Implementing low-carbon strategies – analysis of barriers

Spurring investment in low-carbon technology

Barriers for investment in energy efficiency

The report of the International Energy Agency, “World Energy Investment" (2017), found that after years of growth, combined global investment in renewables and energy efficiency declined by 3% in 2017. Investment growth has again weakened in 2018 (CNBC, 2018). This is observed in spite of various authors demonstrating that there is a serious potential for energy efficiency in many industries (Panayiotou et al., 2017) and significant potential for renewable energy (International Energy Agency, 2014).

Over two-thirds of efficiency potential is still untouched (OECD, 2017). In 2017, the world spent about EUR 200 billion on energy efficiency. This was invested largely in heating, cooling, and lighting improvements in buildings. Tapping the full potential of energy efficiency will require at least four times as much investment than is spent at present. The International Energy Agency warns these investments are actually slowing down, partly due to the slow implementation of energy efficiency policies.

The most relevant economic and financial barriers for investing in industrial energy efficiency are, according to the Department of Energy (2015):

• • Long payback time
• • Volatility of energy prices
• • Competition for capital
• • Failure to recognise non-monetary benefits of energy efficiency.

An additional reason is the generally low relevance of energy cost in production companies.

Payback time

The payback period of an investment is defined as the period of time in which the initial capital expenditure is recovered. According to Walsh, several authors agree that decisions on energy efficiency or renewable energy investment are taken mostly evaluating payback of investment

(Walsh and Thornly, 2012). Calculation of simple payback is one of the most common methods to evaluate a capital investment, especially among engineers. Payback frequently is used as a first assessment of whether detailed planning is worthwhile (Lefley, 1996).

Methodologically, the payback period does not include risk assessment and ignores the time value of money (Mayes, 2003). As the payback becomes longer, however, the more likely it is that unexpected changes might render the project not profitable (Gallo, 2016). The maximum acceptable payback is usually determined by a management decision and not based on a specific economic or scientific foundation. Production companies frequently require short payback periods of one to three years (Solnordal and Foss, 2018; Anderson and Newell, 2004) for investment. Larger companies, or owner-managed companies, sometimes accept three-year paybacks. Required payback times also depend on the type of equipment. In any case, payback has to be shorter than the remaining useful life of the equipment.

Volatility of energy prices

Volatile energy prices will make decisions to invest in energy efficiency more risky because savings out of the investment become less certain (Monitoringstelle, 2017). In Austria, energy prices show volatility: According to Eurostat, natural gas prices for medium-sized industry, not considering households or big industrial consumers, peaked in 2013 and declined since then to about 80% of the peak by 2017. The producer price index for investment goods in Austria has increased by 10% in the same period (Eurostat, 2018). Cost of labour has increased. As a result, payback times for investment in energy efficiency in general have become longer.

Competition for capital

Industrial firms do not make investment decisions related to energy separately from other aspects of operations. Measures which result in loss of production are usually not accepted. They are considered too much of a risk to the general business. Energy' savings are perceived as side effect of other investments rather than as an independent value-generating activity (Department of Energy, 2015).

In Austria, industrial investments in general have been sinking over the last ten years (Austrian Chamber of Labor, 2017). From this, it can be concluded that in times of general lower investment, investment into activities, which apparently are not directly linked to productivity, is also lower.

Failure to recognise non-monetary benefits

Non-financial barriers include limited in-house skills (Trianni et al., 2013a, 2013b) and expertise to identify (Fleiter et al., 2011) and implement energy saving projects (Trianni et al., 2013a, 2013b), as well as difficulty in gathering external skills and lack of time (Cagno et al., 2013). Information issues (such as lack of information on cost and benefits, unclear information by technology providers, difficulties in assessing the risks associated with the intervention, no trust in the information sources) emerged as an important barrier in the findings of Rohdin et al. (2007) and Trianni et al. (2013a).

Industrial energy efficiency measures may deliver substantial benefits in addition to energy cost savings — enhancing competitiveness, profitability, production and product quality; reduced maintenance; improving the working environment; and environmental compliance. The multiple-benefits approach tries to identify and appreciate these.

A survey of 200 companies which had implemented energy efficiency measures showed, however, the following results (Rasmussen, 2011):

• • The main drivers for the implementation of energy efficiency are reduction of cost and increase of productivity, while corporate reputation and government regulations remain low on the list of influencing factors.
• • Cost control is over five times more likely to be a driver of energy efficiency initiatives than compliance with government regulations, according to the organisations surveyed.
• • Seventy-six percent of respondents recognised that other benefits in addition to energy savings are achieved through energy efficiency projects.
• • Low relevance of energy cost.

