Most
energy-improvement initiatives are focused on reductions
in electricity usage within applications found within the office
environment due to the number and diversity of assets that
are placed into service – many types of equipment and
machinery with different intended service periods, and different
cost-intensities with respect to the consumption of electricity.
The type of lease-financing product utilized within an energy-efficiency
project is influenced by (1) an organization’s procurement
methodology – direct or indirect; (2) the purpose of
the financial arrangement with respect to the ultimate disposition
of the asset – ownership or use; (3) the useful life
or intended service period of the asset; and (4) the organization’s
budgetary requirements.
Direct Procurement Methodology
Under a Direct Procurement methodology, the municipal organization
is responsible for selecting the specific asset to be placed
into service and ensuring that it meets the desired energy
performance levels.
The equipment and the lease-finance product utilized to acquire
it are procured under separate contracts with the ultimate
intention being to own the asset outright, or to make eventual
ownership of the asset economically feasible. This method of
procuring goods and services requires disclosure of the components
which contribute to the total purchase price of the asset,
and the cost of the financing. The type of lease-finance product
most commonly utilized within a direct procurement methodology
is a capital lease which is a fixed rate payment obligation
that remains constant throughout the term of a contract. The
non-variable nature of periodic payments aide in project planning
and budgeting and enables project expenses to be closely aligned
with identified cost savings.
Acquisition Leases
The financing vehicle most often utilized under a direct procurement
is the capital lease, which comes in two forms:
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Most
energy-improvement initiatives are focused on reductions
in electricity usage within applications found within the
office environment due to the number and diversity of assets
that are placed into service – many types of equipment
and machinery with different intended service periods, and
different cost-intensities with respect to the consumption
of electricity.
The type of lease-financing product utilized within an energy-efficiency
project is influenced by (1) an organization’s procurement
methodology – direct or indirect; (2) the purpose of
the financial arrangement with respect to the ultimate disposition
of the asset – ownership or use; (3) the useful life
or intended service period of the asset; and (4) the organization’s
budgetary requirements.
Direct Procurement Methodology
Under a Direct Procurement methodology, the municipal organization
is responsible for selecting the specific asset to be placed
into service and ensuring that it meets the desired energy
performance levels.
The equipment and the lease-finance product utilized to acquire
it are procured under separate contracts with the ultimate
intention being to own the asset outright, or to make eventual
ownership of the asset economically feasible. This method of
procuring goods and services requires disclosure of the components
which contribute to the total purchase price of the asset,
and the cost of the financing. The type of lease-finance product
most commonly utilized within a direct procurement methodology
is a capital lease which is a fixed rate payment obligation
that remains constant throughout the term of a contract. The
non-variable nature of periodic payments aide in project planning
and budgeting and enables project expenses to be closely aligned
with identified cost savings.
Acquisition Leases
The financing vehicle most often utilized under a direct procurement
is the capital lease, which comes in two forms:
(a) Lease-Purchase Agreement – which allows the purchase
price of the asset to be amortized over the term of the contract,
and equity to be gained in the asset with the payment of each
periodic installment; or
(b) Finance Lease – which finances the purchase of the
asset over a period of time that covers most of its useful
life, and includes three end of lease options: renew the lease
for an additional period, usually one fiscal period at a time;
return the asset to the party providing the lease-financing
services (the Lessor – a bank, equipment leasing company,
or finance division of an equipment supplier); or purchase
the asset for a nominal amount, usually $1.00.
Under either capital lease structure, title to the asset is
typically transferred to the municipal organization upon funding
of the lease, and outright ownership of the asset is conveyed
to the organization either automatically upon the final payment
under the lease contract or upon the payment of a small sum.
The repayment schedule, ranging from 24 months to seven years,
is arranged to mirror the useful life of the asset and the
cash flow build up of the project.
Because of the nature of this financing arrangement, the Internal
Revenue Service allows the interest component of the periodic
lease payments to be shielded from taxation by the federal
government. In turn, this tax benefit is passed on to the municipal
organization in the form of payments computed at low tax-exempt
rates.
Indirect Procurement Methodology
Under an Indirect Procurement methodology, the municipal organization
specifies the energy performance criteria and operating parameters
to be performed by assets procured under a single contract;
usually with a single contractor. The contractor is responsible
for selecting the equipment to be installed; achieving the
energy-performance goals stated within the contract; and providing
a number of ancillary services.
The contractor’s compensation arrangement bundles together
charges for the municipal organization’s use of the asset
on a monthly basis, plus periodic charges for all related services
(service agreements, support, supplies, etc.), personal property
taxes, and other periodic assessments which arise as a result
of the equipment’s use, such as in the case of contracts
for computing or copier services. This method of procuring
goods and services requires the cost components resulting from
the use of the equipment and the charges for the ancillary
services to be itemized within a consolidated billing statement.
The process of paying for services received on a monthly basis
aides in the determination of a project’s cost-effectiveness
because it aligns actual usage patterns with the actual costs
incurred as a result of utilizing an asset.
The cost of the underlying financing is embedded within a payment
factor that is fixed for the duration of the contract, and
used to compute the minimum monthly payment required for the
organization’s use of the asset. The total required monthly
payment, however, will fluctuate to the extent that operating
expenses relative to the services provided exceed pre-determined
levels.
Services Agreement Lease
Although obscured by the broader service features of the overall
contract, the payment arrangement is an operating lease structured
with operating rental payments that are based on less than
90% of the asset’s value, and that are scheduled over
an initial term that is less than 75% of the asset’s
economic life; typically 18 to 36 months.
While the contract may provide for the purchase of the asset
at various points in the contract for its then fair market
value, and contain options to extend the contract for additional
periods at a fair rental value, the municipal organization
never obtains title to the asset while the contract is in effect.
Due to the nature of this contractual arrangement, where periodic
payments represent rental income to the contractor/lessor for
a period of use that is shorter than the asset’s useful
life, the interest rate used to compute the rental payments
is based on the contractor’s cost of funds or some other
non-tax-exempt rate. Nevertheless, because the operating rentals
are based on less than the asset’s total value at the
inception of the contract, the lease component of the periodic
payments is usually lower under this form of financing arrangement
than any other. |
