An innovative way to energy transition?

Some thoughts on local authorities’ involvement in ESCos

About the Author
Yu is a postgraduate student coming from China, majoring in public policy at the University of Edinburgh and currently interning with Scene. Inspired by the high levels of air pollution in her hometown, Shanghai, Yu has a particular interest in different pathways to low carbon transition.

Introduction
Since beginning my internship with Scene Consulting in May 2015, I’ve been working on the business models of community-led Energy Service Companies (ESCos) in the UK and barriers facing them. After several interviews with scholars and representatives at community ESCos, I am definitely happy to hear that several local authorities (LAs) in Scotland, including Aberdeen City Council, Glasgow City Council and Edinburgh City Council have already or are planning to set up ESCos to deliver energy services to local people.

Set up by the city council in 2002, Aberdeen Heat & Power is an independent non-for-profit company. It guarantees the performance and delivery of heat to hard-to-heat properties. With the existing combined heat and power schemes, no-one connected to the schemes is in fuel poverty, and 40% of CO2 has been saved compared with electric heating (Lyon, 2014).

Glasgow City Council is also at its final stage of establishing an ESCo. The ESCo, named Glasgow Energy Services Company, aims to tackle fuel poverty and to create new jobs. The ESCo is likely to be incorporated as a joint venture between Glasgow City Council and a commercial partner(s) to deliver a range of renewable energy initiatives (Devlin, 2013).

At the same time, Edinburgh City Council is having a discussion on establishing an ESCo to operate a large scale district heating project and to supply low-carbon energy to social housing tenants (Ward, 2014).

The Advantages of ESCo Business Model
ESCo is an innovative business model with several benefits. First of all, it can contribute to improving energy efficiency. Different from the incumbent Energy Utility Company (EUCo) model, ESCos provide their customers with final energy services instead of primary energy (e.g. gas). The energy service here usually refers to hot water or coolant under energy supply contracts (ESCs) and lighting, insulation or ventilation under energy performance contracts (EPCs). This difference means that ESCos would be able to take control over the efficiency of primary conversion equipment (e.g. boiler or CHP plant) and secondary conversion equipment (e.g. radiator, heat exchanger), which is not the case for EUCos (Sorrell, 2007).

Secondly, ESCos can alleviate fuel poverty. Under ESCs, the dominant contracting model in the UK thus far, ESCos usually guarantee a certain degree of reduction in energy bills in order to attract customers (Hannon, 2015). This model is very helpful to off-gas communities where heating is much more expensive than the national average.

Barriers to ESCo Development
Despite the aforementioned merits, UK has lagged behind other European countries, especially Germany, in terms of the number and market size of ESCos. According to the latest ESCo Market Report produced by European Commission Joint Research Centre, Germany, in 2013, has around 500 ESCos with a turnover circa €3bn, while the UK at the same time has about 40 ESCos with a turnover about €4m (Bertoldi, et al., 2014). Moreover, only a small part of these ESCos are closely affiliated to LAs (Hannon & Bolton, 2015).

The reasons for the gap are various. Based on my interviews with community-led ESCos and scholars, the main difficulties facing them include, but not limited to:

Financing
Although the UK has a comparatively mature banking system, ESCos have so far funded projects through their own reserves and government grants, rather than through third parties, namely, banks. However, the process of applying these grants and funding is usually complicated and time-consuming, which will increase the transaction cost[i] of running ESCos. Furthermore, due to the recent amendments to Renewable Heat Incentives and falling gas and oil prices, some community groups have already found it not economically viable to establish a new community ESCo.

Planning permission
Some community groups mentioned that it was difficult to get planning permission from the local council because the councilors didn’t fully understand the projects. In addition, a tremendous number of community groups cannot sustain the “valley of death”: a period between project inception and planning permission granted.

Expertise
The majority of the community groups interviewed lack the skills and expertise to develop a community ESCo independently, which means that they often need to seek help from other sub-contractors. However, community groups might meet problems when they are in touch with sub-contractors. For example, one community group I’ve interviewed had to solve technical issues themselves because their sub-contractors were not very helpful.

