This article is provided by the Deloitte Institute of Innovation and Entrepreneurship.
Recent years have seen a flood of interest in renewable energy. Companies worldwide are involved in a profusion of initiatives in sustainable energy generation – everything from solar panels on factory roofs to wind turbines in car parks. Of course, this is a good thing. But, it requires investment and tends to encourage consumption levels to remain much the same. As they enthusiastically embrace the latest in sustainable energy, companies can overlook energy-saving projects that offer the same or even better economic and environmental returns.
Enter Decarbon Capital. Founded in 2010, the company champions and facilitates energy saving. It argues that, from an energy perspective, it makes sense to reduce energy demand rather than develop new ways to generate energy, which puts pressure on the existing energy transmission network.
Decarbon Capital describes itself as a “bespoke sustainable energy investment manager”. In practice what this means is that it invests in projects that improve the energy efficiency of organisations, what it calls Energy Performance Investments (EPIs). In the same way as companies invest in renewable energy, Decarbon encourages them to invest in energy saving. This comes in a wide variety of forms – switching to cheaper and lower carbon intensive fuels; water conservation; upgrading data processing to better understand and reduce consumption and much more.
There is, of course, an obvious problem. Energy generation is easy to measure and comprehend. You pay for a wind turbine or solar panels and can easily understand and tabulate the energy generated. Investing in energy saving is a different matter. Companies cannot meter avoided energy. They need to work with experts to determine and verify the quantity and value of the savings. The good news for organisations is that the investment size of energy savings projects is typically much lower than for energy generation projects, though the fixed costs are similar. The range of potential projects is also much larger.
Decarbon Capital, backed by angel investment, basically acts as an investor in energy-saving projects. Its investment covers design, equipment, implementation, maintenance, operation and independent performance auditing for the life of the investment. As the energy is saved, it makes a return on its investment that is shared with the company. If no saving is made, there are no returns.
The spark for the company’s creation came when Decarbon Managing Director Daniel Saunders was studying for an MBA at London Business School and took part in the Clean Tech Challenge competition. This looked at investment models for clean tech projects. Saunders had experience of energy, finance and technology through a combination of working as a consultant and investment banker at IBM and Morgan Stanley. “It was a massive opportunity,” he recalls. “I took it to market at the end of 2009 and found that the real opportunity was for energy efficiency, not for renewables. Energy efficiency and cost saving is widely demanded, makes perfect pragmatic sense but can be harder to implement because it is slightly more complex. But, if you can reduce some of these energy bills by half a million pounds a year, that has to have some financial value to everybody involved.”
For Saunders, cutting his entrepreneurial teeth has been a tumultuous, at times frustrating, experience. “What have I learnt?” he ponders. “Articulating and convincing people of an opportunity is harder than I thought it would be, especially without a brand behind you. Before, I could use IBM, Morgan Stanley or PwC as brands. When you do it with a new company, that’s far harder. In addition, what I originally believed to be a very simple profit share contract has proved far more complex because organisations are ponderous.”
The risk business
Saunders emphasises that Decarbon makes investments rather than lends money to companies to undertake energy-saving projects. “We invest in the projects, purchasing them on behalf of our clients,” he says. “We take the risk and pay for an auditor to measure performance.” The risk and profit sharing elements are what differentiates Decarbon from its competitors – basically equipment leasing companies and organisations such as the Green Investment Bank and the Carbon Trust, which make loans.
Independent performance measurement is key to the Decarbon business model. Its criteria for investing remain reassuringly flexible. “What we do is quite pragmatic in terms of the internal investment. So, as long as it makes economic sense and it does good as well, by reducing carbon emissions, water wastage and so on, then we’ll look to invest,” says Saunders.
Decarbon’s first project was with David Lloyd Leisure, worth nearly £2m. The project involves energy-efficiency equipment to reduce energy consumption and carbon emissions at 35 sites across the UK. Paul Guyer, David Lloyd Leisure’s Group Property Director, says: “Innovation and environmental performance is very important to us and we are committed to delivering a 20 per cent reduction in our carbon footprint from a 2010 baseline by 2014. The signing of the EPI is anticipated to deliver two per cent of this target, equating to 2,200 tonnes of carbon, and allow us to utilise our capital budget on bespoke projects within our clubs.”
Among other clients, CEMEX UK has signed an agreement with Decarbon to explore and implement funded energy-saving solutions that reduce both operational costs and environmental impact.
Understandably, many Decarbon clients are reticent about speaking publicly. Energy savings can make a substantial difference to performance. “A lot of companies have an investment hurdle and when they can’t get over that investment hurdle, the projects just stop. It doesn’t mean the project’s a bad idea, but that company wants to use its money elsewhere. If the core business is making cars it’s not necessarily worried about laying a power connection or a gas pipeline. So that’s exactly where we step in and act as the facilitator,” says Saunders. “Essentially it’s a profit share model. Profit share models often operate in many different types of industry in different locations. The key is being able to quantify and actually structure an agreement that’s suitable and makes commercial sense to both parties. It’s nothing really new, it’s just a new application. But, it’s potentially a win-win issue because what we’re doing is driving free cash to the bottom line of companies. We make them more profitable, which helps make them more financially resilient but it can also improve their carbon credentials.”
At the moment, Decarbon is a very lean outfit with a team of four people. A typical Decarbon project involves an investment of between £500,000 and £10m. Currently, it is working at 45 different locations across the UK with some £7m either invested or mandated for investment and is working on structuring another £20m of projects. So far, its investments have been in the UK, but there is no reason why the business model cannot work elsewhere.
The investments are for a fixed period of time. At the end of the period, the equipment – and the associated future savings – remain with the client company. The length of the contract is an important variable as it affects the profit share split. “Sometimes we might take 50 per cent of the financial savings, sometimes more,” says Saunders. “It depends on the return of the investment. It’s a sliding scale. Typically we offer four different combinations to clients, which all generate the same return. Some companies love the idea of really short contracts so they can have ownership of the solution as quickly as possible.
“There’s no hard sell. It’s meant to be an investment partnership because there is a complete alignment. If a project doesn’t work, we don’t earn anything and they don’t pay anything. We’re investing in operational efficiency. Profit is a function of revenue and cost. This is a means of reducing costs and so boosting profits. It’s a free flow of money through cost reduction that improves the productivity of your business.”
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