Citation: Prabatha, T.; Hewage, K.;Sadiq, R. An Energy PerformanceContract Optimization Approach toMeet the Competing StakeholderExpectations under Uncertainty: ACanadian Case Study. Sustainability2022, 14, 4334. https://doi.org/10.3390/su14074334Academic Editor: GerardoMaria MauroReceived: 17 February 2022Accepted: 2 April 2022Published: 6 April 2022Publisher’s Note: MDPI stays neutralwith regard to jurisdictional claims inpublished maps and institutional affil-iations.Copyright: © 2022 by the authors.Licensee MDPI, Basel, Switzerland.This article is an open access articledistributed under the terms andconditions of the Creative CommonsAttribution (CC BY) license (https://creativecommons.org/licenses/by/4.0/).sustainabilityArticleAn Energy Performance Contract Optimization Approach toMeet the Competing Stakeholder Expectations underUncertainty: A Canadian Case StudyTharindu Prabatha , Kasun Hewage * and Rehan SadiqSchool of Engineering, University of British Columbia (Okanagan Campus), 1137 Alumni Avenue,Kelowna, BC V1V 1V7, Canada; tharindu.prabatha@alumni.ubc.ca (T.P.); rehan.sadiq@ubc.ca (R.S.)* Correspondence: kasun.hewage@ubc.ca; Tel.: +1-250-807-8176; Fax: +1-250-807-9850Abstract: Energy performance contracts (EPC) can address economic sustainability challenges associ-ated with residential energy retrofitting projects, including funding limitations, poor quality of projectdelivery, and landlord-tenant dilemma. Literature has overlooked the impact of weighted averagecost of capital (WACC) and funding sources in EPC planning. However, the WACC, stakeholder prior-ities, and uncertainties can alter the project outcomes. This study proposes a Monte-Carlo simulationbased non-linear multi-objective optimization approach to address the aforementioned challenges. Acase study conducted in British Columbia indicated that the maximum overall project profitabilitycan vary between $18,035 and $20,626 with decision priorities. The overall project profitability canvary over 9% due to uncertainties. The project profits can change over $3000 due to changes in theWACC. These observations confirmed the criticality of accounting for WACC, stakeholder priorities,and uncertainties in EPC planning. The risk of compensating for the performance compromises andprofits increases simultaneously for the energy services company with the increasing contract periods,while it is inverse for the owners. Therefore, the contract period must be decided considering theprofit expectations and risk tolerance of the stakeholders. Extended contract periods allow lowercapital contributions from the building owners, potentially solving the principal-agent disputes inrental buildings.Keywords: energy performance contract; energy retrofit; multi criteria decision making; Monte Carlosimulation; energy simulation1. IntroductionThere are ongoing global warming and climate change mitigation efforts all aroundthe world with increasing awareness and appreciation of potential environmental risks.Inter-governmental panel on climate change (IPCC) emphasized the need for maintainingthe global temperature increment below 1.5 ◦C compared to pre-industrial times to avoidfuture adversities [1]. Buildings are responsible for 12% and 40% of the global greenhousegas (GHG) emissions and energy use, respectively [2,3]. Therefore, IPCC identified thebuilding sector as a key area that needs attention in achieving the emissions reductiontargets established to control the global temperature [1].Aligning with the global efforts, North American and Canadian climate leaders suchas the Government of British Columbia (BC) have proposed innovative energy efficiencystandards such as BC Energy Step Code (BC-ESC) for new constructions [4]. BC-ESChas a structured process, clearly defining the performance steps that buildings need toachieve in the construction phase. This approach seems to have promising energy efficiencyenhancement potential. However, there are no such comprehensive energy efficiencystandards developed for existing residential buildings, especially in BC and Canada [5].The global rates of new constructions are recorded to be less than 1% and 10% on averagein cities and booming areas, respectively [6]. There are 14.1 million existing residentialSustainability 2022, 14, 4334. https://doi.org/10.3390/su14074334 https://www.mdpi.com/journal/sustainabilitySustainability 2022, 14, 4334 2 of 21buildings in Canada, accounting for 17% of the total GHG emissions of the country, andthere lies a significant energy and emissions saving potential [6,7]. These buildings havenot been constructed according to stringent energy efficiency guidelines in the constructionphase except for the most recent ones. Moreover, the condition of existing buildings inCanada is reported to be deteriorating [8]. Therefore, it is essential to devise strategiesto enhance the energy and environmental performance of existing buildings in order tomeet Canadian climate action goals. Some incentive and rebate schemes have already beenimplemented in Canada by government organizations and non-government organizationssuch as utility providers to promote energy retrofit projects [5]. However, the principal-agent problems in rental buildings, inability to gather the required capital investments,awareness issues, and lack of investor confidence are still not adequately resolved [5,9,10].Innovative financing mechanisms, financial and operational risk mitigation approaches,marketing campaigns, and awareness programs can support addressing the discussedissues in promoting energy efficiency for older buildings.Energy service companies (ESCO) provide financial risk mitigation models such asenergy efficiency insurances and energy performance contracts (EPC), which can be usedto address the operational and financial risks faced by the owners employing meanssuch as guaranteed savings [10]. Generally, ESCOs focus on bigger buildings such asmulti-unit residential buildings (MURB), commercial buildings, and building clustersowned by institutions [11]. These projects involve high investments and returns, whichmotivate both building owners and the ESCOs to be involved. New ESCOs and smallerplayers have challenges in financing large-scale projects [11]. Some literature suggeststhat EPCs are less successful in small-scale residential projects unless tied with otherservice agreements such as repair and maintenance [12]. Developing a workable EPCmodel for the residential sector can provide an opportunity for small-scale entrepreneursto enter the energy services market [11] and mitigate the challenges faced by buildingowners in acquiring capital investments for energy efficiency projects while managingfinancial and operational risks [13]. On the other hand, successful EPCs can produceenergy and emissions savings. For example, some EPC ventures have reportedly improvedthe energy efficiency of the buildings that underwent renovations by 22–45% [14]. Onthe other hand, the involvement of an ESCO in a renovation project can boost investors’confidence and resolve principal agent problems leading to wider community penetrationof building energy retrofits. Moreover, it is likely that the quality of the retrofitting processis maintained at the best possible level by the ESCO as it profits from the energy savingsproduced during the contract period. Therefore, this is a topic worthy of investigation fromboth financial and environmental viewpoints.According to a recent Danish study, supporting tools and finances related to EPCs arestuck in a deadlock as one cannot proceed without the other aspect being improved [15].Supporting information needs to be provided to the investors through research studies,because money is less likely to flow into an area where investor confidence is low. Therefore,financial models and support tools need to be developed as the first step towards successfulcommunity penetration of EPCs and energy retrofits focused on residential buildings. Withthis understanding, the authors conducted a comprehensive literature review to identifythe potential challenges, opportunities, and support tools for introducing EPCs for theresidential market.A keyword search including “residential building” and “energy performance contract”terms recorded 42 research items in the “Compendex Engineering Village” database. Outof the 42 articles, 37 research articles published after 2000 were considered for the studyto maintain the timeliness of the discussion. This included ten journal articles, fourteenconference articles and ten conference proceedings, two standards, and a book chapter.A manual screening was done to assess the relevance of the search results to energyperformance contracting in residential buildings. The filtered articles were reviewed indetail to understand the current research landscape around the topic. The findings fromSustainability 2022, 14, 4334 3 of 21the literature review, which lead to the research gaps in the current body of knowledge arepresented in the coming sections.1.1. Challenges for Energy Performance ContractingThis section discusses the key challenges and potential solutions for EPCs in referenceto literature.1.1.1. Financing and Awareness IssuesEnergy retrofit projects include multiple players, including the building owners andtenants, contractors and ESCOs, and third-party incentive providers such as governmentbodies and utility providers. Depending on the employed project delivery model, some orall of these players may have a role in financing a given energy retrofit project. This sectiondiscusses the financial challenges specific to different players and the energy retrofittingprojects in general.High transaction costs are a barrier faced when forming EPCs for residential build-ings [16,17]. These transaction costs can include marketing, documentation, legal fees,and other similar costs. Lack of building owner awareness is a barrier in reducing thetransaction costs [18]. Innovative communication and marketing methods have the poten-tial to minimize the high transaction costs [18,19]. Cooperative advertisement strategiesamong the stakeholder groups, including the government organizations, utility providers,and ESCOs, is a potential approach proposed to reduce transaction costs [20]. The retrofitpromotions and incentive programs operated by the government and non-governmentorganizations can communicate the potential benefits of EPCs to the community. As of now,CleanBC (a government organization in Canada) communicates the incentives availablefor residential building energy retrofit projects from CleanBC, other government bodies(municipalities), and non-government bodies (utility providers). If the information relatedto EPCs can also be communicated to the community by these already established andtrusted communication channels the ESCOs can penetrate the market and reduce the trans-action costs simultaneously. On the other hand, operations and promotion of ESCOs caneasily act as community awareness boosters about the benefits of the retrofits and availableincentive programs executed by other organizations [14].Budget constraints are another key challenge faced by the building owners. This hasbeen addressed in Europe by means such as government subsidies and low-interest loans.Russia has introduced a preferential loan scheme to overcome the investment challengesfor the residential building retrofitting projects [14]. Relatively higher leverage and trustESCOs can gain from the financial institutes such as banks in securing low-interest loanscan help the building owners to overcome initial budget barriers [16]. However, having toprovide a significant portion of the capital and lack of assets to tie the contracts for longtime periods pose challenges for residential