Study: energy efficiency spending is up, incentives less important

Johnson Controls and IFMA are out with their latest survey on the 2010 energy efficiency spending outlook for North America, based on their survey of executives with direct oversight and control of energy budgets.

Aside from the larger conclusion that survey respondents intend to spend more in 2010 on energy efficiency than in prior years, comes a “sub-conclusion” that incentives were not as high a priority among executives as  most of us would think.

Specifically, the answer to the of ‘ how influential are government/utility incentives in the organization’s energy efficiency decisions’ was ranked as “somewhat, very, or extremely” significant by a lower percentage of respondents in the 2010 study than in prior years.

When asked about the ‘significance of greenhouse gas emission reductions on their organization’s energy efficiency decisions’, a greater number indicated that GHG emission reductions were “somewhat, very, or extremely” significant than in 2009.

From there, Johnson Controls and IFMA conclude that incentives have dropped in importance.

There are a couple of related items of note, that remain unexplained by the summary presentation notes.

- in a subsequent question of “which options will  your organization consider to pay for energy efficiency and renewable energy projects over the next 12 months“, the option of grants or tax credits were chosen by 20% answering. It was the number two most selected option. Number one, with 52% answering, was capital budgets.

- large and public organizations (read: those with more cash these days) answered as being most likely to invest in energy efficiency. The retail sector was noted as lagging in this category.

- they note that respondents’ investment criteria, 44% of which answered as being a 3.2 year payback, remains unchanged.

To be sure, this study is definitely not one in advocacy, as the unchanged 3.2 year payback represents a 31.25% return on investment, which is well beyond the returns most investments can deliver.

Also, it appears that most of the respondents were not from the investment real estate community, but mainly the corporate community. So, while its great to hear that more money will be spent on building energy efficiency, one can also see that there is still an intense  focus on the low-hanging fruit.

Even though it appears that the study was directed more towards exciting the Johnson Control customer base, it nonetheless provided some insights into current thinking on investing in energy efficiency in the corporate world. From that standpoint, it is worth a read.

For more fun — and insight, these exact questions should have been asked of institutional real estate investors and managers in a separate group, so that we could compare their answers with those responding to Johnson Controls here. I suspect that there would be quite a divergence in opinion on some of the questions.

For even more perspective, they should also be asked of lenders separately, too, about the projected spending of their borrower clients and loan portfolios on energy efficiency.

Perhaps, next year.

Happy reading!

PACE inside baseball: Private-label securities to the rescue?

GSE’s bench PACE

If you follow the PACE saga — which we covered in February’s Pacesetter as well as in numerous posts before, you know that it’s attracted enough interest to keep us all hopeful about the prospects for a liquid secondary market for energy efficiency loans.

But, like any saga, there are always curveballs and intrigue to keep us wondering.

GSE’s (government-sponsored entities) Fannie Mae and Freddie Mac supplied the  action in this latest edition of PACEwatch.

They recently sent PACE financing back to the dugout, by declining the purchase of tax-lien secured energy efficiency loans on residential properties, citing concerns with repayment risk associated with the priority of the tax-lien over the senior mortgages.

No, folks,  the tax-lien-priority issue will not just get up and walk away on it’s own.  Market watchers quoted in the article point out that pricing in the theoretical risk and/or clearer underwriting to clarify the value improvements to the retrofitted properties could help the GSE’s and others buy into PACE-related debt.

IMHO, it’s going to take a solid mix of both approaches to get the secondary market comfortable with fund PACE paper.  Altering a senior mortgage’s status makes it tougher for the lender to price and re-sell their loans, even if retrofits improve property valuation. They’ll want compensation for what could be an important change to their contractual structure. It’s always been that way with modifications and I don’t think there’s anything wrong with a lender expecting to be paid a market return for agreeing to re-do a deal.

