Photo credit: Nico Hogg, Creative Commons Attribution 2.0 Generic

It is now becoming widely accepted that increasing the flow of investment into energy efficiency is essential for hitting climate targets, as well as addressing issues including fuel poverty and energy security. Much of that investment will have to come from the private sector, from institutional investors. So how do institutional investors view energy efficiency and how could metered efficiency help increase the flow of investment into efficiency?

It has to be said that for many, (if not most), institutional investors, energy efficiency remains a bit of a mystery. When questioned about efficiency, many investors will say something like, ‘oh you mean solar panels and stuff’, which is not what we fundamentally mean by energy efficiency i.e. doing the same (or more) with less energy input. Back in the early 1990s the wind industry was in a similar position, early wind farm developers, (the author included), could only find one bank in London that knew anything about wind power and that was a US bank that had financed wind farms in California. Now there is a plethora of banks and financial institutions who understand every detail of the multi-billion pound wind business.

This lack of knowledge about efficiency amongst financial institutions is changing as they come under increasing regulatory and customer pressure to disclose climate related risks and directly address climate change through their investments and lending. Institutions that either own or lend to property portfolios, whether they be houses or large commercial buildings, in particular are increasingly recognising the potential for energy efficiency improvements as a way of mitigating climate risk.

There are four reasons why financial institutions are getting more interested in energy efficiency:

• energy efficiency represents a large potential market.
• Improving efficiency reduces risks in two ways:
  • firstly, increasing energy efficiency improves the cash flow of clients, thus reducing their risk.
  • secondly there is the risk of financing assets that become stranded as energy efficiency regulations are tightened. For example, tightening Minimum Energy Performance Standards exposes owners to the risk of owning an asset that cannot be sold or rented in future.
• improving energy efficiency has a direct impact on reducing emissions of carbon dioxide and other environmental impacts such as local air pollution and therefore can be a key part of Environmental, Social and Governance (ESG) programmes.
• finally, and probably most importantly, bank regulators are increasingly requiring institutions to estimate and disclose climate related risks and energy efficiency can reduce risks.

The barriers to investing in energy efficiency are well documented in thousands of papers and articles. For financial institutions the main barriers include, as well as the lack of understanding and capacity referred to above: the small scale of most energy efficiency projects, their heterogenous nature, lack of data, and performance risk – the risk that projects do not deliver the energy savings projected during the design process. Importantly as well, energy savings are the absence of something, a counterfactual, and invisible which is harder to deal with than for instance the production of energy. All these factors combine often to put energy efficiency into the more difficult box. If you control £100 million, and that is generally considered a small fund, it is easier to buy a couple of wind or solar farms than it is to originate, develop and deploy capital into hundreds of LED lighting installations or new heat pumps for example.

The lack of data and performance risk are major barriers to financial institutions. It is not so much that energy efficiency projects have risks, contrary to some opinions of course they do have risks – like all investments, it is more that the lack of data, (past, present and future), means that they are uncertain. Risks can be understood and mitigated, uncertainties are much harder to deal with. The lack of data on what actually happens when energy efficiency measures are installed would also inhibit Distribution Network Operators even considering energy efficiency measures as an alternative to network upgrades, even if they were enabled and motivated to do so by regulations, (which at the moment they are not).

For most of its history the energy efficiency industry has survived on ‘deemed’ savings – the level of savings that an engineering assessment says the projects will produce. Even with the advent of Measurement and Verification, (M&V), and the International Performance Measurement and Verification Protocol (IPMVP), very few energy efficiency projects were measured to see what the actual savings were.

Metered efficiency, the idea of establishing a common system of ‘weights and measures’ for measuring energy saved, emerged out of California about ten years ago. It is now being used widely across the US, allowing utilities and regulators to measure the effectiveness of energy efficiency programmes as well as the utilities to better understand and manage the changes in their load curves brought about by the adoption of roof top solar. For investors, (of all types from institutions to households), it offers the possibility of only paying for what you get, ‘pay for performance’, which is much better than paying for stuff and hoping that some energy savings result. It also opens up the possibility of having contracts that resemble Power Purchase Agreements (PPAs). PPAs are well understood and are a very bankable proposition, you can raise capital on the back of a PPA from a good counterparty. We could have EEPAs, Energy Efficiency Purchase Agreements, which define the amount of energy efficiency to be delivered, within some boundaries, and how much will be paid per unit delivered. They would look very similar to PPAs. Pay for performance contracts such as EEPAs would also serve to greatly improve the quality of energy efficiency projects being sold, if the supplier was only being paid on what was delivered they would have a bigger interest in delivering quality projects and maintaining savings over time. Suppliers delivering bad projects would rapidly go out of business. Pay for performance contracts would also avoid the need for costly and complex Energy Performance Contracts, (EPCs), from Energy Service Companies (ESCOs), which are used to put performance risk onto the contractor but in which they take a hefty margin to offset the risk of non-performance. With metered energy savings and pay for performance you simply pay for what is delivered, just like when you buy energy.

