Affordability

In order to successfully transform markets, governments need to review barriers that inhibit widespread adoption and design solutions that overcome to overcome these barriers. One often-cited barrier is the affordability of LED lamps.  Even though LED lamp prices have decreased substantially over the last five years to the point where many countries are experiencing equal pricing for LED lamps and CFLs, there will still be cases where better quality LED lamps have a higher price compared to the mercury-containing fluorescent. In those situations, the LED lamp will always pay back that incrementally higher price through electricity savings. These “payback periods” depend on the local electricity cost and the price of the light bulbs, but most often range from just a few weeks to six or seven months.    

This chapter aims to address any upfront barrier to greater adoption of LED lighting by looking at sources of finance, programmes, policies, and measures that governments can put in place that will help facilitate more widespread adoption of clean, mercury-free LED lighting. Achieving successful market transformation can’t be done alone – it requires changing supply chains and investing in new manufacturing facilities – thus it is also important to increase local investor confidence and mobilize private sector investments and participation. 

This chapter looks at a range of topics that relate to the affordability of LED lighting.  The topics include: 

• Sources of Finance for Investing in LED lighting – identifies possible sources of finance that governments can access which will support energy-efficiency programmes and initiatives;  
• Economic and Market Based Instruments – explores some market strategies and instruments that can be used to lower the first cost for the household or business, including bulk procurement, on-bill financing, and performance contracting; 
• Subsidies, Rebates, and Giveaways – strategic investments which buy down the first cost of lamps, often used for rapid deployment of energy-efficiency programmes, including subsidies and rebates; and 
• Fiscal Instruments and Incentives – tax-based market signals governments can send to move their lighting market from mercury-based fluorescent lamps to LED, including tax incentives (lower taxes) for efficient products and tax increases on inefficient or mercury-containing products. 

Sources of Finance for Investing in LED Lighting 

As the leaders of their countries and the custodians of their markets, governments have a range of policy options at their disposal to facilitate and encourage the transition to more energy-efficient, mercury-free LED lighting. Some of these options – particularly those addressing affordability barriers – will require financing which can be sourced from domestic, private or international sources. This section identifies some of the sources and provides a brief description of those sources, which will vary from country to country. 

National (Domestic) Public Funding – one option for financing energy-efficient lighting programmes is to allocate funds from the domestic budget.  This approach is often the fastest, as the government has control over these resources and will be able to define and have full control over the parameters of the project. Indeed it is true that many energy-efficient lighting programmes have been financed either fully or partially through public funds, whether they come from a government-owned utility’s demand-side management budget or from the budget of the national energy ministry. This source of finance offers governments complete control because it is self-funded. 

Private sector finance – another option for funding is to turn to the private sector and work to incentivize and generate commercial interest in developing and investing in energy efficiency. Examples of this finance include bank loans, leasing, third-party financing, performance contracting through energy service companies, green and ethical investment funds. These sources of finance can be accessed and directed towards inefficiencies and opportunities in national lighting markets. The economics and financing of efficient lighting are attractive and offer lighting equipment vendors, suppliers, and ESCOs an incentive to invest in energy efficiency which is recovered through energy savings. 

Non-Domestic sources of finance – another option for countries that may be experiencing difficulties accessing finance domestically, whether public or private, are multilateral development banks. These institutions have programmes designed to promote green technology and reduce CO2 emissions. Non-domestic sources of finance can provide concessional funding to governments (including soft loans, and guarantees) to help trigger market transformation through large-scale deployment programs, along with initiating phase-out programmes, raising investor confidence, and attracting private investors. 

Mercury or CO2 emissions reduction financing – another financing option is to identify sources of funding that are available for specific purposes, such as reducing or eliminating mercury or reducing greenhouse gas emissions. Since transitioning markets to clean, mercury-free LED lighting accomplishes both objectives simultaneously, projects that promote LED lighting as a replacement for fluorescent will be eligible for this source of finance. These funds can be provided as grants and low-cost loans, and can often be blended with other sources of finance to help scale up the size and scope of energy-efficient lighting programmes. 

