The New Energy-saving Model
ESCOs Turn Taiwan 'Green' with Efficiency
An innovative financial service that finances "green" equipment with projected savings in energy costs is gaining traction in Taiwan. But its continued growth still faces serious challenges.
ESCOs Turn Taiwan 'Green' with EfficiencyBy David Huang
From CommonWealth Magazine (vol. 483 )
In the winter of 2010, an executive with state-run oil giant CPC Corp. Taiwan responsible for Jhanghua County visited Chang-Hua Hospital. He wanted to find out why it had suddenly stopped placing orders for the 500 liters of diesel oil it normally bought each month.
After accompanying the CPC Corp. executive down a 200-meter-long central hallway, the head of the hospital's electrical equipment department, Hsiao Jyun-yen, opened up the equipment room to provide an answer.
This space used to be unbearably hot, as its two diesel boilers heated the 7 cubic meters of hot water supplied daily to patients at the 780-bed hospital. But now, the boilers – standing as long as a public bus and as high as a human being – sit quietly, no longer emitting heat.
They have given way to a heat pump that's half the size of a taxi.
The change has saved the hospital a substantial sum on water-heating costs. The fuel to heat the boiler cost NT$400,000 per month, but now the hospital pays only NT$50,000-NT$60,000 a month on electricity for the heat pump.
"And that doesn't even take into account the money spent on the licensed professional we had to employ to operate the boiler or the space we can save and devote to other purposes," Hsiao says.
High Oil Prices Fuel ESCO Popularity
Switching from oil heating to electric heating has come into vogue as the preferred option among government agencies, homes, hotels and businesses seeking to conserve energy, primarily because oil prices have doubled over the past two years.
The onset of high oil prices has also turned many traditional electricians, who used to improve the efficiency of air conditioning systems or install energy-saving lights, into the owners of highly-in-demand energy service companies (ESCOs).
"Right now is the best time for ESCOs," says Steve Yu, the president of the Taiwan Association of Energy Service Companies (Taesco). The government's policy to save energy and cut emissions has been extremely clear, Yu adds, and saving electricity stands out as the most effective way to achieve the goal.
The Bureau of Energy's subsidies for saving energy were extended last year from public agencies to the private sector, and the insistence on reducing energy consumption and cutting emissions has spread from President Ma Ying-jeou to local governments. These trends "have allowed Taiwan's ESCO sector to spring up," Yu says.
In fact, Yu's association now has about 150 members, but more than 5,000 companies have registered as ESCOs with the Ministry of Economic Affairs' Department of Commerce, an indication of the huge upsurge in interest in the field.
Saving Energy for Free
The contractor responsible for the Chang-Hua Hospital project, Skytech Engineering Co. Ltd., was the first domestic company to receive an ESCO recommendation letter from the Taiwan Green Productivity Foundation. That letter has enabled Skytech to more easily secure endorsements from the Small and Medium Enterprise Credit Guarantee Fund, giving it greater access to bank financing when it undertakes a project to save energy.
After taking over his father's traditional plumbing and electrical shop, Skytech general manager Tommy Hsieh took the initiative to learn more about the business. He won a heat pump contract for not only Chang-Hua Hospital but also Puli Hospital, and he helped National Cheng Kung University with its design of energy-saving lighting, successfully taking a mom-and-pop electrical store and turning it into a full-fledged ESCO.
The ESCO model relies essentially on a pay-for-performance concept. Contractors like Skytech foot all the upfront and regular maintenance costs for each project – leaving customers without having to pay a dime – and then receive a percentage of the amount saved on the client's energy bill. No energy savings, no revenue.
Making an Impact
This model, which contractually guarantees energy savings to customers without requiring any investment, has become a valuable tool in helping ESCOs penetrate the residential and small business markets.
Chang Chong-ching, a division chief with Taipei's Department of Economic Development, says those markets have considerable potential. At present, Taiwan's industrial plants account for 46 percent of all of the country's carbon emissions, while residences and businesses account for 28 percent. But while industrial emissions are growing at a pace of about 4 percent per year, residential and commercial emissions are growing at a 6-percent clip.