For utilities and regulators metered energy savings offers the possibility of really understanding the effect of energy efficiency and flexibility measures on an hourly (or less) basis. Targeting the reduction of energy use at times when grid generation is high carbon, could have a major impact on reducing overall emissions. There is not a lot of point saving energy in the middle of the day if all the load is capable of being met by roof top solar, you want to save energy when the gas (or other fossil fuelled) generators are on. Such precise targeting requires understanding the time aspect of energy efficiency, energy savings are not as we often implicitly assume, spread equally over 24 hours a day. In the right regulatory environment, which we don’t yet have in the UK, distribution companies could use metered energy savings to invest in energy efficiency projects with a better economic, and social, return than investing in network upgrades such as new wires and sub-stations.

In conclusion, metered energy savings can make energy efficiency more like energy supply, and therefore make it more investable for financial institutions, energy distribution companies, and end customers. The RetroMeter project, supported by Ofgem’s Strategic Innovation Fund and delivered by a consortium consisting of: Electricity North West; Energy Systems Catapult; Carbon CoOp; Manchester City Council; and ep Consultancy; is developing an approach to metered efficiency savings and applying it to a residential retrofit project in Manchester with a focus on heating energy. As well as testing different approaches to metering energy saving, it is looking at the benefits for different stakeholders from the householder, to the Distribution Network Operators, to the health service, as well as developing business models that could help bring in more investment into energy efficiency through mechanisms such as pay for performance.

Details on the RetroMeter project can be found on the Electricity North West website

https://www.enwl.co.uk/future-energy/innovation/strategic-innovation-fund/retrometer/retrometer-discovery-phase/

The following is the text of my presentation made in Cairo on the 18th December 2023 at a UNIDO organised event presenting the results of a project on ESCO contracts completed by a consortium consisting of Eenovators, ep Group, Sheeta Law and Eng. Mohamed Atef.

The problem

It is always important to start with defining the real problem that we are trying to solve. It is important to focus on that and not be distracted. The problem we are trying to solve, as energy efficiency and ESCO professionals, was defined perfectly in COP28, and that is to increase the average rate of reduction in global energy intensity to 4% per annum, compared to historical levels of 1% to 2%. At the COP more than 110 countries committed to double the rate of improvement in energy efficiency by 2030.

How do we increase the rate of improvement in energy efficiency? Although better energy management, i.e. better managing what we already have, can undoubtedly help, the real key is investment in projects that improve energy efficiency. The IEA’s surveys of energy efficiency investment show this is running at about $600 billion per annum. We need to triple this rate of investment and bring it more in line with the investment in energy supply.

How do we increase investment in energy efficiency? To answer that we need to consider a systems view of the process of investment in energy efficiency, which as in other areas, goes through generic five stages, starting with origination, (the idea), and goes through development, underwriting, financing, building and operating. We know from many, many studies in all sectors, in all countries that the potential for energy efficiency projects is huge. Any decent energy efficiency consultant can go into almost any building or industrial facility and find some potential energy efficiency projects. The problem is that there is a huge ‘development gap’ between the potential, and having practical, financeable projects. Energy efficiency is no different to other energy sources in this respect, there is a big gap between a geologist saying for example, ‘here is an oil field’, and having a functioning, producing oil well. The potential for energy efficiency is huge, the volume of projects being developed at any time is much, much smaller, and the volume of projects being financed at any time is much smaller again.

It is clear that we need to grow the volume of projects under development and the volume of projects being financed. So what drives those volumes? They are driven by four factors: the demand for energy efficiency projects; the capacity to develop projects; the capacity to finance projects; and the volume of finance available to fund the projects. The demand for energy efficiency is critical, decision makers, whether in industry and commerce or in the residential market, need to demand projects. This requires them to know what is possible and what the advantages are likely to be, and we all need to recognise that strategic benefits e.g. increased building value or improved health outcome, are more likely to make decision makers demand energy efficiency projects than just energy cost savings.

Developing projects requires technical and financial skills, as well as human skills – development is a process that can be taught. Even if projects are being developed there needs to be capacity to finance projects which requires building skills in the finance industry. When the wind industry started in the early 1990s there was very little capacity in the finance industry to finance wind projects, at one time the only bank in London that knew anything about wind power was Bank of America because they had financed wind projects in the USA.