Additionally, requests to see, touch and feel (and standardize) the control of the retrofit value-creation process, beyond the theoretical math of energy savings is reasonable. Programs that dole out tax payer dollars without robust underwriting and performance measurement are setting themselves up for failure.  No matter how smart we become every economic cycle, a certain percentage of loans typically fail for the same old reasons.  “Failure to properly monitor” loans is one of the oldest, and most typical paths to default.

So, while I greatly wish to see lots more capital flowing towards PACE financing, I still think it’s prudent for any lender to request clarity on the loans they buy and to be paid the right price for the risk and underwriting.

Inside baseball: private-label securitizations to the rescue?

That being said, I suggest we keep our collective eyes on the private-label securities market as an alternative funding source.  Yeah, I know it’s been dead since the economic downturn, but that would be the alternative for PACE to build up a liquid secondary market as long as the GSE’s aren’t stepping up to buy energy loans.

And the idea’s not so far-fetched since the private-label market is now starting to show signs of life.  While the GSE’s are definitely big players in the residential mortgage secondary market, which reached $2 trillion at it’s height in 2006, private-label securities were responsible for as much as 56% of home mortgage securitizations during the same time frame.

Today’s WSJ details how Redwood Trust is taking a shot at offering ~$200 million in jumbo residential mortgages in a private-label sale. This will be the first sale of private-label mortgages in two years. Market watchers say that the timing seems good for private-label securitizations to make a comeback, now that the homeowner default surge that killed the market a couple of years ago has receded. Add to that, the currently tight underwriting guidelines in effect, which strengthens the credit quality of these loans, making them attractive to secondary market investors.

Note that this particular transaction is not a done deal yet, and Redwood may have to postpone the transaction if they can’t generate sufficient interest in the offering.

For us PACE fans, however, this is bit of side action is worth tracking. The private-label securitization market is another potential source of secondary market liquidity, if the GSE’s continue to reject energy efficiency finance.

I’m willing to bet, however, that private-label market will be just as tough on conforming documentation and tight underwriting guidelines. If investors are now able to buy into residential mortgage paper structured  with tight underwriting and and high credit quality, what will compel them to give that up for PACE-paper?

Nothing, I think.

Nonetheless, the game is not over and we’ve still got several more innings to go.

Green finance workshops to sharpen your competitive edge

A few days ago, we announced the kick-off of a series of workshops focusing on green finance and investment issues via our newsletter, Pacesetter (sign up here). We are posting it here, to update those blog readers who get their news via RSS feed and might not have signed up for our monthly newsletter, yet.

The US Green Building Council Northern California Chapter and law firm, Hanson Bridgett, have generously co-sponsored the seminar series, titled The Competitive Edge: Financial Tools for Green Building Investment.

Why the Competitive Edge?

We want to help you add more value to your marketplace. We’re convinced that there is a real need in the industry to understand how to approach analyzing the value-add of green strategies within real estate investments. So we worked with the US Green Building Council Northern California Chapter and Hanson Bridgett to organize courses that address the core of those issues:

• how to use the LEED rating system when analyzing project cash flows (and move beyond first costs)
• common investment analysis issues and tools for retrofits
• an approach for structuring the investment review of new and existing green buildings
• how A/E/C professionals can learn common investment analysis processes and terms to improve communication with property owners about design, construction, and budget issues.
• what to consider when assembling a portfolio or fund of green investment properties.

We believe that green finance and investment techniques represent the next level of skills that real estate professionals need to stay current with changes in the real estate market place. ‘

Since sustainable design can change the economics of a building, and there are many ways to go about creating a green building, finance and investment professionals need to know a good, and efficient, process for incorporating this information into their decision making.

Below are a complete list of courses as well as links to registration. Also, you can sign up and join our Pacesetter list, which will contain updates on these courses, too.