"Residences and businesses, which serve us in our everyday lives, are even more urgently in need of energy-saving upgrades," Chang says.
He estimates that in Taipei alone, there are 215,000 major commercial power consumers, such as department stores and hotels. The 3.6 million kilowatt-hours they saved in electricity last year would have generated a level of emissions requiring six and a half Daan Forest Parks to absorb.
From Electrician to Engineer
Oddly enough, the technology being used by many ESCO entrepreneurs was already considered mature 20 to 30 years ago, but that has given many domestic plumbing and electrical contractors new opportunities for growth and handed their employees a chance to increase their incomes.
Skytech's Hsieh says an engineer who can handle a NT$15 million energy-saving project on his own will earn an average of NT$2 million a year. But these independent engineers must transcend their traditional roles as electricians and be able to win tenders for jobs, design contracts, calculate returns on investment and plan the project's technical elements, such as electrical layouts.
But despite the attractive business model that is creating new opportunities, ESCOs remain hampered by one major challenge: financial pressures.
Skytech's paid-in capital is NT$20 million, so it can only get involved in about three NT$10 million-level projects a year. Any more, and it could not withstand the financial burden.
"Domestic banks are still not friendly to small- and medium-sized enterprises. A few are willing to make loans, and to treat our long-term ESCO contracts as accounts receivable. But with processing fees, the interest rate is close to 6.5 percent," Hsieh says. "Add in inflation, and it's hard to do business, unless your profit margin exceeds 10 percent a year."
Most ESCOs, like Hsieh's, were originally small plumbing and electrical shops, and they clearly remain an underclass when it comes to financing.
A large ESCO in central Taiwan, Forever Friend Energy & Technology Co., Ltd., is one of the few enterprises in the energy saving consulting sector to successfully cultivate private-sector clients and be able to provide guarantees, but even it nearly got washed away by the financial tsunami.
Prior to the global financial meltdown in late 2008, Forever Friend partnered with Taiwan's biggest telecom carrier Chunghwa Telecom Co. Ltd. on a big NT$15 million energy-saving project for Taipei Veterans General Hospital, but the value of the contract exceeded Forever Friend's paid-in capital at the time.
"When the tsunami came, payment collections grew irregular, and the family was nearly cashed out. At one point, there was only NT$30,000 in cash left," recalls the company's general manager Thomas Tang, whose anxiety at the time was truly unimaginable.
The ESCO model was just getting its start in Taiwan then, and Tang sent his daughter and son-in-law to take classes at the association. They met Charles Chen, a senior manager of Chailease Finance Co., Ltd., who helped Forever Friend get back on track.
Sharing Profits to Keep the Pressure Off
For Chailease Finance, 2010 was the year it prepared to get involved in green energy financing, partly driven by the challenging environment faced by the overall banking sector.
Cutthroat competition among Taiwan's financial institutions meant that the spread between interest rates on loans and deposits struggled to reach 1 percent, and most banks specializing in corporate loans were only able to earn the smallest of margins.
Chailease Finance, whose clients were mostly SMEs, decided to pursue market niches where the competition was less intense. The company's chairman, Albert F.L. Chen, saw ESCOs as an international trend and public policy direction and felt the sector was worth backing.
As a result, Chailease Finance introduced a model from Japan's Mitsubishi UFJ Financial Group, where the bank, the business owner and the ESCO would split the profits in each project.
Under the model, every project became its own independent company, with Chailease providing all the financing and sharing the risk with the ESCO contractor, eliminating the financial burden previously felt by the small contractors.
"Chailease reviewed our projects, and directly lent us money without the slightest bit of hesitation, enabling us to finally get through our financial crisis," Tang says.
Though the profit-sharing model eased Forever Friend's financial worries, it imposed another form of pressure on the company, requiring it to contractually agree to make back the costs of its projects in energy savings within two years.
One project that tested Forever Friend was Freshfields, a big hot spring resort in Wurih District in Taichung.