The final lever is the volume of finance, this can of course be finance that is labelled as ‘energy efficiency’, which can be made available through various financing instruments, or it can be general finance such as regular commercial loans that is applied to energy efficiency projects. Ultimately the volume of capital is not a constraint because the capital markets are so large – it is more about the demand and the capacity to develop and finance projects.

What is an ESCO?

The Global ESCO Network has defined an ESCO and highlights three critical aspects that distinguish ESCOs from other types of companies. These are:

– ESCOs deliver energy services and energy efficiency improvement measures in a user’s facility
– The improvement measures are based upon a holistic analysis of the users energy and resource demands
– The payment for the services is based, (either wholly or in part), on the measured and verified achievement of energy efficiency improvements and of any other agreed performance criteria.

History of ESCOs

It is often said that ESCOs were invented in the USA in the 1970s. This is an ocean and 200 years away from the truth. ESCOs were invented by Matthew Boulton, who partnered with James Watt in the 1770s. Boulton and Watt sold Watt’s more efficient steam engine to mines, where they were typically used for pumping water, and took payments based on the savings in coal. These were the first ESCO shared savings contracts.

The modern ESCO of course did start in the 1970s with two models emerging – in the USA the Energy Performance Contract (EPC) developed and in Europe the ‘chauffage’ or heat service model was more common. In the 1980s the EPC model spread into Europe, in the UK both the oil majors BP and Shell created subsidiaries offering EPCs although the most common projects were replacing coal or oil fuelled boiler houses with new, automated gas fired boiler houses which reduced energy and labour costs.

In the 1990s the USAID spread the ESCO model around the world, although it has to be said that they promoted the concept but didn’t really talk about the finance aspects, which in the USA at least was usually based on cheap municipal or federal funds, funds that clearly not available outside the USA. In many markets utilities entered the ESCO market, proclaiming themselves as energy service companies and ESCOs as the future. This all went into reverse after the collapse of Enron, where Enron Energy Services was an innovative form of ESCO that provided both energy supply and energy efficiency projects on a service basis. The models pioneered by Enron Energy Services at least in the UK, went onto success under RWE Solutions. Following the collapse of Enron utilities came under pressure to focus on core business and retreated to that, selling off or closing their ESCO arms.

In the 2010s interest in energy efficiency started to grow again and we saw the emergence of the Super ESCO model, pioneered by Dubai in the form of the Etihad Super ESCO. We also saw some innovation in contract forms emerging but EPCs remained the dominant contract form.

According to the IEA the global ESCO market accounted for $40 billion of investment, so about 7% of the total investment in energy efficiency. Although the energy efficiency industry gets very excited about ESCOs, at $40 billion of investment, the whole industry remains very small. The oil majors Shell and BP have a combined annual capex of circa $38 billion and Aramco has a capex of circa $52 billion. If we are going to triple the investment into energy efficiency we need to (at least) triple the capital invested through ESCOs.

ESCO models

There are varieties of ESCO models. Every text book or paper on ESCOs presents the ‘shared savings model’ and the ‘guaranteed savings model’. Most contracts in practice are guaranteed savings – early shared savings contracts in the US often ended up in bankruptcy of the ESCO or expensive legal arguments about the actual level of savings. Shared savings are often presented as a magic bullet that helps finance energy efficiency but advocates of this model forget that the ESCO, any ESCO, has a limited balance sheet, (however big), and can’t take on more and more finance as they do more and more projects. Also the model requires them to effectively take on the credit risk of the client, something that banks and financial institutions are better qualified to do. ESCOs need to use their expertise to take and manage technical risks, banks need to take financial risks. ESCOs financing projects themselves can work if there is a way of recycling the cash flows through a forfaiting facility.

The other ‘traditional’ ESCO model is ‘chauffage’ or Outsourced Energy Management. In this model the ESCO builds a stand-alone plant, often a boiler house or a Combined Heat and Power (CHP) system, and supplies heat, (and power for a CHP project), to the client who pays on a per unit basis. This model can be applied to any utility including heat, chilling, industrial gases, treated water and compressed air. It has the advantage of having a clearly isolated plant and the ability to meter the output. The Enron Energy Services contract referred to above, and subsequently implemented by RWE, was primarily of this form and required investment in new utility supply infrastructure, and supplied all the utilities used in the Guinness breweries including: steam, chilled water, compressed air, nitrogen, treated water, effluent. By implementing these measures in the Guinness brewery in London energy use was reduced by circa 40%.

In recent years there has been a flowering of innovation in ESCO contracts and an alphabet soup has developed including: MESA – Managed Energy Services Agreement, ESA – Efficiency Services Agreement, and MEETS – Metered Energy Efficiency Transaction Structures. These contract forms address some of the problems with Energy Performance Contracts but have not yet scaled as much as ‘traditional’ EPCs.