Competitive Edge Course Summary

• Course 1, “Investment Analysis of Green Buildings”, (March 3, 2010 - Register now) covers green investment underwriting skills that help professionals to quickly use the USGBC’s LEED-rating system in their decision-making. Full day seminar.
• Course 2, “Financial Considerations of Existing Building Retrofits”, (April 7, 2010) addresses the financial considerations related to energy efficiency retrofits, so that professionals can integrate the additional decision-making tools and analysis for making buildings more energy efficient. Full day seminar.
• Course 3, “Understanding and Communicating the Financial Case for A/E/C Professionals”, (April 28, 2010) gives architects, engineers and sustainability consultants an overview of the real estate investment analysis process, stressing how to use this information to ‘go beyond first costs’ in their conversations with owners about their green design and construction choices. Half day seminar.
• Course 4, “Raising the Bar: Green Investment Fund Strategies”, (May, 2010 - date to be announced) walks the real estate senior executive through the business and legal aspects of assembling a portfolio of green property investments so that they can create more strategic advantages for their firms via creating pools of green building investments for the real estate market.

Instructors: I’m pleased to be co-teaching these courses with David Longinotti, Partner at Hanson Bridgett.  Dave’s bio can be read here. You can check out my bio here.

To facilitate the best interaction, please note that seating is limited for all courses. Got any questions? Feel free to write us or call us at +1 (415) 655-6668. We’d love to see you there!

$20.5 million from DOE helps communities turn trash into cash

The Department of Energy has just announced funding $20.5 million for several community-scale renewable energy projects.

UC Davis & West Village

One of the recipients is West Village, next to UC Davis, which generated a bit of criticism among Green Journey readers the last time we covered them. In partnership with UC Davis, they’ve now received $2.5 million in funding for a waste-to-renewable energy (WTRE) system. The DOE provides an explanation of how the new system should work:

The system would generate power from a renewable biogas-fed fuel cell.  The organic waste will enter a digester to produce biogas from organic wastes. The biogas will power a 300-kW fuel cell, which will work in combination with an advanced battery system to provide power to the campus’

Montpelier, VT

A second community level energy system of interest is the funding of $8 million to the City of Montpelier, Vermont, for a combined heat and power district heating system that will burn sustainably-sourced wood chips and provide 1.8 million KWh to the grid.

The CHP system will be sized to provide heating to the Vermont Capitol Complex, city owned schools, the City Hall Complex, and up to 156 buildings in the community’s designated downtown district for a total of 176 buildings and 1.8 million square feet served.

We follow these announcements with lots of interest, since we work with partners to identify the best combination of financing streams for achieving community-level sustainability.

As we continue to study eco-districts and similar low-carbon neighborhoods in various stages of design and planning around the world, district-level renewable energy infrastructure  — particularly waste-to-renewable-energy comes up time and time again within the case studies of the more successful communities.

A more in depth discussion of the ’success factors’ within green communities will definitely make for an exciting post in the near future as we consolidate our findings.

Video explains value of district energy

Some of these technical terms might be outside of the typical real estate finance and investment discussion, so I found a 40 second video that explains how district energy saves buildings money. Email subscribers should click on this link to go to the video.

On-Bill vs Tax-lien Financing 2: Which is better for you?

In the last post, we put out a free resource, that walks you through an energy efficiency financing case study. Here we compare financing options more in depth, so you can see some of the critical questions when considering which form of financing would be best for your retrofit projects.

Prevalence of on-bill financing: Roughly 10 states offer on-bill financing programs. A number of  gas and electric utilities currently offer (or have conducted pilot testing of) on-bill financing programs, which are oftentimes referred to as meter loans or TIPs (”Tariff Improvement Programs”). When structured and funded correctly, and with the appropriate marketing, these programs have been successful. Take a look at San Diego Gas & Electric’s website detailing their program for an example of how this works.

Emerging tax-lien financing market: So far, only a handful of municipalities and counties have executed tax-lien programs (The City of Berkeley, Sonoma County, and City of Palm Desert have operational programs). Despite the model’s infancy, more than 15 states have amended state laws to allow for local improvement districts, paving the way for local government to enact tax-lien programs.