Benefits and Challenges of Local Authority Support
The difficulties facing community ESCos mentioned above could be mitigated with LAs’ involvement. This is because that LAs usually have more financial and technical resources than community groups do. For example, if an LA owns an ESCo which constitutes a separate private sector entity, the ESCo would be able to fund their projects from both the public and private sectors (Hannon & Bolton, 2015).

On the other hand, LAs can benefit from ESCos, too. The revenues from ESCos can help councils to develop projects which they might not have the funding for. Furthermore, successful projects delivered by LA owned ESCos can help councils to achieve their political objectives and legitimize their role in local energy governance (Hannon & Bolton, 2015).

However, problems still exist with LA-owned ESCos. The biggest being that LAs do not necessarily represent communities. This requires LAs to have more consultations and communications with local communities to ensure that projects meet the needs of local communities. Experience from a local district heating scheme in Austria suggests that advertising and lobbying in local media and personal talks with local people would be of great help (Madlener, 2007).

Besides, LAs are still subjected to the national policy framework (DECC, 2013). The central government’s unstable policies will constrain LAs’ ambitions to establish ESCos partly because ESCos usually operate based on long-term contracts, ranging from 5-20 years. To ensure the steady development of LA ESCo, a stable policy framework is essential.

Coming from a country where energy governance is comparatively centralised and energy companies are state-owned, it is very interesting for me to observe and to research into how grassroots organisations could contribute to the low-carbon economy. Scotland has always been ambitious about setting and reaching its climate change targets. I look forward to seeing more similar cases to come and to seeing Scotland lead the UK’s energy transition.

Yu Song

 

[i] The notion of transaction costs was formalized by Williamson (1985). Transaction costs with regards to the operation of an ESCo refers to the staff, consulting and legal costs associated with negotiating with different stakeholders, writing contracts, monitoring contract performance, etc (Sorrell, 2007).

References
Bertoldi, P., Boza-Kiss, B., Panev, S. & Labanca, N., 2014. ESCo Market Report 2013, Italy: Luxembourg: Publicatoins Office of the European Union.

ŸDECC, 2013. Research into barriers to deployment of district heating networks, London: Department of Energy & Climate Change.

ŸDevlin, B., 2013. Glasgow - A greener city strategy. [Online] Available at: http://www.glasgow.gov.uk/councillorsandcommittees/viewSelectedDocument.asp?c=P62AFQNTDN0G81NT [Accessed 25 September 2015].

ŸHannon, M. (2015). Co-evolution of innovative business models and sustainability transitions: The case of the Energy Service Company (ESCo) model and the UK energy system. Doctor of Philosophy. The University of Leeds.

ŸHannon, M. & Bolton, R., 2015. UK Local Authority engagement with the Energy Service Company (ESCo) model: Key characteristics, benefits, limitations and considerations. Energy Policy 78, pp. 198-212.

ŸLyon, J., 2014. Aberdeen Heat & Power: Reasons for using a not-for-profit mutual structure. [Online] Available at: http://www.heatandthecity.org.uk/__data/assets/pdf_file/0020/167060/PM4_-_Not_for_Profit_Mutual_-_Aberdeen_-_Janice_Lyon_150.pdf [Accessed 25 September 2015].

ŸMadlener, R., 2007. Innovation diffusion, public policy, and local initiative: The case of wood-fuelled district heating systems in Austria. Energy Policy 35.3 , pp. 1992-2008.

ŸSorrell, S., 2007. The economics of energy service contracts. Energy Policy 35.1, pp. 507-521.

Ward, G., 2014. Corporate Policy and Strategy Comittee: Energy Services Companies. [Online] Available at: http://www.edinburgh.gov.uk/download/meetings/id/41964/item_no_7_1-energy_services_companies [Accessed 25 September 2015].

Williamson, O. E., 1998. The Economic Institutions of Capitalism. New York: Free Press

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