We have also seen the growth of Lighting as a Service (LaaS), which has been enabled by the big energy savings that come from installing LED lighting to replace conventional fluorescent lamps. LaaS companies carry out surveys, design new lighting systems, maintain them and charge the client a fixed fee over an extended period. The fee is typically less than the savings achieved.

A promising new area that needs to grow is Cooling as a Service, CaaS, in which the ESCO installs more efficient cooling technology and charges on a service basis. CaaS is going to be critical, especially in hot countries where demand for cooling is growing fast such as in the Middle East, Africa and Asia. Although CaaS is often presented as being about air conditioning for buildings, it should not be forgotten that establishing and maintaining cold chains for the supply of food and other critical supplies such as vaccines, is critical for development – improving living conditions, health and avoiding waste, as well as reducing energy demand from cooling which are growing rapidly. CaaS has a vital role to play and will become a huge and critical part of the ESCO market.

We are seeing a general growth in ‘as a service’ business models in many aspects of life, including mobility as a service, and there is no reason they cannot be applied to other parts of the energy system eg more efficient motors – Motors as a Service(MaaS) is an untapped market for electric motor suppliers.

Risks

It used to be said that energy efficiency projects had high returns and little or no risks. As a 1980s energy efficiency text book said:

‘Energy efficiency has high returns and virtually no risk’.

This myth continues to be repeated and is not helpful for developing the market. If they really had high returns and no risk everyone would be investing in them. Now we have better understanding of the risks of energy efficiency projects which include: performance risk; equipment risks; Operations and Maintenance risks; weather risks; and changes in production volume or mix, or changes in the use of buildings. We saw the effect of the latter during the pandemic where many buildings were completely empty for long periods, and indeed even now many office buildings are operating at a fraction of the occupancy they enjoyed pre-pandemic. Any ESCO contracts covering such buildings have been severely disrupted and Measurement and Verification (M&V) techniques have been sorely tested.

ESCO contracts of course are a way of allocating and managing risk. Clients, and ESCOs need to understand the risks and be reasonable about where they are allocated and how they are mitigated.

Advantages and disadvantages of ESCO contracts

ESCOs are great at bringing capacity and skills in energy and utilities to organisations that are focused on their core activities, and not energy. They can bridge the development gap between concepts for projects and fully developed, bankable projects. They can also bring finance to projects.

However, ESCOs are not the answers to all the problems with energy efficiency. ESCO contracts have their limitations and these need to be recognised alongside their benefits. They can only be applied to large projects because of the high transaction costs, and they need long-term stability in the client base such as afforded by public sector estates, They need to be applied in the right circumstances but not considered as ‘the answer’ to increasing the investment into energy efficiency. They are an important tool but not the only tool.

Super ESCOs

The Super ESCO is a rapidly emerging model that helps address many of the problems of growing the ESCO market. Pioneered by the World Bank and other International Financial Institutions we now have Super ESCOs in Dubai, Etihad Super ESCO, and Saudi Arabia, TARSHID. It is great to see these state backed companies in the Arab region developing the market for ESCOs.

Super ESCOs can develop projects at scale, enforce standardised contracts and processes, arrange finance at scale, and develop capacity in the ESCO market. In the next few years we should see additional Super ESCOs being formed, including in Kenya.

ESCOs in different regions

In the USA there has been a long-established market for ESCOs in Federal and State government owned buildings. In the Federal market, the Federal Energy Management Programme, (FEMP), provides assistance, capacity building and template forms and contracts. It also provides a standardised procurement system. Federal agencies are required to assess all opportunities for energy efficiency every four years which helps drive demand for new projects. At the state level the main market is the ‘MUSH’ market, Municipalities, Universities, Schools and Hospitals. Often financing comes from municipal bonds which provide cheap finance.

China accounts for 60% of the global ESCO market. Development of the market started in 1998 with World Bank and Global Environment Facility support which came together in an ESCO Loan Guarantee Scheme with funding of USD 22 million. There are now a reported 6,500 ESCOs employing some 760,000 people but 80% of them are small or micro businesses so the number actually implementing significant projects is considerably smaller. Unlike the US, 90% of the market is in the private sector and 55% of projects are in industry where there has been a strong focus on industrial waste heat to power installations. The 2010 legislation is supportive of ESCOs, which have to be certified and get special tax treatment, and created a special ESCO fund. Interestingly the Beijing Environmental Exchange allows trading of future revenue streams of ESCO contracts which is a really useful way of allowing the ESCOs to recycle capital.