The relevance of energy cost for industry is generally low, as data for Germany reveal (Table 22.1):

Cable 22.1 Average cost contribution in German processing industry (VDI, 2018)

There is, of course, a wide variation in energy cost depending on the production sector. In minerals, metal smelting, and wet finishing in the textile industry, energy cost is more likely to be in the range of 10% or more of overall expenses (Energy Efficiency Consultants Network, 2019).

Lack of strategic relevance

De Canio and Watkins (1998) asked the question whether energy efficiency investments depend on company characteristics rather than profitability of the investment and answered it affirmatively. Starting from this observation, Coormans (2012) developed an investment decisionmaking model showing four levels of barriers (Figure 22.1) and tested it empirically with 28 companies.

As shown in Figure 22.1, there are four levels of organisational barriers to energy efficiency investments. Coormans (2012) labelled the four barrier levels “Base,” “Symptom," “Real,” and "Hidden." The level “Real” barriers stands mainly for lack of strategic fit of a project. “Base” barriers concern the lack of knowledge regarding energy efficiency measures. Small and medium-sized enterprises (SMEs) in general might not be aware of their energy-related expenses and are not using state-of-the-art sensors and meters to monitor and control energy consumption. “Symptom" barriers actually express deeper problems: capital might be allocated to other investments; risk is said to be high. “Real” barriers are the real obstacle to energy efficiency investments, the low or nonexistent strategic character of the investment for companies “which consider energy or energy use neither as a contributor to their competitive advantage nor as a critical resource” (Coormans, 2012). It appears from the empirical research that strategy is more influential than profitability. Profitability apparently is a generally necessary but insufficient condition. Coormans (2012) suggested as a solution to the energy efficiency gap to strongly communicate the strategic relevance of energy efficiency investments.

Figure 22.1 Barriers to energy' efficiency investment

Figure 22.2 S-curve describing the development of performance and value over time

Basic enterprise strategies and relation to energy efficiency investment

The strategic focus of management of an enterprise will vary depending on the maturity level of the company. To explain this, the authors used the S-curve model to represent the development of enterprises. Performance of processes and infrastructure can be described by S-curves, which are logistic patterns consisting of four stages: incubation, growth, maturity, and decline (Figure 22.2) (Foster, 1986; Abernathy and Wayne, 1974). The four stages and their key characteristics are described in the following paragraphs (Röglinger et al., 2012; Miller and Friesen, 1985; Smith et al., 1985) and summarised in Table 22.2.

Incubation

Most production processes start on a small scale. They are subject to frequent modifications and changes in this first phase of the life cycle. Quality is critical, because defective products can damage the reputation of the product or even the entire firm. In the incubation stage, profits are low because research and development, production, and marketing costs are high.

Table 22.2 Technical features of the life-cycle stages

Source: Modified from Burgelman et al. (2008)

The primary interest is to increase production while complying with safety, labour, and environmental regulations. Investments that are directly related to these aspects will be given the highest priority. Investments related to reduction of expenses are not considered as important at this stage. From an organisational point of view, the enterprise will be controlled by the owner with few formal management systems.

Growth

During the growth phase, production increases with demand. While profits are high, it is important to stay ahead of competitors. During growth, the challenge is to increase production while maintaining quality and controlling cost. Ideally, capacity is added, gradually anticipating demand. In practice, this is difficult, as technical facilities can be up-scaled only in discrete steps (Quinn and Cameron, 1983). The organisation will be controlled by functional managers. A controlling system will be established.

Maturity

During maturity, sales still increase. As a result of increasing competition, prices will lower. The product or service will be adapted to differentiate from competitors. At the same time, cost must be reduced to maintain profits. As earnings improve, mature companies will generate more cash from their products than they need for reinvestment. The question of how the company should return cash to stockholders becomes relevant at almost every mature company. Management is experienced and stable. Not all mature companies are large companies. Many small companies reach their growth ceiling quickly and essentially stay small, mature firms (Wendler, 2012; Howard and Hine, 1997).

Decline

In the fourth stage of the S-curve, prices fall and sales drop. An appropriate strategy can be to reintroduce the product with a new feature. A refreshed marketing strategy is important to reach current and prospective customers. Consequently, processes will be scaled down and unprofitable products stopped. Investment will be directed towards new products and processes. Companies in this stage have few investment opportunities that generate value. These enterprises will have trouble in refinancing debt, since lenders will demand more stringent terms. The organisation will become mainly production output related. Strong leadership is needed to identify a strategy to sustain (Daft, 1998).