Enhancing the Performance of Performance Contracts

• By Sheryl Szeinbach
• Jul 01, 2003

As energy costs rise, the balance between equipment capitol costs and operating costs is shifting. Previously energy efficiency projects may have been evaluated as not meeting payback requirements. New tools and economic conditions may enable energy savings programs to now pay for themselves and make a company more green.

Even in this new environment, however, energy efficiency projects fail to live up to their true potential. So how can a plant recognize the real benefits of an energy project and then overcome these evaluation hurdles? The answer is to shift the burden of proof from the plant engineer to the contractor. The performance contract is a proven tool that aligns the plant and the contractor on the same side of the business equation and guarantees energy savings. This article identifies six key factors to successful performance contracting:

• Motivation
• Evaluating contractors
• Gathering energy and operating data
• Evaluating a retrofit project concept
• Developing an energy savings model
• Insisting on measurement and verification

Motivation
In almost every case of a successfully applied performance contract, the process began with a motivated individual at the plant receptive to and looking for ways to reduce operational expenses. The motivations to start these investigations are varied:

• Awareness of a new and supposedly more efficient technology
• Rising utility consumption with no change in production
• Steady utility usage but rising energy costs
• Recommendation from a completed energy audit

However motivated, the plant engineer is often concerned with potential energy savings in a variety of areas, such as purchased utilities (electricity, natural gas or fuel oil), generated utilities (compressed air, steam, hot water, chilled water or hot oil) or untapped resources (solvents, people and waste heat). The plant's initial investigation may lead to a variety of equipment efficiencies, savings estimates and budgetary costs. Individual contractors will naturally push their equipment or specialty service. The prices range widely as do the predictions of energy saved. It becomes increasingly difficult to make an "apples-to-apples" comparison. Performance contracts cut through all the "sales-speak" and simplify the process of evaluating different proposals. Performance contracts can be compared "apples-to-apples" by their nature because the bottom line is always dollars saved and the risk is always with the contractor.

In almost every case of a successfully applied performance contract, the process began with a motivated individual at the plant receptive to and looking for ways to reduce operational expenses.

Evaluating Contractors
The plant should select several contractors to initially develop conceptual savings programs. There are two basic contractor selection criteria that can be assessed with an initial phone conversation:

• Does the contractor have expertise in the needed technology, whether it be lighting; heating, ventilation and air conditioning (HVAC); abatement or the plant's specific process? The plant's existing knowledge of the contractor or a request for a reference list should answer this question.
• Is the contractor willing to bid the project on a performance contract basis and does he or she have the financial strength and stability to do so? This will depend largely on the size of both the project and the financial stability of the contractor. Ultimately, these factors should be invisible to the plant's comparison of the final performance contract proposals.

Gathering Energy and Operating Data
Regardless of how an energy saving project is ultimately executed, it is crucial to know how utility dollars are currently spent. This typically involves collecting operating data including gas and electric bills, yearly utility summaries and plant and equipment hours of operation. At this stage, accuracy in data is crucial. Ultimately, the projected energy savings are only as good as the information on which they are based. The collected data could expand or shift the focus of the project scope to maximize savings and identify opportunities. Instead of searching for data to support a particular retrofit idea, collect and analyze all available operating data and let this guide the project to the areas of greatest potential.

The plant should willingly issue as much of this data as possible to the contractors. If they are diligent in their analysis, the contractors will normally respond with new questions and ideas for additional data they need. After all, the contractor is risking his or her money on the accuracy of predicted energy savings. The plant should encourage and facilitate a site visit by its contractors to allow them to review the process and take measurements. Contractors should have a range of test equipment, tools and technical expertise from which the plant can benefit and take full advantage. This can be a telling indicator: if either party is unwilling to invest any time in data analysis or an energy audit, the bleaker the outlook is for long term savings. In cases where the scope or focus of a retrofit is hard to define, the plant's best course of action will be to pay for an energy audit, then evaluate implementing the recommendations on a performance contract basis.

Evaluating a Retrofit Project Concept
Armed with an understanding of how the facility operates and where its utilities dollars are going, the plant and contractor can now develop a more detailed project scope. The contractor should provide the following working documents for discussion with the plant:

• Schematic diagrams of the retrofit and how it integrates with the existing facility or process.
• Scope of work defining what work the contractor will complete under the project.
• Sequence of operation that considers normal production conditions, upset conditions, operational schedule and an understanding of process interactions.

These documents may be very simplistic, for instance, if the retrofit consists only of replacing existing lights with higher efficiency fixtures. Or, they may be quite complex, for example, integrating high temperature process exhaust with building heating where variable supply and demand load conditions must be considered. In either case, they should be complete enough to highlight potential problems. The plant must assess, among other issues, impacts to the way production is run, what happens in the event of an equipment fault and how costly or time consuming repairs are on the proposed equipment. The plant should thoroughly question and evaluate the design concept at this stage of project development before detailed engineering and costing has been completed. The documents generated at this point will later become the basis for an energy-savings model and a complete performance contract proposal and scope of work. While the contractor bears the risk of realizing energy savings and getting paid back, the plant must live with the revisions.

