AN ENERGY EFFICIENCY SERVICE COMPANY ( ESCO ) IS PRIMARILY DEDICATED TO DESIGNING , INSTALLING AND MAINTAINING ENERGY EFFICIENCY SOLUTIONS FOR COMMERCIAL CUSTOMERS TO REDUCE ENERGY CONSUMPTION AND GHG EMISSIONS AT THE CUSTOMER ’ S PROPERTIES . BY FERNANDO J RODRIGUEZ MARIN , PARTNER , NICOLAI J SARAD , PARTNER , AND STEVEN J LORCH , PARTNER , BRACEWELL LLP , NEW YORK .

The project financing of energy efficiency projects is gaining traction , fuelled in part by the embracing by the business community – including lenders – of sustainability policies and the adoption of environmental , social and governance ( ESG ) standards and goals as both risk reduction and value enhancing tools , including those tied to greenhouse gas ( GHG ) emissions reduction . Energy efficiency mechanisms run the gamut from establishing policies and incentives to encourage responsible energy use , to investing capital to achieve real reductions in the use of power generally and fossil fuels specifically . This article concentrates on the latter and provides an overview of financing so-called ESCO energy efficiency transactions .

An energy efficiency service company ( ESCO ) is primarily dedicated to designing , installing and maintaining energy efficiency solutions for commercial customers to reduce energy consumption and GHG emissions at the customer ’ s properties . Such solutions can include energy efficient retrofits – eg , insulation , air conditioning and / or lighting – energy use optimisation or similar services , as well as the design , construction or installation of more efficient combined heat and power plants , intelligent metering systems , distributed energy via solar , wind or microgrid systems such installations and equipment , the energy efficiency facility , or EEF .

The ESCO ’ s preferred contract structure is performance-based , where its remuneration is tied to the energy savings achieved by its customer . An ESCO will typically enter into an Energy Services Agreement ( also known as an Efficiency Services Agreement , or ESA ) with a customer ( the owner ) that owns or uses property with significant energy costs ( for example , a retail or hotel chain , or a university campus ). Under the ESA the ESCO will agree to fund upfront the cost of designing , engineering , procuring and building or installing the necessary EEF and to operate and / or maintain the EEF for an agreed term , in return for remuneration calculated primarily with reference to the actual energy cost savings achieved by the agreed EEF below the customer ’ s costs before the retrofit . Typically , ESCOs are financial parties that subcontract the actual performance of the work and services to a third-party contractor , known as an energy services performance company ( ESPC ). 1

A well-structured ESCO energy efficiency transaction can be project financed on a limited recourse basis . As in any project finance transaction , the lenders will need to be satisfied that , among other things , the members of the basic contractual triangle ( ESCO , ESPC and owner ) have a satisfactory credit profile and the ESCO and ESPC have a successful technical track record . Moreover , the contractual arrangements must be enforceable and contain adequate risk mitigation provisions , the technology to be used must be proven , and the amount of equity committed by the stockholders of the ESCOborrower must be sufficient to make the project financeable as demonstrated by the borrower ’ s financial model .

A typical financing structure may look the structure in Figure 1 .

Lenders will generally accept the ESCO , as ESA counterparty , to be a special purpose entity owned and controlled by the ESCO ’ s sponsors , subject to acceptable equity contribution agreements or up-front equity-funding requirements . Since lenders will expect to be repaid from the cashflow generated by the ESA , they will expect the ESA to contain a clear , predictable and enforceable structure for remuneration by the owner as well as monetary protections in case of early termination of the contract .

The parties will also need to agree on who will have title to the EEF and whether the EEF is to remain at the owner ’ s property at the end of the contract term , which may be shorter than the useful life of the EEF . Lenders pay close attention to the ownership of the EEF , which affects the type of security interest that the ESCO can grant over the EEF in favour of the lenders , and whether the lenders can foreclose on the EEF in case of default under the ESCO ’ s loan . In addition , the subcontract between the

The ESCO ’ s preferred contract structure is performance-based , where its remuneration is tied to the energy savings achieved by its customer

66 Project Finance International October 6 2021