When thinking about which mechanism works best for your circumstances, its better to frame the analysis in terms of trade-offs involved. In other words, nothing’s perfect, but in the right circumstances, each option can be more than good enough. So let’s focus on the comparative advantages of each.

Tax-Lien Advantages

• Longer loan terms: The typical loan payback period for tax-lien loans is 20 years, minimizing the annual principal costs. This helps to keep these programs competitive with on-bill financing, which can feature an interest rate as low as 0%, but typically require loan repayment in 2-5 years.

• Wide range of acceptable investment: Tax-lien programs can focus on both renewable energy and energy efficiency, giving property owners greater flexibility in how they deploy capital. Current on-bill programs largely limit the use of capital to energy efficiency measures, and typically for measures that are covered under incentive programs offered by the utility provider.

• Broader financial network: There is strong interest from the private market to provide capital (via the purchase of municipal bonds, which are used to fund these loan programs) and program administration support for municipalities and counties looking to implement tax lien programs. This lowers the implementation cost for local government, increasing the likelihood of widespread adoption. On-bill programs may require expensive upgrades to the utility’s billing system, precluding utility providers from offering on-bill programs (and opting to contribute dollars to other energy efficiency programs).

On-Bill Advantages

• Available to both property owners and tenants in leased space. On-bill programs typically fund on a per-meter basis, which means that each tenant with an individual meter is eligible for on-bill. Low-to-no cost financing is attractive to tenants, who can execute energy efficiency improvements and benefit from a lower utility bill while they are in the space; if structured correctly, the monthly loan payment is less than the energy savings.  If the on-bill financing is structured under a tariff agreement, the improvements are based “on the meter”, and the financial obligation stays with the meter. Therefore, repayment obligation transfers to the new beneficiary of the upgrades. On-bill financing is a work-around to the principal-agent issues in the tenant-landlord relationship; those that pay the utility bill are now incentivized to improve their energy-efficiency.

• Program coupling. On-bill financing is combined with other energy efficiency programs offered by the utility provider, such as upgrade incentives, which reduce the cost of equipment upgrades/system improvements. Additionally, many utility providers offer no-cost design and engineering assistance to help their customers maximize the performance of their energy efficiency measures. These services both reduce the improvement costs, make the whole process much easier and ensure maximum energy savings for customers.

• Reduces barriers to high impact improvements. On-bill is designed to reduce implementation costs for the borrower. No-cost financing means that capital constrained building owners and tenants can execute upgrades that have maximum impact upon energy performance. This is especially relevant for low-income households, who can now undertake energy efficiency measures in their homes which reduce their utility costs.

While the widespread availability of these programs is still limited, portfolio owners should track their development and consider them as a financing option for sustainable retrofits.

Coordinating Your Approach to Energy Efficiency Financing

As you consider how the newer options can work for you, keep the following tips in mind for y our overall program initiatives:

• Determine your portfolio retrofit strategy. Are you undertaking a wholesale repositioning of your assets, or simply ensuring long-term competitiveness via gradual improvement, or a little bit of both? In making this determination, it helps to consider both the market and regulatory risks of your assets within the areas they are located. Separate your portfolio properties into “buckets” by these criteria.

• Evaluate local financing options. Even if your portfolio covers a national or regional geographic area, it pays to evaluate the state, local, and utility provider incentives for sustainable retrofits. The availability of certain incentive and financing programs may impact which properties, and which specific upgrades, get prioritized.

• Examine your existing leases, and adapt all future leases. Do you know what retrofit costs, if any, you can pass on to your tenants? Make sure you understand how both your and your tenant’s bottom line will be impacted by performance improvements. Structure all future leases to allow for appropriate cost pass-throughs for measures that will significantly and positively impact your tenants total cost of occupancy.

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