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Illinois School Board Journal
September/October 2006

New contracting pays you to save
by William H. Phillips

William H. Phillips is an assistant professor of educational leadership at the University of Illinois-Springfield and a former superintendent.

As school budgets stretch to accommodate demands from federal and state mandates, as well as local concerns, facility improvement needs continue to grow. Finding a way to pay for needed improvements often puts school finances in a difficult position.

While the average U.S. public school building is 44 years old, research shows that buildings begin to deteriorate after 40 years.

According to The Condition of America's Public School Facilities: 1999, published by the National Center for Education Statistics, most public school buildings in the U.S. are "adequate," but 75 percent need updating. Of the 903 elementary and secondary schools surveyed, 50 percent stated the heating, plumbing, roofs, or sprinklers and fire alarms in their facilities were in less than adequate condition. Ventilation, security or indoor air quality conditions were reported as unsatisfactory by 43 percent.

Even with identified needs, most of the surveyed schools had no current plan for major repairs or renovation. However, that doesn't mean they need to wait for dollars and just do nothing. School districts may just need to be more creative in approaching the problems.

Improving energy efficiency can save a significant amount of money and have the added benefit of significantly improving the learning environment. Upgraded lighting and ventilation systems can benefit the health and comfort of students and teachers, leading to increased academic performance.

Introducing energy efficiency measures into a building can be accomplished several ways — some simple, some complex — and savings can be realized quickly even by implementing small changes.

Examples of no-cost efforts that carry significant savings are:

• Institute basic energy-smart policies around the school, i.e., turn off the lights. In most schools, lighting is 50 percent of the electric bill.
• Turn off or turn down energy-intensive heating and air conditioning equipment when not in use and/or use timers to adjust building control systems when no one is in a building.
• Adjust electrical and gas usage patterns to qualify for lower rates from utility companies.

These measures can be implemented quickly and at no cost by educating teachers and students on energy efficiency. Involve the entire school by publicizing energy costs and savings. Offer opportunities for students and teachers to submit suggestions. Some schools report saving as much as 25 percent on utility bills when everyone participates in energy-saving practices.

A more complex way to address the problem is through updating and replacing inefficient equipment and systems. While this does come at a higher cost, it also will lead to greater savings. For example, by retrofitting inefficient lighting systems and replacing inefficient heating and cooling systems, Alexandria, Virginia, schools reported a net savings of nearly $175,000 between 1996 and 2000.

Because these improvements can require significant expense, they also call for more creativity. Increasing taxes through a referendum is an option that may fail. However, another possibility that has proven effective for many schools is performance-based contracting (PBC).

Performance-based contracts are agreements between private or public sector businesses and an energy service company (ESCO). The ESCO works with the customer to create an energy savings plan that can be used to update and replace inefficient equipment and systems without creating additional costs for the district.

The major advantage that PBC has over traditional bid/spec contracting is in the method of funding. This is crucial in today's stressed economy.

Bid/spec contracts require new capital or bonds to be sold to pay for the improvements while PBC reallocates current funds to pay for the improvements. This is sometimes called a "shared savings" program.

The money needed to pay for these improvements is paid up front by the ESCO with the savings generated by the improvements shared between the school and the ESCO. The school makes a specific payment to the ESCO each year from the savings generated by the improvements. Any monies from the savings above the payment are kept by the school district and, if the savings do not take place as promised, the school is paid the difference due to the guaranteed savings promised by the ESCO.

For example, if the ESCO performance-based contract guarantees a savings of $10,000 a month but the actual savings are only $8,000 a month, the ESCO will pay the school district the difference between the actual savings and the savings guaranteed by the contract or $2,000. The school district does not need to raise taxes or call for a bond sale because the school pays out of money previously spent for energy cost or the ESCO makes up the difference.

Another advantage of PBC comes when choosing a contractor. Under bid/spec contracting, a school is required to choose the lowest responsible bidder to complete the project. PBC allows districts to choose a contractor based on reputation and ability to correct the problems. The school has the option of choosing a local contractor rather than a lowest bidder, thereby increasing community awareness and involvement in the local schools.

States have recognized the importance of PBC and have changed finance laws that required schools to accept the lowest bid. Article 19-B in the Illinois School Code explicitly delineates the authorized procedures for performance contracting. New legislation allows performance contracts to extend for up to 20 years.

The only disadvantage with using PBC may be that the contractor in charge of the project is also the entity monitoring the savings to see that the amount meets the stipulation. However, it would be in the best interest of the contractor from a business standpoint to report savings accurately.

The first step requires completion of a feasibility and financial analysis report. This feasibility report is used to inform the customer of the benefits of a performance-based contract. At their expense, the ESCO brings in a team of specialists to evaluate the efficiency of heating, ventilation and air conditioning systems. They also analyze lighting systems for upgrades and/or replacement, using a database of energy conservation measures that catalog implementation costs, energy consumption, energy savings and rebate opportunities.

Using life cycle/cost analysis software, they can predict anticipated savings that come with insulation and window upgrades, and heat recovery systems improvement and/or replacements. A feasibility report summarizes the up-front costs and the savings anticipated. The financial analysis will include a cash flow and return on investment calculation.

The cost of the contract then reflects the design, management, construction, insurance and monitoring of the plan. Payments for lease/loan programs are calculated and compared to the anticipated savings in energy, maintenance, operations and utility rebates. If the anticipated loan/lease payment is less than the anticipated savings, then a school can make these improvements with no additional capital investment.

After the initial feasibility and financial analysis are completed and an agreement to proceed is reached, more detailed engineering studies are done and contracts are drawn up. This phase includes a specific breakdown of what will be done to save the school money. Also equipment or systems modifications and upgrades schedules are provided, and architectural revisions are detailed for all applications.

The final step is implementation, where the actual construction and/or renovations are completed according to the contract.

Testimonials from districts and buildings that have used performance-based contracting are impressive.

Western Boone Junior/Senior High School in Thorntown, Indiana, took advantage of the PBC process in early 1994. Electrical costs to heat and cool their facilities averaged nearly $1,000 per day, or $1.35 a square foot. After the PBC process, their costs to heat the buildings dropped to $.97 per square foot, for a 28 percent savings.

Briarcliff Manor Union-Free School District in New York saved $100,000 annually in energy and operation costs during the first five years. With this savings, they were able to fund $500,000 worth of capital improvements without an impact on their budget.

Based on results like these, performance-based contracting offers a positive, probable solution for many school districts and deserves consideration.