EPCs [21]. Moreover, loans bind the ESCOsto long-term financial commitments with third-party financial institutes, thus limit thefinancial freedom and the ability to commit to new projects. The potential of selling theenergy performance contracts as assets at a profit to improve the company equity wasproposed as a solution for this issue [22]. Moreover, entering into legal bonds to pay off theremaining capital investment using the increased property resale value has been proposedto address the potential challenges created by changing the ownership.The retrofit implementation costs can be brought ncreaseng the number of retrofitprojects allowing the suppliers to enter into mass-production opportunities [22]. Diver-sifying the ESCO business model can also increase the profitability of the projects. Forexample, if a renovation company simultaneously plays the role of an ESCO, it allowsthe company to benefit from the profits obtained from the renovation project and the costsavings realized during the operational phase. Moreover, it allows the company to attractmore renovation projects as it supports the project financing and operations and mainte-nance work [23]. Positively using the leverage an ESCO has over its’ staff, a UK-basedcompany promised a shared bonus scheme for the trades workers, which helped improveSustainability 2022, 14, 4334 4 of 21the quality and efficiency of the work while simultaneously reducing the project costs [18].Therefore, it is evident that high-quality project delivery and proper coordination betweenthe contractors can be easily ensured by ESCOs using innovative management strategies.Therefore, additional non-energy benefits such as improved property values, rental priceincreases, and thermal comfort improvements can be successfully achieved by introducingEPCs to the renovation projects.1.1.2. Principal-Agent IssuesEven after a viable financing plan has been developed, uneven costs and benefitsdistribution among the stakeholders can challenge the progress of retrofit projects. This isidentified as the principal-agent problem or split-incentive issue. This phenomenon can bemore prevalent in rental properties and referred to as the landlord-tenant dilemma [15].When the tenants are responsible for the utility bills, building owners are not motivated toimprove the energy efficiency of rental buildings as direct financial benefits for the ownersare not clear. Landlords receive indirect benefits from the retrofitting projects in the form ofincreased property resale value and increased rental income when re-renting. However,these indirect benefits seem to be insufficient to motivate the landlords to investment inretrofits. On the other hand, tenants are reluctant to invest in rental property renovations.Therefore, promoting energy retrofits in rental properties sector is a challenge.The green lease approach is identified as a potential agreement between the buildingowners and tenants to split the incentives of the retrofitting projects. In this approach,the building owner invests the initial capital, which is recouped by a pre-agreed rentalincrease. The tenants are going to be compensated for the increased rental by the subsequentoperational cost savings due to the increased energy efficiency [15]. Even though this modelseems to be a fair to solution to the landlord-tenant dilemma, current tenancy laws in BC,Canada, can question the rental increases. Even if the tenancy laws are modified, thelandlords and tenants doesn’t have the expertise to formulate a green lease. For example,determining the investments attributable for energy efficiency upgrades in a renovationproject, quantifying the performance risks, and determining an appropriate rental increaseneed expert inputs from field experts such as ESCOs.ESCOs can formulate fair EPCs and support the building owner in securing third-party loans, reducing the associated split-incentive issues. This minimizes the capital costrequirement from the owner and increases the ESCO’s potential to secure a higher profitshare while offering the tenants some cost savings. This approach unites the ESCO andthe tenants/occupants for the common goal of energy and cost savings, which can helpinstill energy-conscious behavior among the building occupants. In summary, an ESCOcan work as an intermediate partner to communicate between stakeholders and providea savings guarantee for the tenants while finding third-party funding sources to supportthe building owners. However, identifying the optimal capital contributions and the profitsplit between the stakeholders and the contract periods is crucial in solving the said issuesvia EPCs.1.1.3. Design-Performance GapIn some energy efficiency projects, anticipated energy efficiency improvements inthe design stage are not realized in actual operations due to data unavailability, andinaccuracies and uncertainties in performance predictions. This is commonly referred to asthe design-performance gap [18]. Lack of awareness of the occupants about how to achievethe best possible energy savings in the operational stage by following energy-consciousbehavior and using newly implemented technical solutions in buildings can also contributeto the design-performance gap [23,24].Performance Prediction ErrorsEnergy monitoring and deemed savings approaches are commonly used in retrofitproject evaluations [20]. Deemed savings are subjectively decided by the energy expertsSustainability 2022, 14, 4334 5 of 21based on previous experience or energy simulation-based predictions. Monitoring-basedapproaches determine the savings based on monitored data. Both approaches have theirown advantages and disadvantages.The deemed savings approach can be effective when experts are involved and theproject focusses on well-known retrofits. However, expert judgments may fail to accuratelyquantify the operational uncertainties