Oftentimes, the installation of new equipment under a performance contract can offer benefits to the plant beyond mere energy savings, such as reduced maintenance, replacement of equipment at the end of its life cycle, updated controls and monitoring or improved production flexibility. It is important, however, to maintain separation between the plant's process requirements, side benefits that flow naturally from the retrofit and "wish-list" items requested by maintenance or production personnel. Restraint must be exercised to not pile on too many pet projects, unrelated to the core energy reduction project, which threaten to sink the ship. Here again, the plant can simplify its own internal evaluation by letting the contractor do the work to determine which items cannot be paid for out of energy savings.

Developing an Energy Savings Model
Fundamentally, to prepare a performance contract proposal, the contractor needs two pieces of information:

• The installed cost of the retrofit, which will be paid in full without guaranteed compensation.
• An accurate estimate or model of system utilities consumption after the retrofit is complete. From this estimate and existing system utilities data, the expected energy savings can be calculated.

An energy savings model must take into account the plant's hours of operation, different modes of production and, in some cases, how much recovered energy can actually be used. Other factors such as climatic data may also be relevant.

The plant should select several contractors to initially develop conceptual savings programs.

The energy savings model is perhaps the most critical and challenging element in the development of a performance contract and highlights the primary advantage of performance contracting for the plant. The performance contract places the risk of estimating and then realizing energy savings on the contractor, not the plant. Contractors are very quick to predict a plant's energy savings when bidding a traditional fee-for-service project. They think much longer and harder before submitting a performance contract proposal.

Insisting on Measurement and Verification
By the time the plant and its selected contractor(s) reach the stage of a firm proposal, there should be no surprises. The items to look for in a performance contract proposal are:

• A detailed, written scope of work
• A list of the plant's responsibilities
• A complete set of equations to be used for calculating monthly payments to the contractor
• A definition of the baseline data to be used for savings calculation or a description of how, when and over what period the baseline data will be collected
• Terms for ongoing verification and measurement

The last item above is a crucial component for success. By definition, a performance contract's energy savings must be verified on a regular basis throughout the term of the contract and payments to the contractor must be adjusted accordingly. The details of verification and payment calculation will vary from project to project and should be negotiated to the mutual satisfaction of the plant and the contractor. For instance, will the energy savings, and the contractor's payment, be calculated on a fixed gas or electric rate or will it float with market prices? Will the baseline utilities consumption be adjusted for changing hours or days of operation, or will they be adjusted for fluctuation in ventilation air volume? Who will take the measurements?

Performance Contract Case Study

Both the plant and the contractor must live with the agreed verification terms for the life of the contract, which may be two years or may be ten years. For that reason, it is a good idea to keep them as simple as possible. Look for creative ways to reduce the verification workload, such as minimizing monthly measurements, while requiring a detailed annual or biannual audit. In the end, the purpose of verification, and indeed of performance contracting, is to make sure the energy savings promised are actually delivered.

Conclusion
The performance contract model works and is now finding application beyond its traditional realm of lighting and HVAC retrofits. Many capital improvements can be paid for from guaranteed reductions in operating costs, and there is no reason to limit the performance measures to utilities consumption. Imagine purchasing replacement process equipment and paying the supplier based on a reduction in number of breakdowns or maintenance hours over its lifetime. Performance contracting is a powerful tool with many benefits for plants willing to apply it creatively to their problems. It helps plants get more out of their contractors by opening communications and focusing on shared goals. The old adage was, "A contractor only tells the truth when he's talking about the competition." The new addendum is, "or when he's bidding a performance contract."

This article originally appeared in the July/August 2003 issue of Environmental Protection, Vol. 14, No. 6.

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Performance Contract Case Study
A cabinet maker operates four RTOs regenerative thermal oxidizers for volatile organic compounds (VOC) control on its paint booths and ovens. The plant was consuming huge amounts of electricity and natural gas and management saw bills rising. To ensure worker safety and a clean working environment, the company also wanted to increase its process exhausts but had no additional capacity in its RTOs. Making matters worse, its RTOs suffered frequent breakdowns, further taxing maintenance staff who had little RTO expertise.

The company consulted with an RTO supplier (contractor) who noticed the high pressure drops across the RTOs and proposed replacing retrofitting the heat exchange media beds These capital intensive retrofits were performed in 2001 and 2002 on a performance contract basis with guaranteed savings.

In mid 2002, the plant:

• Reduced its operating costs by $250,000 (including after payments to the contractor!)
• Increased its total exhaust volume from 256,000 cfm to 284,000 cfm
• Outsourced RTO maintenance and got uptime guarantees on its RTOs

In mid 2002, the contractor began to see its payments and the plant's savings shrinking. Highly motivated by this reduced revenue and the four remaining years of on the contract, the employees of the contractor inspected the RTOs and found that two were beginning to plug with paint. The contractor scheduled and performed a cleaning of the system, which optimized performance and returned the plant's savings to previous levels.

Measurement, verification, accountability and guaranteed savings. As this case study indicates, without a performance contract, the plant would not have its goals.

This article originally appeared in the 07/01/2003 issue of Environmental Protection.