Freshfields general manager Julian Chang says that during peak electricity consumption months this past summer, it saved at least NT$1 million on its electricity bill per month because of the work done by Forever Friend.
Chang estimated that the hotel will be able to save about NT$8 million per year, making it likely that Forever Friend will cover the NT$15 million it invested in the project by the end of year two and meet its obligation to its creditor.
Chailease Finance's Charles Chen explains that ESCO financing not only requires loan risk expertise but also technical expertise, and that was why the company recruited an expert in green technology from the Industrial Technology Research Institute to lead an ESCO project team.
"We've loosened credit conditions a little for ESCOs and expanded risk exposure," Chen says. "But with professional technological and contractual support, our default rates are lower than those of the Small and Medium Enterprise Credit Guarantee Fund."
Chailease Finance is not the only financial institution trying to mine this niche. First Commercial Bank – one of Taiwan's oldest banks – has also set up a "green loan fund" to establish a presence in the growing ESCO project market.
First Commercial Bank vice president Chou Po-chiao says ESCO projects need the support of banks to get off the ground, and his bank, which aspires to be Taiwan's first "green bank," intends to make the ESCO sector and its focus on saving energy and cutting emissions a major emphasis of its own operations.
Taesco president Yu has another suggestion to inject more vitality into the industry: have the government-backed National Development Fund finance ESCO owners following the model it uses to support and invest in cultural and creative industries. Setting such an example, Yu contends, would encourage more banks to get involved in the ESCO profit-sharing model and jumpstart the sector's development.
The Challenge of New Buildings
Aside from financing difficulties, Taiwan's ESCOs are limited by their lack of access to larger potential projects – worth NT$30 million-NT$40 million or more – mainly because the ESCO model cannot be applied as easily to new production facilities or other new structures.
ESCO operators have been able to persuade existing businesses to accept equipment upgrades, because those businesses have tangible monthly electricity bills and energy expenses as points of reference. But new factories or buildings do not have billing records to draw on, making it extremely difficult for the ESCOs and new building owners to agree on a fee basis, which normally relies on sharing the savings generated by ESCO designs.
"I gave up on the idea of doing new building projects a long time ago," says Forever Friend's Tang.
But Chailease's Charles Chen says Japan's Mitsubishi UFJ Financial Group has begun to generate successful examples of ESCOs working on new building projects, which he described as good news for Taiwan's ESCO sector.
One of the new projects for which Mitsubishi UFJ Financial Group adapted the ESCO model was a new school building on the Ichigaya campus of Hosei University in Tokyo's Shinjuku district.
The air conditioning, lighting, and electricity systems used in the new structure all made use of highly efficient energy-saving equipment in line with the Japanese government's subsidization program. Though the building took longer to construct than less energy-efficient structures, the end result maximized the benefit to the customer and reduced energy consumption.
The key to making the project work commercially was establishing a method to inspect and verify energy-saving performance instead of relying on calculations of energy savings.
Energy-saving performance refers to a system's efficiency, determined by such parameters as energy and time. In other words, the system focuses on how much gasoline a car consumes or the efficiency of a chiller rather than concentrating solely on how much money is saved.
Yu acknowledges that while the technology needed to measure such performance is not a major obstacle, the cost of the equipment used to make the measurements is beyond the capabilities of Taiwan's ESCOs.
Even beyond the prohibitive cost of the measuring devices themselves, the testing process usually takes a month to complete, which Yu also says constitutes too big a burden for these SMEs to shoulder.
Chen Huei-jiunn, the president of the Taiwan Energy Service Association, projects that the 2011 output value of ESCO members will exceed NT$6 billion, but that is only a small fraction of the combined NT$100 billion in output value of all association members. That indicates considerable room for the ESCO model to grow if financial and technical obstacles can be overcome. (See Table.)
An ESCO model that benefits banks, operators and customers has already begun to take hold. But finding a way to build a well-rounded and credible energy-saving performance calculation model and establishing an independent third party to certify the results are now necessities, if ESCOs are to really hit their stride and extend their reach around Taiwan.
Translated from the Chinese by Luke Sabatier