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January 5, 2014

Inclusive Utility Investments for Clean Transport — Q&A

By: Clean Energy Works
What are inclusive utility investments for clean transport?
Inclusive utility investments for clean transport apply the same concept of site-specific investment to resolve the upfront cost barriers of electric mobility. An electric transit bus and charger can cost as much as 150% of a diesel bus, presenting a capital cost barrier that prevents transit agencies or school districts from buying the cleaner technology, despite their potential long-term cost effectiveness and significant environmental benefits.

With an inclusive utility investment program, electric utilities can capitalize the batteries and charging equipment, which reduces the upfront cost to the bus service provider (the customer). The utility then recovers its cost for the equipment through a fixed charge on the monthly bill for the bus service provider that is lower than the estimated operational savings of the electric bus.

What differentiates inclusive utility investment from a leasing model?
For an extended discussion of the differences between inclusive utility investments and leasing models, please refer to the instrument analysis by the Global Innovation Lab for Climate Finance (Annex 7.3).

 In summary:

  • Financial liabilities: Leasing agreements require the bus service provider to accept a long-term financial liability on their balance sheet. By contrast, an inclusive utility investment does not impose additional financial liabilities on a bus service provider’s balance sheet.
  • Eligibility: Leases depend on the creditworthiness of the bus service provider. With inclusive utility investment, utilities rely upon disconnection for non-payment, which is an effective form of security.
Who bears technology risk for equipment capitalized through an inclusive utility investment program?
To minimize technology risk exposure, the length of the cost recovery period for the inclusive utility investment is limited to the length of the warranty for the equipment (e.g. on-board battery and charging station). The technology risk effectively remains with the manufacturer, who is best positioned to manage it.
What are the environmental benefits of electric buses over diesel buses?
In all but the most carbon-intensive grids, electric buses produce lower well-to-wheel carbon emissions than their diesel counterparts. The drivetrain energy efficiency is up to 500% higher than that of a diesel engine. They are quieter and produce lower levels of harmful urban pollutants (NOx and fine particulates). For governments aiming to reach greenhouse gas emissions targets in the transport sector in the next 10-15 years, the transition to electric bus fleets must begin now because buses remain in service for about 12 years.
How environmentally friendly are electric buses with a ‘dirty’ electricity supply?
Electrification is a prerequisite to decarbonizing the transport sector. While some power grids are currently comprised of high emissions sources, more renewables are being integrated into grids in many locations.

Electric buses fueled by an electrical grid powered by carbon intensive sources may have small or even negative carbon emission reductions when compared to diesel. However, the much greater tank-to-wheels efficiency of the electric drivetrain means emissions reductions improve quickly as renewables are added to the mix of supply sources.

What does the utility provide?
The utility provides the upfront capital for investment in the batteries and charging infrastructure for the electric bus.

Once the bus is in operation, the utility provides electrical service to the charging site. The cost of that electricity is defined in a tariff for electricity service that applies to all customers that qualify for that rate. For that reason, the tariff that defines the electricity rate is separate from the tariff (or tariff rider) that defines the cost recovery charge for the on-board battery and smart charging equipment.

What happens if the equipment does not perform as intended?
The manufacturer’s warranty should cover equipment performance during the period of cost recovery. If the equipment stops working for no fault of the customer and it is not repaired, the cost recovery charge ends. The utility may extend the cost recovery period to recover repair costs, if any are incurred.
What happens if the equipment does not perform as intended?
At the outset, the utility owns the batteries and charging equipment. At the point at which the utility has recovered its costs, its cost recovery charges end, and ownership of the batteries and charging equipment moves to the bus service provider.
Is the value of grid services provided by an EV included in the inclusive utility investment?
The benefits provided by grid connected batteries do have value. The validation of those value streams are still in pilot phase by many utilities, manufacturers of buses and 2-way chargers, and school districts in the United States. 
Why are utilities an important partner in the transaction for electric buses?
Involving utilities with healthy balance sheets in acceleration of transportation electrification has several advantages:

  • Cost-effectiveness: Utilities are typically much larger and better capitalized than bus service providers, and they access debt markets on a regular basis, at a lower cost of capital and lower transaction cost.
  • Counterparty risk: By lending to a utility, a capital provider holds counterparty risk from the utility, which has better capacity than other actors in the transport chain (bus providers or operators).
  • Cost recovery: By using an on-bill cost recovery mechanism, the utility can recover its cost for batteries and chargers through the same billing system that it uses to collect revenues for all other services delivered.
What does the bus service provider supply?
The bus service provider supplies the upfront capital for the purchase of the electric bus only (not including the batteries or charging infrastructure). Once the bus is in operation, the bus service provider, with the savings from operations, pays the tariff to the utility until the utility’s costs are recovered, which should be a period that is shorter than the equipment warranty period.
What is the role of capital providers in an inclusive utility investment?
External capital may be required in three cases:

  • Alternative capital source. If the utility cannot (or prefers not to) finance the purchase of the batteries and charging infrastructure internally, it may seek external capital to provide the financing required. This could be done privately through a bespoke financial instrument, which could include a public debt or bond offering that flows capital through the utility and back.
  • Copayment and/or additional financing to buy down the upfront cost or  the remainder of the bus to a level that is cost effective. The bus service provider might have to make an upfront co-payment to cover a gap in cost effectiveness. Grant funding where available or traditional financial or concessional capitals will be needed.
  • Professional services for initial implementation in a specific market. The legal, consulting, and administrative fees associated with the first-time design and implementation of the inclusive utility investment for a specific market can be paid by the utility, which may seek to have those costs covered by external grant funding as a public benefit.
Would loan financing extended by capital providers to a utility for an inclusive utility investment be on the utility’s general corporate balance sheet?
A fundamental principle of an inclusive utility investment is the ability to shift part of the upfront costs from bus service providers to utility balance sheets, and the utility may choose to finance those costs with capital secured by its balance sheet, which is typically a mix of debt and equity.

As with its other investments, the utility is obligated to repay its creditors regardless of the performance of its investments, and as with other investments, the utility’s own risk exposure is low because it would be assured of cost recovery through terms of service (a tariff) that have recourse options, such as disconnection for non-payment, which is the same as unpaid bills for other utility services.

Does the inclusive utility investment model envisage potential retrofitting of batteries on buses to convert them from diesel to electric?
No. A new electric bus is more cost effective than buying a diesel bus and then tearing out its engine and tank to make a custom retrofit for that particular chassis, with little or no warranty coverage. While there are a handful of retrofit electric bus producers, the supply chains for retrofit conversion buses are difficult to develop at high volume, especially on the scale that new buses are already being added to the global fleet every year.
When the bus manufacturer sells a bus, would it implement one purchase-sale contract with two buyers, or two purchase-sale contracts, one for each of the parties?
The  experience in the field with inclusive utility investments in building energy upgrades indicates that  one purchase-sale contract for each of the two parties is possible – because they are two different payments to the technology provider.

Separately, the utility offers the bus service provider an inclusive utility investment tariff agreement, and that document establishes the pathway to ownership of the grid-connected equipment for the bus service provider.

This tariff (and the agreement for a customer to opt into it) is set up one time by the utility with approval from its regulator, and then any eligible bus service provider in the utility’s service area can use it as an off-the-shelf document going forward for all future inclusive utility investments of that type.

Is it possible to implement an electric bus purchase where one part (the batteries) is acquired by one legal entity and another part (the rest of the bus) is acquired by another legal entity?
Yes, battery lease options are available in some countries in which the bus service provider buys the bus with its own capital or financing, minus the value of the battery, which is capitalized separately. The bus service provider then pays for the battery lease through an operating agreement.

To further underscore that the battery and bus have a commercial value that can be distinguished, the bus and battery often have separate warranty terms, and the battery can be removed from the bus for separate sale for second life applications.

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