Economic and Market-based Instruments 

There are several financial instruments that can be employed to lower costs, accelerate markets and deliver energy-efficient lighting deployment initiatives. These instruments, when deployed correctly, are effective at overcoming perceived risks and unlocking market forces that accelerate LED lighting markets. The following are some examples of these economic and market-based instruments that have been used for energy-efficient lighting programmes:

• Bulk Procurement and Green Procurement 
• Installment Payments (On-Bill Financing) 
• Energy Service Performance Contracting (ESCOs) 
• New Business Models (Lighting as a Service) 

Bulk Procurement and Green Procurement

Bulk procurement is best described as the consolidation of many customers’ orders together, enabling economies of scale to lower the unit price due to the large volume of the total order.  Bulk procurement is typically organized by government agencies, utilities, or cooperatives, and these organizations then distribute and pass those savings along to the individual consumers. By combining the collective purchasing power of many customers together, lower prices are secured through economies of scale. If that procurement is combined with a ‘green specification’ that sets out quality and performance requirements, then it would constitute a ‘green procurement’. 

Bulk procurement is usually implemented through a competitive bidding process where the procuring body defines the technical specifications of the bulbs to meet their energy-efficiency needs. Bulk procurement events are coordinated by nominated government agencies or utilities with the capacity and expertise to convene interested participants. In addition, they often manage the design, implementation, and even evaluation of bidding events. These agencies or utilities are responsible for identifying eligible consumers and distributing bulbs among the participating consumers. The distribution of the bulbs may be handled directly by the utilities or by contractors appointed by the utilities and under strict monitoring. Depending on the scheme of the bulk procurement program, eligible consumers may be charged for the bulbs, need to exchange inefficient bulbs or receive them free of cost. 

Bulk procurement programs that lead to wide distribution and market adoption of energy-efficient bulbs can provide abrupt huge net benefits to utilities, consumers, and global lighting markets. One of the key advantages of procuring LEDs in bulk is that by purchasing large amounts of bulbs using a competitive bidding process, the cost of LEDs is reduced substantially below-market prices and the quality of LEDs is maintained vis-à-vis the technical specifications, thereby ensuring that energy savings are achieved. This results in lower costs and increased market availability for high-quality LEDs. As a result, members of society who otherwise would not be able to purchase high-quality energy-efficient LEDs are able to purchase these bulbs and reduce their monthly energy consumption. 

The absolute target of bulk procurement is to pave the way for a long-term, self-sustaining, energy-efficient lighting market. While procurement should not be seen as a substitute for setting minimum energy performance standards (MEPS), it can be very effective at jump-starting markets particularly if the future MEPS levels are used for bulk procurements prior to the effective date of the mandatory regulation. 

Installment Payments (On-Bill Financing) 

On-bill financing (OBF) or installment payments are an effective way for utility customers to access energy-efficient lighting without having to carry any upfront cost. These schemes are effectively a microloan facility taken out on an electricity account and paid back over time through periodic installments.  At the conclusion of the payback period, the ratepayer owns the energy-efficient product (e.g., an LED lamp or fixture) and they will then see their utility bill decrease for the duration of its service life. 

OBF programmes allow end-use customers to make repayments for the financed assets on their monthly utility bills or as a small fee added to their prepaid tariff until the investment cost is recovered. The OBF schemes are generally offered to utility ratepayers, which include industrial, commercial, or residential owners and tenants. Well-designed OBF programmes achieve “bill neutrality” meaning the monthly savings from energy-efficiency improvements are greater than or equal to the ratepayer’s loan repayment.  This approach is especially attractive for customers because they are able to make energy-efficient upgrades with no upfront cost, and then in some cases save money on their utility bills. Plus, default rates for most OBF programmes are generally lower than other loans, possibly because repayment is bundled with a ratepayer’s monthly utility bill.

