Funding renovations with performance contracting
Half of all government buildings in America are more than 30 years old. In many of these structures, the original heating and air conditioning equipment is still wheezing away — inefficient, worn out and inadequately maintained.
Wavering temperatures and poor ventilation lead to employee discomfort, unsafe air quality and high utility costs. Breakdowns and emergency repairs eat further into operating budgets, making a permanent solution less affordable.
In 1989, the 27-year-old Seattle Municipal Building served as a case in point. The city contracted for the modernization of the facility’s mechanical and electrical equipment. The project included replacement of outmoded temperature control devices; overhaul of heating, ventilation and air conditioning systems; upgrading of fluorescent lighting systems; and installation of a monitoring and control system to implement energy management strategies.
All of this was done without bending the budget, raising taxes or issuing bonds. The key was performance contracting, which enables a municipality to pay for building improvements with the energy savings that will follow — savings that the contractor guarantees.
When the renovated physical plant was commissioned in January 1992, $55,000 in direct energy savings, plus another $108,000 in operational savings each year were contractually guaranteed.
Operational savings include extended equipment life and reduced costs for downtime and repairs. This amount was more than enough to cover annual payments specified in the contract. The debt will be retired by the year 2006.
An audit of utility expenses from startup through July 1995 verified actual energy savings of $355,962, 180 percent of the amount guaranteed for that period.
“The city placed this program on its capital budget because of its fiscal soundness,” says Norma Miller, facilities administrator. “The program is generating the funding to pay for itself, and performance risks have been assumed by the contractor.” Once the renovation is paid for, future savings will be applied directly to reduce the municipal operating budget.
The codified provisions of performance contracting vary among the approximately 20 states that have enacted some form of applicable statute, but they all permit facility managers to borrow against future energy savings to finance facility updates.
This is done by authorizing renovation contracts that will increase energy efficiency and generate enough savings to recover project costs within the period of the contract (usually five to 10 years.)
The shift in procurement emphasis from low cost to high payback frees tax dollars, now spent on wasted energy and quick fixes, for permanent facility improvements that increase asset value, eliminate operating problems and improve public service.
Another selling point is that most public bodies are subject to procurement regulations requiring the purchase of new equipment only out of current-year funds. If the money is not there, this means doing without or risking taxpayer wrath with a special assessment.
Without performance contracting, officials may be forced to choose between a highly visible, politically popular project like a swimming pool in the park or a more crucial yet mundane expenditure like a new boiler in the jailhouse basement.
Performance contracting also shifts the risk of satisfactory performance from the government to the contractor. The contractor’s assumption of responsibility for a project’s outcome far exceeds that required under a standard contract for goods and services. “Performance” means the contractor is obligated to deliver the promised savings or make up the difference out of pocket.
The new contracting method got its start in a few states where deteriorating school facilities were the driving force. Since then, other state and local entities covered by the same laws have taken advantage of the new provisions. (The Energy Policy Act of 1992 extended performance contracting privileges to federal agencies as well.)
Presently, thousands of renovated public buildings are repaying hundreds of millions of dollars worth of energy-related investments. And as each payback schedule is fulfilled, ongoing savings flow directly into public coffers. These surplus funds can be used to fund additional projects or for tax relief.
The first performance contract was signed about 10 years ago. The technique has worked best in cases where the contract specifies an absolute guarantee of expected energy savings by the contractor.
That is, the benefiting agency is not at risk financially in case of a savings shortfall. But not all contractors have the estimating experience or financial resources to accept full responsibility. Less stringent contracts that call for projected savings do exist, but have sometimes ended in disappointment.
One thing appears certain: As more state legislatures take action and public negotiators become more skillful, performance contracting can only continue to grow in popularity. And that’s very good news for facility managers, elected officials and the public at large.
This article was written by Susan Engeleiter, vice president of government markets, Honeywell Home and Building Control, Minneapolis.