So, you’re thinking about hiring an ESCO. We understand how organizations needing a one-stop shop to implement energy saving projects can benefit from streamlined services for energy savings, like those offered by ESCOs. If you’re considering signing an ESCO contract, as with any big purchase a good question to ask is: how can I make sure I’m getting a good deal?
The simplicity of hiring an ESCO is compelling
Naturally there are trusted, high performing ESCOs and there are those which, let’s say, may not score as highly. Before signing on the dotted line, consider how you can protect your investment in energy efficiency by understanding how ESCOs work and what your options are to minimize your costs and risks, while maximizing your savings potential down the road.
Why hire an ESCO?
ESCOs provide a turnkey, energy-saving solution with one contract – a very compelling proposition to portfolio building owners who often have too much on their plate, with little budget or staff to keep things running. ESCOs can bring a fully managed plan for new equipment, new energy management systems, and measurement and verification (often by an independent 3rd party) to ensure ongoing performance. All this comes with performance guarantee to ensure the project is cash-flow positive to the client for the term of the agreement.
“With REM, it’s now cheaper and easier than ever to make sure that your project actually is cash-flow positive, not just that it appears so for the purposes of the guarantee.”
But there are potential tradeoffs between ease of procurement and the financial performance such contracts produce. This can arise from the differences in motivations between you and your ESCO. You want to make sure that your project actually is cash-flow positive, not just that it appears so for the purposes of the contract. With energy remote energy monitoring (REM) for buildings and campuses so cheap today, M&V can be really inexpensive, and savings at the meter and on the bill can be transparent.
What motivates an ESCO?
ESCOs have an obligation (aka performance guarantee) to save money that will pay for the cost of your projects out of expected cost savings, including equipment, design, overhead and financing costs. Since most are also for-profit corporations they also have a fiduciary obligation to earn a return for their shareholders. Those motivations can obviously conflict, so someone on your team needs to be watching from your point of view. If you have a long-standing relationship, trusting your ESCO is one option, but I certainly wouldn’t recommend that approach as a go-to strategy, and frankly, most reputable ESCOs wouldn’t either.
To Lower Costs, First Follow the Money
ESCOs serve as your energy advisor, project developer, implementing contractor and financial backer. All facets of the business thereby profit from you agreeing to, and implementing their recommendations. And all facets of the contract also offer opportunity for ESCOs to mark up costs. That practice can be perfectly legitimate – the ESCO incurs very real costs throughout the process – something that their clients sometimes forget. In a rush to “punish” bad actors, building owners sometimes drive up their own costs by encumbering ESCOs with additional costs. Owners sometimes forget that they will eventually pay those costs somewhere, or the whole business model falls apart.
I’ve heard that the rule of thumb for the length of engagement with institutional projects is about a year before an official proposal is requested/submitted, and 2 – 3 years before a contract is signed. That’s a lot of time meeting and planning that needs to be recouped. And since ESCOs win, on average, perhaps a third of open solicitations they bid on, the cost they need to recover is actually 3x that on the projects that they do win. So much for free markets driving down costs.
For example, if you’re “stringing along” 3 ESCOs, they each are at risk for marketing, scoping and project development costs before you ever sign on the dotted line. These costs then get added (and potentially marked up to account for risk) to the “real costs” of the project execution including:
- Project Development Costs (as above)
- Equipment (+ markup)
- Design (+ markup)
- Financing (+ admin fees, point financing fees)
Risk and uncertainty are rewarded in business with greater rates of return. They have to be, or the business won’t succeed. Many times ESCO clients don’t realize that their own actions actually increase the ESCOs risk, and therefore costs (for example, requiring “free” audits and project scoping by multiple firms). Indecision, or duplicative effort that is required by their clients, force them to drive up costs to recoup their substantial marketing and project development costs.
That being the case, it’s easy (and quite common) for ESCOs to recommend preferred vendors and financers when in such an influential position. That can mean that your work will be done by trusted partners with whom the ESCO has worked with (and succeeded with) before. Or it can mean that they grab whoever is available to do the work, and offer a cost that’s within the project’s pro forma. Trust, is again, an important factor in how deep your team needs to pay attention, and to what.
The ESCO model can be simple and effective, or, it can be the proverbial ‘fox guarding the henhouse’ if the ESCO loses sight of the real goal(s) of the project – saving their clients’ energy and money at the end of the day.
What are the tradeoffs of using an ESCO?
In signing on with an ESCO, you relinquish control of specifying your project. ESCOs package energy upgrades into one bundled solution, whether the collective projects are of high, low or negative value…or risk. They sell that “bundle” based on financial return rather than tailored, engineered solutions which might be better for you, your staff, and your building(s). Without specific, itemized project savings, or additional knowledge of system or technical options, you are running on faith….which brings to mind that crafty fox.
What about my guarantee?
ESCOs typically base an energy saving performance contract (ESPC) on guaranteed energy savings. It provides a “budget neutral” approach to funding the energy saving solutions through avoided, future utility costs and operational expenses. Yay, to getting things done…sort of, because there is a hook.
An ESCO is responsible for guaranteeing that the overall savings (avoided utility costs) will cover or exceed all project costs over a given period, somewhere between and 20 years. Otherwise the ESCO is deemed responsible for any differences (aka shortfall) out of their own pocket. At least that’s the intention.
However, the industry allows some very vague or poorly-worded contracts. If expected energy savings don’t result after project implementation, not only can you be missing out on savings but, pursuing action on contract fulfillment also costs money (attorney rates being multiples of engineer/PM rates last I checked), and therefore recommend you seek professional, legal counsel before signing any contract, preferably one who specializes in the world of ESPCs. You can also familiarize yourself with some common contract language to watch out for and of course you should always require multiple references and open books.
itself. A guarantee isn’t a guarantee at all if there’s no one around who recognizes that saving hasn’t been met. There are some ESCOs that have done very well on contracts with “prescribed savings” calculations that essentially mean that you’re guaranteed to get new stuff, not really guaranteeing that it will save you energy or money…
If you haven’t considered a non-ESCO approach, now’s a good time to so before you’re locked into a contract. ESCO’s one-size fits all approach can and will work for some clients but other options exist such as hiring an owner’s representative to scope, outline and develop your energy efficiency projects, help you through the competitive bidding process and verifying correct installation, operation and savings at project completion.
No two buildings are alike. Each one has different systems, operators, and functional profiles which interact in a unique symphony resulting in characteristic energy usage patterns. Think of an owner’s rep like part of your own energy management team. We help you every step along the way to ensure you are getting the best equipment installed with the most value.
We recommend only simple and effective solutions to bring out the maximum potential of your building within your budget. Our only motivation that make sense for your building, and its occupants.
If an ESCO is just what you need to ‘get it done’, before you sign any contract, consider hiring a third-party owner’s representative, whether it’s us or another qualified, independent, energy consultants. Feel free to contact us if you’d like to learn more about navigating the ESCO process, discuss your project, or who we’d recommend in our stead.
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