Under OBF programs, utilities provide financing and often utilize ratepayer, utility shareholder, or public funds. For utilities that do not wish to finance a program using their own balance sheet, on-bill repayment (OBR) programs leverage private, third-party capital for financing. Both OBF and OBR programs allow customers to make repayments for financed assets on their monthly utility bills or as an addition to their prepaid tariff. However, an OBR program allows third-party institutions to take care of administrative functions, while utilities only need to process payments. OBR can be sole-sourced or open-sourced — some programs use a single source of capital while others have an open-source model where banks and investors compete for customers. 

Energy Service Companies and Energy Services Performance Contracting 

An energy service company (ESCO) is a commercial business that provides a broad range of turn-key energy-efficiency solutions. These include energy audits, system designs, and the implementation of energy-efficiency projects. ESCOs often act as project developers for a comprehensive range of energy efficiency measures and assume the technical and commercial risk.  

ESCOs and other energy-efficiency companies differ in that ESCOs use energy savings performance-based contracting and they guarantee the savings for their clients. The ESCO takes the technical risk, and their compensation is often linked to the measured and verified actual energy savings obtained by their client.  

Under Energy Services Performance Contracting (ESPC), facility owners partner with energy service companies (ESCOs).  ESPC often begins with a facility releasing a tender for qualified ESCOs to facilitate an energy efficiency improvement project, as shown in Figure 13. After being selected, the ESCO will conduct a comprehensive energy audit for the facility to identify energy efficiency improvements and the facility’s baseline energy cost. The ESCO, after developing a performance-based solution approved by the client, will then be contracted to implement the project. After the contract ends, all additional cost savings accrue to the organization. 

Figure 1: The Energy Services Performance Contracting (ESPC) Process 

There are many variations of ESPC, but the most common agreements fall into two categories: shared savings and guaranteed savings. Under both models, an ESCO will implement the lighting upgrades and bear responsibilities related to performance and operation, and maintenance. However, the financing of the project and payments under the contract vary between the agreements. The two models are further explored in Figure 2.  

• Shared Savings: The ESCO arranges for financing and the host facility makes no investment in the project. Cost savings are shared between the ESCO and the facility over a set period of time, as dictated by the agreement. After the contract period, the facility retains all cost savings.  
• Guaranteed Savings: The facility takes the required loan on its own balance sheet and the ESCO guarantees a certain performance level (cost reductions, energy savings, increased efficiency, etc.). If savings meet or exceed the agreed-upon metrics, the ESCO receives a fixed payment (and may receive an additional incentive for surpassing the metrics). However, if savings do not meet these levels, the ESCO is generally obligated to take on the facility’s loan repayments until the project reaches the pre-agreed metrics. After the contract period, the facility retains all cost savings.  

ESPC has been implemented around the world and has seen great success in promoting energy-efficient lighting investments. Among others, ESPC’s benefits include access to private-sector expertise, built-in incentives for maximizing performance and minimizing maintenance, design flexibility, and guaranteed performance. By removing the burden of upfront cost and often facilitating project financing, ESPC is an attractive option for facilities that lack the requisite capital for energy efficiency improvements.  

New Business Models (Lighting as a Service)

The advent of new technologies and capabilities has also resulted in a change in business models.  Some businesses are abandoning the traditional linear approach of selling luminaires and replacement bulbs, embracing instead the concept of providing light.  Given the very long-life LED products and the availability of smart, connected luminaires, there now exist opportunities for companies to offer “lighting service contracts” instead of trying to sell luminaires and bulbs.  Philips Lighting introduced this concept several years ago, through their “Pay per Lux” business model.  Under this model, Philips Lighting installs, owns, and maintains the lighting system in a client’s building, and they provide illumination as a service to that customer, instead of selling them equipment that the customer has to maintain.  

