What is an energy efficiency retrofit?

At its core, an energy efficiency retrofit of a building is the combination of three things:

1) Capital;

2) Engineering and technology; and

3) Real estate.

Capital is perhaps the simplest piece of the puzzle.  If you provide capital with a mechanism for deployment and repayment and enough certainty that a target return is possible with an acceptable amount of risk, capital will flow.  This does not mean that the market has yet agreed on the appropriate mechanism for capital deployment.  For example, private building owners are often resistant to traditional Energy Service Companies (ESCOs) and their approaches (we will explore this in more detail in the future).  Traditional lenders and providers of debt have difficulty finding the required level of security in privately-owned buildings to lend against energy efficiency savings.  Solving the problem of how to introduce capital to fund building retrofits will require the emergence of new funding models, but that will happen with time and continued focus. The key take-away is that, at a high-level, capital has relatively few requirements – a risk-adjusted return and a mechanism for deployment.  Our blog will continue to explore both of these requirements in future posts and also describe the various people and organizations working toward getting capital to flow.

The engineering and technology piece is not easy, per se, but it is achievable.  There are many great building engineers across the country that have spent decades focused on running and operating buildings.  More broadly, the various technology providers and engineering firms have a great grasp on how to upgrade, install, and operate new technology.  Most of the time this can be quite simple – swapping in more efficient light bulbs or a new chiller will by definition lower energy consumption.  No one would claim building a new building is easy, but we still have lots of buildings; e.g. retrofits are not trivial, but they’re solvable problems through engineering and existing (and constantly improving) building technologies.    New technology development will further enhance the potential benefits of retrofits, and the deployment of existing advanced technology will help to pull forward adoption of future cutting edge innovations.  At scale, the supply of building engineers could become a constraint, but we are far from this inflection point currently.

The real gating component is real estate, but we need to be careful not to immediately think that the real estate industry is the reason that retrofits in privately-owned buildings are not occurring at scale.  However, without real estate, structurally, there is no retrofit project.  By definition, a retrofit must be “of a building.”  Therefore, retrofits must be useful to real estate owners and operators, ON THEIR TERMS.  Energy efficiency is usually pitched as a financial or technological innovation, rather than a value-added service for real estate in real estate language.  This is a problem.

As will be explored elsewhere on Financing Efficiency, we believe this is the key issue facing the energy efficiency industry.  Building owners are, for the most part, responding rationally to the business and economic drivers facing them today.  They are also responding to the various options and business models being presented to them today.  The split incentive is real.  Banks are not easily able to lend against the special purpose entity LLCs that own commercial real estate for pure energy efficiency projects.  Even if they could, it’s unlikely that many privately-owned buildings could accept additional debt – as many are either at, or near, total debt capacity or must receive permission from first mortgage holders to take on additional debt.  It is not yet clear from the available building sales data that a premium can be universally charged for energy efficient real estate.  Energy is generally a small component of total building operating expenses.  Energy efficiency falls to death by a thousand cuts, and for the most part, we can sympathize with building owners.

The energy efficiency industry needs to do a better job of knowing its customer and selling to them.  Without ‘real estate native’ language and understanding of the financial drivers of building owners, it will be difficult to address the underlying problems and circumstances of the real estate industry in order to drive retrofits.   Fortunately, this problem is imminently solvable.  Henry Ford’s customers didn’t know they needed a horseless carriage, but once the value proposition was clear, the market grew rapidly.  Energy efficiency is not far from a tipping point, but we must overcome some of these final sticky barriers before building energy efficiency can truly scale.

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2 Responses to What is an energy efficiency retrofit?

  1. Pingback: The future of the retrofit business « Financing Efficiency

  2. Pingback: The $20 bill on the sidewalk « Financing Efficiency

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