In the Middle East, as already mentioned, there are world leading Super ESCOs in the form of Etihad Super ESCO in Dubai and TARSHID in Saudi Arabia. The Etihad Super ESCO was created by DEWA, the Dubai Electricity and Water Authority, and is closely allied to the demand side management policy. The Super ESCO creates and develops projects at scale, secures finance at scale, and uses commercial ESCOs to undertake the work under Energy Performance Contracts. DEWA has also established standards and certification programmes for ESCOs, energy audits and Measurement and Verification (M&V). These have helped develop the market. In Saudi Arabia TARSHID is focused on government buildings which provides a large pipeline with much potential as many of the buildings were constructed in the oil boom years and are very inefficient.

Lessons learnt

In all of our work around the world on scaling energy efficiency, including ESCOs, we came to the conclusion that in order to be successful in scaling it is necessary to put in place four pieces of a jigsaw, what we call the jigsaw of energy efficiency financing. The four parts are:

– Develop pipelines – we need pipelines at scale, not just one building here and there
– Standardisation – of contracts, technical solutions, processes and under-writing
– Build capacity – in the demand side, the supply side and the finance sector
– Provide finance – both development finance as well as project finance.

ESCOs, and particularly Super ESCOs, can provide all these pieces. They can build pipelines at scale, but this can be greatly helped by the public sector taking bold procurement decisions and providing portfolios of buildings for improvement. ESCOs, and particularly Super ESCOs, can drive standardisation. They can also build capacity in the sector. ESCOs can provide development capital, which is their risk capital, but the public sector can provide additional development capital through Super ESCOs or mechanisms such as guarantee schemes.

The future for ESCOs

The future looks bright for the ESCO sector but in order to achieve the success we know is possible, and grow the industry at least in line with the target of tripling investment in energy efficiency, policy makers, ESCO professionals and the finance sector need to work together to ensure that the four pieces of the jigsaw ae in place, This requires co-ordinated policy and capacity building work along with dedicated financing instruments. It also requires a realistic assessment of the areas where ESCOs can help, and those areas where the conventional EPC offering cannot work. In those areas we need innovations in contract form and business model, as in ep Group’s ESCO-in-a-box which is designed as a simplified, and repeatable business model to address the energy services needs of the SME sector.

The EC has published the Energy Efficiency Financial Institutions Group’s (EEFIG) report on applying the Energy Efficiency First principle in sustainable finance, for which I was the lead alongside Peter Sweatman of Climate Strategy. I think this is one of the most important, if not the most important report, to come out of EEFIG’s work – which over ten years was extensive, very influential and covered many aspects of energy efficiency finance.

The Energy Efficiency First principle is EC policy and is defined as:

‘energy efficiency first’ means taking utmost account in energy planning, and in policy and investment decisions, of alternative cost-efficient energy efficiency measures to make energy demand and energy supply more efficient, in particular by means of cost-effective end-use energy savings, demand response initiatives and more efficient conversion, transmission and distribution of energy, whilst still achieving the objectives of those decisions.’

So why is applying it in financial institutions, and this report, so important? Every day, and every hour, even as you read this, decisions are being made in investment committees and credit committees to invest or lend money for all kinds of energy using assets. The level of energy efficiency of those assets determines our future energy demand, and of course emissions, for years and even decades to come. This is particularly true for long lived assets such as buildings and industrial facilities but is equally true for shorter lived, smaller assets and equipment.

Financial institutions can influence these decisions by setting investment and lending policies and procedures that ensure energy efficiency performance is at least considered in the investment or lending processes, and options evaluated. If the money says you need to reach a certain level of energy efficiency for the project or asset you will do what is needed to get the money. Why should financial institutions do that? Surely this is just another level of bureaucracy that will upset customers who have to leap through seemingly ever more hoops. Other than the fact that it is the right thing to do, financial institutions have real motivations to do this. They are increasingly being driven to decarbonise their portfolios by reporting standards such as the EU Taxonomy and TCFD. Furthermore, improving energy efficiency reduces financial and physical risks, and in some asset classes like houses higher levels of energy efficiency have been shown to be linked to higher value. Energy efficiency can reduce risks and increase value.

Applying the Energy Efficiency First principle in financial institutions can help accelerate energy efficiency and decarbonisation within their portfolios compared to being passive and relying on customers (of all sorts), who themselves may not know what is possible in terms of cost-effective energy efficiency, or the multiple benefits of energy efficiency measures can bring. This does mean a more proactive approach from the financial institutions and does bring them further forward in the process of planning, designing and financing an asset or project, (the earlier a high level of energy efficiency is incorporated the easier and cheaper it is to implement).

In order to apply the Energy Efficiency First principle financial institutions need to set policies, understand the potentials within relevant sectors they operate in, build their own capacities, and have tools to assess energy efficiency of underlying assets as well as portfolios. Energy efficiency also needs to be integrated into wider sustainability principles and policies rather than just be bolted on. Perhaps surprisingly energy efficiency is often not mentioned in sustainability policies and systems, even though it is the most cost-effective way of addressing emissions reduction. This is another example of how invisible energy efficiency is.

