UNITED KINGDOM

ENERGY EFFICIENCY MARKETS

Green Deal set to launch in Fall, 2012

The Energy Act of 2011 includes provisions for the new Green Deal, a program designed to help reduce carbon emissions cost effectively using financial mechanisms to eliminate the need to pay upfront for energy efficiency measures and providing reassurances that the cost of the measures be covered by savings on the electricity bill.

Energy Service Company (ESCO) Contracting in the United Kingdom

Most ESCO contracts in the UK are managed by a private entity, not the government, and as such the requirements will change from project to project. The “client,” who writes the tender for the ESCO is not the Government, but the real estate developer. A document providing Guidance and Advice on setting up and delivering on an ESCO contract was published in 2007, but still provides a good overview of some of the projects established in the UK, highlighting the support that ESCOs may receive by central and local government. See also the main UK ESCO blog for updates.

Commercial Service Market Research

The Carbon Reduction Commitment (CRC) Energy Efficiency Scheme is a mandatory scheme introduced by the UK Government in 2010 aimed at improving energy efficiency and cutting emissions in large public and private sector organizations. The scheme is one of the main drivers implementing energy efficient services, including ESCOs.

Large organizations are responsible for around 10% of the UK’s emissions. The CRC Energy Efficiency Scheme scheme features a range of reputational, behavioral and financial drivers, which aim to encourage organizations to develop energy management strategies that promote a better understanding of energy usage.

The UK Government has been very supportive of ESCO implementation and the UK ESCO market is now quite mature and competitive.

Many UK energy efficiency projects involve creating an ESCO via a tender process. Various councils in the UK have set up ESCOs in one way or another to provide heat and power in the form of Combined Heat and Power (CHP) to local housing estates in order to tackle fuel poverty. Other ventures with ESCOs have also been driven by concern for the climatic effect of energy usage. A few authorities have teamed up with existing ESCOs, and there are also examples of private sector developer-driven ESCOs.

The ownership/governance of ESCOs in the UK essentially falls into one of three categories:

1. Wholly owned by the private sector, for instance, an ESCO in which the shares are held by an energy provider and a developer (there are a number of these planned or in operation). Local authority powers are not relevant at all to an ESCO of this kind although the energy regulatory matters do of course apply;

2. ESCOs in which a local authority has an interest, but where that interest is less than 20%. Normally the remaining 81% would be held by one or more private sector interests, usually an energy provider. Limiting local authority participation to below 20% prevents the ESCO being consolidated with local authority constraints and duties (finance rules; and other complications and constraints). The joint venture agreement with the private sector party can specify the function and objectives of the ESCO, its funding, the choice of projects and other matters, regardless of the local authority’s minority shareholding.

3. An ESCO in which the local authority has a 20% or greater shareholding. These are most suitable where the ESCO’s function is focused upon matters of social, economic or environmental well being, and where commercial considerations of making a profit are secondary. This could occur for example, where the scheme operated by the ESCO is not commercially viable as a free standing business and significant financial support is required of the local authority. In that case, local authority powers do require close attention and may constrain the ESCO’s activities (e.g. selling electricity other than to consumers of the scheme). These types of schemes do not necessarily pre-suppose no profitable private sector involvement - in some cases, a local authority may wish, for social, economic or environmental reasons, to have a shareholding of greater than 20%, but nevertheless can still offer involvement in a scheme to a private sector partner on terms which are commercially viable for that partner

There are numerous ESCOs active in the UK – these include utilities (e.g. EoN, EdF, Scottish Power), CHP manufacturers (e.g. Dalkia, Cogenco) and other energy suppliers such as Thameswey Energy:

ESCO contracts can vary widely. They are more common in some sectors where an organization effectively ‘contracts out’ its entire energy facilities. An example of this would be the provision of energy services to a hospital under a Public Private Partnership (PPP) contract.

In some instances, the ESCO contractor will design, install, finance, operate and maintain a CHP plant on the organization’s site. In other cases, the organization subcontracts only the operation and maintenance of power plant that has been installed by other contractors under a capital purchase arrangement. In both cases, the ESCO contractor supplies heat and power to the organization at agreed rates. The ESCO contractor will also normally take responsibility for fuel purchase, for other on-site energy plant and for the purchase of conventional energy.

From a financing point of view, the basis of an agreement of this type is the transfer of power plant capital and operating costs, together with all the technical and operating risks of the plant, from the end user to the ESCO contractor.

Different ESCO contractors may produce widely differing proposals, depending on the organization’s requirements and the ESCO contractor’s objectives. Among the many variables to be resolved will be:

  • Who will operate the plant on a day-to-day basis and, therefore, bear the performance risk?
  • Who will maintain the plant?
  • Who will own the plant at the end of the initial agreement period of 10-15 years and at what ongoing cost?

Any transaction with an ESCO contractor involves a long-term commitment by the organization. The organization’s audited accounts should contain a summary of this commitment. Evidence will also be needed to satisfy the organization’s auditors that the arrangement is an operating lease and not a finance lease. If ownership transfer to the organization is implied or stated in the contract, the arrangement must appear on the organization’s balance sheet.

It should also be noted that an ESCO contract and finance are not intrinsically linked. It is possible to enjoy the core benefits of an ESCO arrangement – cost reduction and operational risk transfer – irrespective of the finance route chosen.

Opportunities available in the UK market typically fall into one of the three following categories:

1. Opportunities specific to the facilities management model – However public procurement is currently limited, e.g. the Private Finance Initiative has a poor record on energy performance contracting;

2. Opportunities specific to the community model:

  • Key sectors such as local government or social housing have taken the lead;
  • Housing developers could contract out all energy infrastructure on a site to an ESCO to design build operate maintain and bill. The ESCO can design and manage the assets to achieve least life cycle costs
  • In new build developments, the cost of energy efficiency and microgeneration is the marginal cost over and above what would be installed anyway (e.g. gas boilers, gas network). Economies of scale can be made to install devices in a thousand homes in one go. Systems (e.g. metering and generation systems) can be integrated from the start;
  • In new build developments, an electrical network has to be installed to each home, which is usually given to the distribution network operator (DNO) to manage because it is seen as a liability. If this is designed and installed by an ESCO it can be retained and used to sell surplus electricity by private wire.

An example of the significant support that the local UK Planning Authorities are giving to the implementation of ESCOs in new major regeneration schemes is all major new-build developments in London now being required to include for decentralized energy district schemes (unless proved unfeasible through a detailed technical study).

3. Opportunities specific to the domestic energy supplier model – Schemes established under the community model could take a lead in connecting homes close to the core community. In the UK, district heating schemes grow their connected load at an estimated 5% per annum once established.

Multi Utility Service Companies (MUSCOs)

MUSCOs are recently taking the lead on utility provision for large-scale sustainable developments. MUSCOs have a remit stretching far beyond the energy arena to also offer developers water, wastewater and communications services.

The MUSCO market has been emerging over the past four or five years, and would have been more developed were it not for the recession and its disastrous effect on house-building. But a significant number of sustainable development projects remain in the offing, particularly surrounding London regeneration.

Additional information includes assistance to companies wishing to deploy energy efficiency; a link to the ESCO EU 2012 Conference; and a report by the European Commission on energy efficiency and the market for ESCOs.