The reason this business model is successful is due to the ‘smartness’ of the luminaires in use.  The smartness enables them to communicate about their operation (e.g., real-time energy consumption), but it also means they’re more easily identified and controlled on the network, such as for dimming when full brightness is no longer required.  

Subsidies, Rebates, and Giveaways 

Subsidies, rebates, and giveaways are commonly used to address the initial first cost of efficient higher-cost products by providing direct or indirect financial incentives that provide immediate price reductions.  These incentives are typically injected into existing marketing channels to increase the supply of high-efficiency products with the aim of increasing sales volumes and, driving down product price in the long term. The costs of subsidy programs are typically paid for by: 

• Government and/or international organizations – when social or environmental benefits are identified and considered achievable; 
• Third-party investments by manufacturers or service providers – where there is the prospect of increased revenue from expanded sales of products or services; and 
• Utilities – when actions to reduce peak demand, eliminate power theft, or increase revenue from additional services or electricity sold. 

Subsidies 

A subsidy is a financial contribution to businesses or consumers that produce or consume a good or service with a perceived economic or social benefit.5 Subsidies are used to grow markets for a target product or service by reducing risk for market actors, reducing costs and prices, and/or increasing production and consumption. While some subsidy programs can last decades, they’re usually designed to be temporary until markets mature or shift toward economic self-sufficiency. 

Subsidies are commonly used to transform markets that offer positive externality potential (i.e. benefits that are not received by the producer). Examples include food, oil, and energy-efficient products, such as LED lighting. 

The term subsidy is a general term that represents a category of five different types of market transformation incentives, each of which includes a variety of specific mechanisms. However, most energy efficiency programs use mechanisms that fall under “cash subsidies” or “tax concessions”: 

1. Cash subsidies, such as grants and rebates. 
2. Tax concessions, such as credits, exemptions, and deferrals.
3. Assumption of risk, such as loan guarantees. 
4. Government procurement policies that purchase above free-market price. 
5. Stock purchases that inflate a company’s stock beyond free-market price. 

To protect consumers from low-quality products and avoid market spoilage thereof, subsidies must be linked to product quality and only offered for products that meet minimum performance requirements for lighting. 

Rebates

A rebate is a purchase price discount paid to a buyer in the form of a reduction, credit, or refund. Rebates are a type of cash subsidy offered usually by the seller or producer (and often funded by governments) that incentivize buyers to purchase specific goods, such as LED bulbs. They effectively reduce the cost of specific goods to the consumer. Rebates are often used to promote new technologies that consumers are less familiar with or have higher price points. Energy utilities regularly administer rebate programs to encourage the adoption of efficient appliances, which ultimately lowers energy demand. Consumers can usually purchase qualified products at their local retailers. 

Rebates allow sellers to market their prices as discounted rates, such as “$15 with $5 instant rebate,” (otherwise $20), which encourages consumers to buy those products. 

Instant and mail-in rebates are common for typical consumer goods, but utilities often leverage all the following types:

• Instant rebates are discounts received by consumers and applied by retailers at the time of purchase. These can come in the form of immediate discounts so buyers only pay the discounted price or credit toward future purchases. 
• Mail-in rebates are discounts received by consumers and applied at some point in time after the purchase. They require that the consumer takes action, usually by sending in a form to the seller with their information. A check or other payment is then sent from the seller to the consumer. 
• Door-to-door rebates involve salespeople from utilities visiting homes and selling goods directly to consumers. These programs usually are structured so that the discount is applied to the utility customer’s bill. 
• Mid-stream rebates are discounts applied by utilities or other funding entities directly to a manufacturer, distributor, or retailer – rather than an end consumer. 

Giveaways 

A giveaway is something that a company or business gives to customers, usually to encourage them to buy a particular product. For instance, when companies introduce a new product to the market, they often give away free samples to promote the new products and reach new customers. 