A financial institution wanting to implement Energy Efficiency First needs tools at policy, portfolio and project levels. Leading public and private financial institutions, including amongst others, the EBRD, the EIB, the World Bank, ING, Aviva, and Allianz, are putting these kinds of tools into action. Technology has a big role to play in evaluating projects and portfolios and a number of providers are offering or developing tools.

The EEFIG Energy Efficiency First report sets the scene for applying the principle in financial institutions, makes the arguments why they should apply it, provides showcase exemplars, sets out processes, and gives examples of tools in use at policy, portfolio and project level. It also makes recommendations for policy makers and financial institutions. Energy Efficiency First does not mean that in every case all possible energy efficiency measures will be implemented, there are often technical and financial cases that prevent this. What it does mean that at some point in the process of financing an asset you have to stop and assess the energy efficiency performance of the underlying asset and see if more can be done. That would stop many of the missed opportunities that are happening every day and every hour and ensure more of the cost-effective energy efficiency potential is implemented.

If we can scale the use of the Energy Efficiency First principle within financial institutions it will accelerate improvements in energy efficiency and reduced emissions, and avoid ‘lock in’. It will also help shift energy efficiency financing from a niche and still very small ‘add on’ to everyday normal practice. The next step in the process of scaling the Energy Efficiency First principle in financial institutions is to translate the general guidelines into specific guidelines for each sub-sector. Real estate is different to private equity for instance and needs specific guidelines. This is best done through the sector associations to ensure buy-in and dissemination.

Scaling the use of the Energy Efficiency First principle within financial institutions is the next important task. At ep group we continue to work with financial institutions and others to accelerate investment into energy efficiency and can assist in applying the Energy Efficiency First principle.

The report can be found here:

https://tinyurl.com/kzmpj7vp

Thanks to all the Working Group members and the consortium team for their work in this project.

On the 12th October I moderated a panel on industrial decarbonisation at the Carbon Forward London conference. Not being a carbon markets specialist I was out of my comfort zone – which is always a good place to learn new stuff and meet new people. Despite not being directly involved in carbon trading obviously my work has touched upon it. The first time I ever reported carbon emission reductions as well as energy saving was 1993 for Strathclyde Regional Council that had several thousand buildings. I just found the report in my archive the other day. Then in 2005 I executed a very early trade on the Emissions Trading Scheme when our client at RWE Solutions, Guinness, closed the Park Royal Brewery, which was of course the wrong kind of decarbonisation.

My panelists at Carbon Forward were: Andrew McDermott, Deputy Chief Executive, British Ceramic Confederation, David Phillips, Head of Capital Markets & New Market Strategy, Aker Carbon Capture, and Trevor Sikorski, Head of Natural Gas and Carbon Research at Energy Aspects. Their expert contributions made me consider the subject and also taught me a lot about the latest developments in carbon capture and storage (CCS).

In my long career in in energy efficiency, interest in the subject has waxed and waned but we are definitely in an up-wave now due to some obvious factors, notably energy price increases and increased focus on energy security, as well as less obvious factors such as growing interest in the subject from institutional investors. Despite that growing interest energy efficiency remains the Cinderella of energy options and the potential for cost-effective improvements remains high. The IEA estimate that 40% of our required reductions in emissions could be achieved through improved energy efficiency. In our work on energy efficiency, including through our ESCO-in-a-box® business model, we see the need to improve the economics of many energy efficiency projects, particularly deep retrofits, and this requires stacking different revenue sources together. This can include adding carbon, biodiversity and even social credits, into the mix for retrofit projects.

Andrew outlined the decarbonisation pathway for the ceramics industry, an energy intensive industry which is geographically dispersed and includes a high proportion of SMEs. Furthermore its carbon emissions are predominantly driven by heat, and particularly high temperature heat processes, typically at 1200 to 1300^oC, but with some specialised processes operating at an incredible 2,800^oC. The pathway to net zero for ceramics includes a mix of technologies: energy efficiency (14% reduction in carbon); on-site generation (1%); grid decarbonisation (3%); hydrogen (36%); electrification (11%); bio-energy (3%); carbon capture (15%); and product adoption (4%); leaving a residual 4%. Hydrogen combustion is being trialled in some sites but of course there are issues of supply and storage. Electrification may sound like an easy option but the different heat transfer pathways, with less emphasis on convection and more on radiation mean that it can be necessary to change stacking patterns to ensure even heating. Electrification is not just a simple switch of heat source.

