterize by defining a dominant retrofit strategy for each project;
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An increase in energy savings; and
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An
Other factors that may affect project investment levels
The unexplained fraction of the O-B decomposition can reflect unobserved factors that are not part of the ESCO data. We explore a few relevant factors in this section chosen based on discussion with ESCO stakeholders.
First, changes in financing costs (e.g. interest rates) over time may influence project investment levels. A reduction in interest rates makes the cost of capital less expensive, which can lead to increases in project investment as less money has to be spent in financing and debt
Conclusion
Recent research has suggested that the economic performance of projects installed by ESCOs may be changing over time. We perform analyses to characterize and understand what may explain these trends by leveraging two detailed databases which include ∼7000 U.S. ESCO industry projects: the LBNL/NAESCO database of ESCO projects and eProject Builder (ePB) system. The LBNL/NAESCO database has served as the basis of a number of LBNL reports about the U.S. ESCO industry. This is the first time that we
Disclaimer
This document was prepared as an account of work sponsored by the United States Government. While this document is believed to contain correct information, neither the United States Government nor any agency thereof, nor The Regents of the University of California, nor any of their employees, makes any warranty, express or implied, or assumes any legal responsibility for the accuracy, completeness, or usefulness of any information, apparatus, product, or process disclosed, or represents that
Acknowledgements
This project was funded by the Federal Energy Management Program, U.S. Department of Energy Office of Energy Efficiency and Renewable Energy under Lawrence Berkeley National Laboratory contract number: DE-AC02-05CH11231. We would like to acknowledge the following people for important financial and/or technical support of this research: Leslie Nicholls, Skye Schell, Kurmit Rockwell (DOE-FEMP), Donald Gilligan, Terry Singer, Timothy Unruh (NAESCO), and Bob Slattery (Oak Ridge National Laboratory).
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