Giveaway programmes promote the rapid installation of efficient lamps by distributing them free of charge to residential and small business customers. Such programmes can be implemented through:  

• Targeted giveaway programmes: These seek to reach a specific group of residents often by leveraging an existing event. These may include targeted locales for example, at community fairs where the focus may be on rural communities. 
• Door-to-door giveaway programmes: These aim to deliver a high volume of LED lamps to a targeted group of residents (usually with low income) who are in close geographic proximity. 

Giveaway programmes can be highly cost-effective for large government campaigns when supported by retailers, manufacturers, and utilities. Energy-efficient lamp giveaways have in the past been driven by utilities to help lower electricity consumption on the national grid and reduce related carbon emissions. Utilities will typically procure the lamps in bulk and then distribute them to end-users.  

Giveaways work on the premise that while people may be reluctant to try something new if they must pay for it, many people are likely to try something once it’s offered for free. Further, if the product is good, it’s likely that they’ll want to use it again and purchase it when it’s no longer free. 

As they are voluntary programmes, giveaways tend to build end-user awareness of new, energy-efficient technologies without the backlash that can sometimes accompany mandatory programmes. They also provide synergy with labeling programmes when they introduce and promote labeled products.  

Fiscal Instruments and Incentives

Fiscal instruments and incentives are policy instruments that influence energy prices or energy-efficient products with the objective of reducing energy consumption. This section will focus on tax incentives where the government forfeits revenue that is otherwise due by foregoing it or not collecting it or alternatively raising taxes on a product that they would prefer to discourage the use of. Taxation incentives can be categorized into tax reductions on technologies governments wish to promote and tax increases on products they wish to discourage (e.g., fluorescent lamps).  

• Tax Reductions on Efficient Lighting

Tax reduction incentives are offered by governments and play an important role in making end-users more open to acquiring efficient lighting products. This could be by offering full or partial tax holidays or tax rate reductions for specific products.  

Under a tax reduction incentive, taxes paid on the purchase of energy efficiency equipment, such as value-added tax (VAT) or import duties, are reduced, or eliminated. In developing countries, reduction of import duties can be significant, as domestic sources of energy efficiency technology may be limited, and standard duties on imported equipment may be a significant barrier to their use. 

VAT reductions for efficient equipment are the most common approach for a tax reduction strategy outside developed countries. Reducing VAT rates for energy-efficient products serve to decrease their prices relative to inefficient products thus, influencing consumers to naturally shift the market in favor of the energy-efficient products. 

Lastly, VAT concessions could be applied to labor rates to reduce the investment cost in renovating buildings. These concessions are becoming increasingly common for companies that commit to energy efficiency gains and CO2 reduction targets. 

To promote investment in energy-efficient lighting, tax incentives are usually more effective than taxes on fuel or power use, because the benefits are directly linked to the investment. Tax incentive programmes can be combined with other instruments and policies and should be designed with flexibility as to the credit recipient. However, compared to other policies to phase out inefficient lighting, the cost per unit for administration can be high.

To ensure success, tax incentives should be tied directly to products or results that meet performance criteria. In the case of incentives aimed at benefiting end-users, it is essential that the guidelines for qualification are as simple as possible and clearly communicated. In addition, qualifying products need to be identified at the point of purchase. Finally, programme criteria should support Minimum Energy Performance Standards (MEPS) and focus only on high-quality products to minimize creating negative consumer experiences in the market.

• Tax Increases on Inefficient Lighting  

Energy-efficient lamps are slightly more expensive than the inefficient incandescent lamps they would replace. Customers are sensitive to the initial costs of products they need to purchase, so the imposition of a significant ‘equalizing’ tax on inefficient incandescent lamps helps to make energy-efficient lamps like LEDs more competitive from a buyer’s perspective. Since governments are the primary decision-makers on taxation policy, the increment can be applied both to import duties and VAT.