David talked about Aker’s modular carbon capture technology which is now being applied in Norway and further afield in onshore and offshore applications. With plants ranging from 40,000 tonnes a year to more than 400,000 tonnes a year the technology is now proven and costs are coming down, as carbon prices go up. Aker also offers carbon capture as a service, providing the whole solution including capture, transportation and storage on a price per tonne basis. I must admit this technology is more advanced than I had previously thought and with an increasing carbon price it will become more viable for large single point emitters or CCS hubs.

Trevor talked about the risks of technology and how companies could be incentivised to take those risks. Given the need for speed to address the climate crisis new technologies will need to be developed and adopted quickly, and that is inherently risky. Manufacturing companies are naturally hesitant about adopting unproven new technologies, particularly those that directly impact the process. Getting those kinds of decisions wrong can be terminal.

The discussion reminded me of a paper I wrote in 1987¹ based on parts of my PhD work in which I set out a soft systems² analysis of the energy management function within companies. In it I said that when considering options for energy efficiency projects companies needed to make an explicit decision on the level of research, design and development, i.e. technological risk, that they were willing to take on. The model presented divided energy management into four levels: good housekeeping; retrofit; plant replacement projects; and process re-design. These apply equally to decarbonisation. ‘Good housekeeping’ is a dated phrase but really means managing what you have already in a better way, ensuring the existing system is operating at maximum efficiency with minimum waste. In industrial energy systems this means measures like ensuring control systems are operating well, burners are firing efficiently, and steam traps are all operating. This is the basic level of energy management and in many energy intensive industries it is usually fairly well managed. In less intensive industries, and in buildings, it tends to slip over time which is where processes like ISO50001 can be useful as they systematise management processes rather than leaving things to chance. Even in the best run companies there are probably still opportunities to save energy and carbon this way. Although it is different to industry we have had an example of this in the residential market recently where during the energy price crisis it came out that nearly all of the millions of condensing gas boilers, which were sold as being energy saving, were set up to run at high flow temperatures, which mean they weren’t condensing which means that homes were wasting c.6-8% of their gas usage. Adjusting the flow temperatures down reduces energy use without affecting thermal comfort – better housekeeping or energy management.

The retrofit level is all about adding something to a plant or building that improves efficiency, maybe insulation, a control system, or new more efficient burners. The plant replacement level is about things like replacing a production line but using essentially the same process technology. A new plant, or building, will tend to be more efficient than an existing one even with the same basic process technology because of incremental improvements in the efficiency of components such as motors and drives etc.

The final level, process re-design, is clearly the most capital intensive, the most research and development intensive, and the riskiest. In decarbonisation it includes things like switching steel production from iron ore in blast furnaces to direct reduction using hydrogen. It also includes changes in material inputs and process such as switching cement production from clinker made from limestone to alternative feedstocks.

An important aspect of the soft systems model of energy management, which also applies to decarbonisation, is the need for a ‘contextual evaluation’, meaning how does the proposed measure fit with other policies, developments and decisions in the organisation. This may include things like; is there a plan – or even proposal – to re-locate?; where are you in terms of the normal plant replacement cycle?; does this proposed change fit with the product strategy? The interaction between technical evaluation, financial evaluation and contextual evaluation can be an iterative process that itself may lead to new ideas. I said in 1987, ‘to conduct these analyses well requires an ability to think outside the normally accepted boundary of energy management and a high level of communication within the organisation’. This is equally true for decarbonisation – at the end of the day the business is there to perform its primary function and decarbonisation per se is not its objective, but rather a constraint that is driving change. Interactions between proposed solutions, as well as interactions with other aspects of the organisation, need to be fully evaluated.

It is relatively easy to identify a generic decarbonisation pathway for an industry. It is much more complex to translate that pathway into a specific action plan for a particular organisation as the technical, financial and contextual evaluations specific to that organisation – with all of the specific constraints – have to happen, and the interactions between measures and other factors need to be considered. The technological risks involved need to be reviewed and an explicit decision about the level of risk to be taken has to be made. This itself needs to be set against the risks of inaction – financial, commercial and environmental.

The output should be a long-term plan with defined programmes and investment projects with likely timings, identified risks, and evaluation of impact on emissions and other benefits. It will be a living plan that evolves in response to changes in technology and economics. This kind of extensive analysis is difficult in all organisations but particularly in SMEs, where the capacity to make these kinds of evaluations and decisions is more limited and external assistance is likely to be needed. If you need help developing a decarbonisation plan please get in touch with me or ep’s consultancy team.

