Over the last 20 years, energy savings performance contracts (known as "ESPCs") have played a key role in the ability of federal and state agencies to complete critical upgrades to aging building systems and reduce energy costs without having large capital improvement budgets. Yet, many building and construction professionals are unfamiliar with the concept ESPCs or do not understand how these contracts differ from more traditional methods of delivery for construction and renovation contracts.
The ESPC Model
Simply put, an ESPC is an agreement to provide energy retrofits to a building or facility owner with the costs of the improvement financed through private-sector resources and repaid from the savings incurred by the project. ESPCs involve a wide array of technical, financial, legal and energy-related issues, combining several different types of projects into one long-term contract.
Under an ESPC, a federal or state agency enters into a contract with an energy services company (commonly referred to as "ESCO") to perform an in-depth energy and water use audit of a particular facility or campus to identify energy and/or water-saving improvements that can be made to reduce the agency's operation costs. The ESCO then designs a project to meet the agency's needs and completes the energy/water saving measures identified in its audit and arranges third-party financing for the project.
Unlike a traditional retrofit project that is paid for from capital improvement budget dollars, with ESPCs the ESCO pays for or arranges financing for the project upfront so that the agency does not have to come up with a lump-sum payment at the time of the project. Instead, the project is paid for over the "guarantee period" from the energy and operational savings that are generated by the improvements. The ESCO is usually under contract with the agency to operate and maintain the equipment and improvements during the guarantee period.
An important feature that is unique to the ESPC is the "performance guarantee" provided by the ESCO. Under this contractual provision, the ESCO guarantees that agency will incur a specified amount of savings in energy and/or water consumption for a period of years ("guarantee period"). Guarantee periods usually run from 5 to 10 years and often coincide with the financing repayment term. "Savings" are tracked by various contractually agreed-upon measurement and verification protocols that typically measure the performance levels of the equipment rather than the actual cost savings of the agency, because the ESCOs do not guarantee against rate increases or increases in the owner's energy use. If the measured savings do not meet the amount set out in the performance guarantee specified in the contract, the ESCO pays the agency the difference between the amount guaranteed and the actual savings.
While most contracts directly with the owner agencies are entered into by ESCOs, the ESCOs typically do not self-perform much of the work, if any. Instead, ESCOs usually function more in the role of construction manager or design-build contractor. Oftentimes, ESCOs use outside engineering firms to perform the energy audits and to design the scope of the project. Additionally, ESCOs often subcontract the actual installation of these upgrades to trade contractors, particularly electrical, plumbing and mechanical contractors. ESCOs may also use outside firms to perform commissioning, perform measurement and verification services, and to perform repairs and/or maintenance to the systems during the guarantee period.
Moreover, ESPCs are not typically subject to the competitive "low bid" requirements that are usually associated with projects for government agencies. ESPCs are normally bid through a more negotiated delivery method, such as through an RFQ/RFP process or the IDIQ process at the federal government level. Thus, the ESPC selection process is driven much more by qualifications of the bidders and innovative "value" proposals than it is driven by price.
It saves money. According to the U.S. Department of Energy, as of May 2011, more than 570 ESPC projects worth $3.9 billion were implemented at 25 federal agencies and 49 states and Washington, D.C., saving $13.1 billion in energy costs.
It creates/saves construction jobs. One of the industries hardest hit during this recession was construction. Federal and state budgets have seen record deficits and have been subject to deep cuts in spending programs and have reduced demand for construction services from public owners. ESPCs provide a mechanism for projects to go forward when they otherwise would not be feasible with current budget restraints, and the highly technical nature of the projects requires the use of highly skilled engineers and trade contractors.
No up-front capital costs. The most obvious benefit of ESPCs is the ability of cash-strapped government and public agencies to obtain much needed renovations and infrastructure improvements without having to have large cash reserves.
It's good for the environment. The improvements implemented through performance contracts significantly decrease the energy and water consumption of federal and state agencies. The U.S Department of Energy reported that as of May 2011, ESPC projects have saved an estimated 32.8 trillion BTU annually, which is equivalent to the energy consumed by 345,000 households, or a city with a population of 893,000.
Making the Right Choice
ESPCs are not always the right choice for every owner or every project. The savings that can be generated from the upgrades and retrofit must be enough to cover the financing within a reasonable term. The most common types of energy savings measures that are implemented in an ESPC contract are: lighting retrofits, controls retrofits, HVAC upgrades, VFD (variable-frequency drive) and motor replacements, and water conservation projects. These types of projects typically have good "payback" because the savings that are generated from the new system is substantial in relation to the cost to implement the change.
The conditions that often make ESPC the right delivery method for an owner include projects involving aging buildings or equipment, recurring maintenance problems or high maintenance costs, limited or no budget resources for improvements, comfort complaints from occupants, high demands upon maintenance staff, no recent upgrades to the lighting or controls systems, and high-energy use equipment that is ready for replacement.
When used properly and in the appropriate conditions, there is almost no disadvantage to ESPCs. Owners receive new systems, operational and energy savings, maintenance training and service, and guaranteed performance. They are simply re-allocating costs that would have been used to pay for energy and operations, to instead pay for financing of the design and construction of the project.
Gina Vitiello was one of the first attorneys in the state of Georgia to obtain LEED Accreditation from the U.S. Green Building Council. Vitiello, a partner in the Construction and Commercial Litigation practice with national law firm Chamberlain Hrdlicka in Atlanta, represents clients in contract negotiation matters, dispute avoidance/resolution and litigation. To learn more about green building law, visit Gina’s blog at: http://constructionandgreenbuildinglawblawg.wordpress.com/.