What would you do if you see a $20 bill lying on the street? While the answer seems obvious, Canada faces a very similar situation when it comes to building energy efficiency. Energy efficiency building upgrades or retrofits are profitable, yet investment levels remain low.
The concept is simple: invest money to make buildings consume less energy (natural gas and electricity), recoup the capital costs and generate a return through the energy cost savings. Yet the multi-billion dollar market for cost-effective energy efficiency improvements in buildings is not well exploited.
To better understand what’s going on, TAF teamed up with Dunsky Energy Consulting and talked to a diverse group of lenders (banks, public lenders, and specialized investors). We also reviewed literature from a wide range of international bodies such as a the World Bank. To round out the picture, we took a closer look at case studies that highlight successful lending practices from public and quasi-public lenders in other countries.
The result of our research is a new TAF report titled Money on the table: Why investors miss out on the energy efficiency market. The key takeaway: a number of barriers – primarily on the lenders’ side – is causing a state of market failure for energy efficiency investments. Let’s take a look at the central findings:
Project barriers on the building owners’ side
- Uncertainty about project performance and savings;
- Competing capital priorities;
- Constrained financial and project management capacity;
- Limited understanding of the business case for efficiency.
Governments and utilities across Canada are tackling these barriers through a slew of incentive programs, increased sharing of performance data, outreach initiatives, and other enabling strategies.
Financing barriers on the lenders’ side
- Lenders generally have a poor grasp of efficiency risk-return profiles; an information gap leads to a confidence gap, which in turn leads to an investment gap.
- Inadequate underwriting and risk management; traditional techniques are used to assess what is actually a new asset class, resulting in turned down or overlooked investment opportunities.
- Partial access to project value stream; the lack of specialized financial products that recognize the structure of individual commercial retrofit projects means that the volume and scale of lending needed to reap the full benefit of this market opportunity is not achieved.
The lending side-barriers that lead to capital market failures are the focus of our research. While project-side barriers to energy efficiency investments are relatively well documented, barriers on the investment side are not. This makes it even harder for lenders to understand the risks and returns of retrofit projects.
Canada is not the only country that seeks to stimulate energy efficiency investments. Entities such as Germany’s Kreditanstalt für Wiederaufbau, Bulgaria’s Energy Efficiency and Renewable Sources Fund, or a number of ‘green banks’ in the U.S. have stepped up in recent years. Through new financial tools they help demonstrate and de-risk investment opportunities in the commercial energy efficiency retrofit space. At the same time, initiatives such as the Investor Confidence Project increasingly help lenders understand the risks and returns involved in retrofit projects.
Canada can move the needle, too. As the Pan-Canadian Framework on Clean Growth and Climate Change is translated into provincial and territorial programs, there’s plenty of potential to accelerate clean growth. The emerging Canada Infrastructure Bank provides another golden opportunity to advance energy efficiency investment. Our research shows that it’s crucial to use public capital and proven methods to kick-start investment. By de-risking longer-term investments and creating the necessary products and services, investors will be able to capture the full value stream of the commercial energy efficiency retrofit space. It’s a win-win situation: The more money flows into reducing the natural gas and electricity consumption of Canada’s buildings, the more we all benefit through lower carbon emissions.
Download TAF’s energy efficiency market failure report (PDF).
Our conclusion is clear: market failure in the energy efficiency investment space can be detected and corrected. What’s needed now are strategic actions by public and quasi-public lenders to allow the wider financial sector to tap into this investment opportunity. That way lenders will finally pick up the $20 bills lying all around them.