1. A soft systems model of energy management and checklists for energy managers. Applied Energy 27 (1987) 229-241
2. Soft systems methodology is an organised way of thinking that’s applicable to problematic social situations and the management of change by using action. It was developed at the University of Lancaster, primarily by Peter Checkland. These complex situations are known as “soft problems”. They are usually real-world problems where the goals and purposes of the problem are problematic themselves. Examples of soft problems include: How to improve the delivery of health services? and How to manage homelessness with young people? Soft approaches take as tacit that people’s view of the world will change all the time and their preferences of it will also change. See: Systems Thinking, Systems Practice. 1981. Wiley. ISBN 978-0-471-98606-5 

I was on a panel at the Midlands Net Zero Hub conference on 5th October which was an excellent event. The panel was too short, as is often the case, but catalysed several conversations. Here is a fuller version of my remarks.

It is always good to be back in Brum as I studied at the University of Birmingham between 1977 and 1980 and have many fondmemories of the city. I took a unique interdisciplinary degree which had been set up in response to the oil crises which covered all aspects of energy. We took courses in various categories of engineering as well as economics, and talked about energy transitions and S-curves, subjects that are now more commonly discussed. We studied all energy technologies from oil to coal to solar and wind, which at the time were considered minority interests and largely disparaged by the mainstream energy industry. The scale of the global renewable enegy industry now shows how far we have come in forty years but of course we still have a long way to go in the energy transition. My final year undergraduate dissertation was looking at proposals by Lockheed to build a fleet of hydrogen fuelled aircraft, so I now get déjà vu reading some of the reports on hydrogen in aviation.

It is also highly appropriate to be in this place because a few hundred metres behind me is the magnificent golden statue of Boulton, Murdoch and Watt. It is little known but they invented the Energy Service Company in the 1760s – they invested capital to install Watt’s new, more efficient steam engine in pumping stations in mines and took a proportion of the savings in coal. It was a shared savings deal. So like many other innovations you can say Britain invented it but hasn’t fully benefitted from it.

Moving on from history, the problem we face today is how to scale up investment in net zero – and particuallry for me that means in energy efficiency, distributed energy and electrification. Those three things will have the biggest potential impact in moving us towards net zero.

At ep we’ve spent the last decade or more working on the problem of how to scale-up investment, we’ve studyed examples from all round thre world where investment has been scaled, and worked on projects and programmes in UK, Europe, Asia and the Middle East, and developed a number of tools to help scale-up.

Having looked at all the successful cases of scaling up investment, (and there aren’t enough of them yet), I came up with a very simple model which I call the jigsaw of energy efficiency financing. The jigsaw has four pieces:

Standardisation – which means standardisation of technologies, development processes, underwriting processes and contracts.
Finance – which means both project finance and the critically important but harder to find development finance.
Pipeline – we need to scale-up pipelines to attract institutional capital and that needs both development work and new, more attractive business models.
Capacity bulding – which means capacity building amongst customers, suppliers and the finance industry.

You can put these four pieces together in different structures, public or private, or use different vehicles such as super-ESCOs, procurement frameworks or investment funds, but you do need all four to be brought together. Otherwise you will either end up with projects looking for money, or money looking for projects.

Many of the programmes we have led or been involved in fit into this model.

Standardisation
We brought the Investor Confidence Project (ICP) to Europe. ICP is a set of Protocols for developing energy efficiency projects in a standardised way that has been proven to lower risks and transaction costs. We also wrote the Energy Efficiency Financial Institutions Group’s (EEFIG) Underwriting Toolkit, a first attempt at standardising the way that financial institutions assess value and risk of energy efficiency investments.

Finance
We have connected projects to capital and worked with the finance industry through ICP and EEFIG, and directly with investors by conducting due diligence on investments and acquisitions for a number of investors.

Pipeline
We have developed new models to build pipeline including ESCO-in-a-box®, (see below), Retrometer – an approach to metered energy efficiency, and the Net Zero Delivery Vehicle (see below).

Capacity building
We have trained public sector bodies on using ESCOs, written guides on energy policy and financing energy efficiency for entities such as SE4ALL and UNESCWA.

Assembling the jigsaw

Our ESCO-in-a-box® operating system brings all four pieces of the jigsaw together. It uses standardised protocols, processes and documentation to enable local authorities or economic development agencies to offer financed energy services, in an attractive value proposition, to local businesses. It links projects to finance and builds local capacity.

Our Net Zero Delivery Vehicle focuses on bridging the development gap, the gap between project concept and high quality, well developed, financeable projects. It brings together local authorities with ambitious net zero plans but limited capacity with private sector best practice to develop projects and source financing for them.

So to sum up, in the years since I left Birmingham we have seen tremendous progress in many areas and the energy transition is now well underway, although most of the focus has been on large-scale centralised energy. The challenge now is how to scale-up much smaller-scale projects in energy efficiency, distributed energy and electrification. We don’t need to reinvent the wheel, we have the tools, we need to focus on scaling them up.

If you need assistance to scale-up investment into energy efficiency, distributed energy and electrification get in touch.