specific to a given project and predict the performanceof the novel upgrades. Even simulation-based approaches may pose inaccuracies dueto unrealistic underlying assumptions and inaccuracies in input data [24]. However,the deemed savings approach requires no additional instrumentation, thus saves theinstrumentation cost allowing to maximize the profit margin of an EPC.Energy monitoring can improve the accuracy of performance predictions and helpresolve design-performance gap related EPC disputes [17,25,26]. The accuracy of thepredictions can be further improved by integrating the energy monitoring, performancesimulation, and data analytics [25]. Redundant use of sensors can be minimized by employ-ing innovative approaches such as calibrated energy simulations [27], advanced uncertaintyhandling techniques, and occupant-based energy use prediction models [23] parallel withenergy monitoring. This allows improving the accuracy of predictions while simultane-ously minimizing the instrumentation cost. On the other hand, real-time monitoring opensup the potential for smart operations [14]. Instrumentation costs make more financialsense, if the instrumentation cost can be justified with such benefits in addition to theperformance prediction.Incomplete Data and UncertaintiesLack of post-retrofit performance data and cost data related to existing and novelretrofit options is a challenge for developing comprehensive retrofit plans and predictingEPC performance [21]. The said impacts reduce the investor confidence, communitypenetration potential of energy retrofits, and limit the creativity and innovation in energyretrofit projects [20]. Locally applicable databases containing energy savings and cost data,including capital and operational costs, can greatly support successfully planning retrofitsprojects. Building Performance Database in the United States is a great example of suchdatabase [28].Lack of occupant awareness and operational condition variations can result in poorenergy performance of buildings [23]. The “soft landing approach” was originally pro-posed for energy efficiency projects in larger buildings to enhance the occupant aware-ness about new technologies implemented in the buildings [18]. The same approach canbenefit in enhancing the awareness of residential building occupants regarding energyconservation practices, thus reduce the contribution of human behavior towards design-performance gap. However, [29]. The operational uncertainties resulting from incompletedata and environmental conditions such as outside temperature and humidity cannot becontrolled. Therefore, mathematical techniques can be used for uncertainty handling in theplanning stages.Epistemic and aleatory uncertainties heighten the design-performance gap. Previousstudies on energy planning have used techniques such as Mote Carlo simulations, fuzzylogic, Robust Optimization, Taguchi Orthogonal Array, and Grey Numbers to handle theseuncertain conditions [29,30]. Monte Carlo simulations attempts to model the probabilitydistributions of the uncertain parameters and thereby predict the overall uncertaintiesassociated with the outcomes [29,31]. On the other hand, techniques such as fuzzy sets [32]and Taguchi Orthogonal Array [29] attempts to approximate the potential uncertaintiesby employing three values to represent the uncertainty range and the likely value of inputvariables. Grey numbers have a similar approach, but it doesn’t use the likely value andonly use upper and lower boundaries to represent the parameter uncertainty [30]. Out ofthese models, Monte Carlo simulations have the ability to closely model the probabilitydistributions of the output parameters as it uses actual probability distributions of theinput variables [33]. Despite the accurate modelling of uncertain outcomes, Monte CarloSustainability 2022, 14, 4334 6 of 21approach has practical difficulty in handling higher number of uncertain parameters due tohigh computational power requirements and longer modelling times [29]. As the number ofuncertain parameters were in a manageable range, Monte Carlo simulations were adoptedin the proposed EPC planning model.1.2. Business ModelsDonal Brown has reviewed the opportunities and challenges associated with differentbusiness models in promoting residential retrofits in the United Kingdom [16]. Donalidentifies five main business models commonly used in Europe, including the “Atomized”market model, market intermediation model, one-stop-shop, energy services agreement(ESA), managed energy services agreement (MESA). In the “Atomized” market model, thebuilding owner deals with different suppliers, energy auditors, and financial bodies to makethe retrofitting process a success. However, this approach does not facilitate a pathway foreducated planning for a comprehensive retrofit strategy to achieve the expected energyand emissions savings, as highlighted by Donal. Moreover, it is mentioned that recruitingindividual contractors who are not going to assume responsibility for the resultant energyand cost savings tends to deliver subpar outcomes and quality of workmanship [16].In the market intermediation model discussed by Donal Brown, singular retrofits arebeing prescribed following a basic energy audit. Trustworthy intermediary partners suchas local governments, government institutions, or major private sector players promote theretrofitting work and intervene in the project management work by means of supplyingexpertise and incentives [16]. This has a lot of similarities to the current state in BC, Canada.Local municipalities, governmental bodies such as CleanBC, and utility providers such asFortisBC and BC Hydro are working on increasing the community acceptance of retrofitsvia awareness programs and incentive schemes [5]. These initiatives have increased themotivation in the local communities to implement energy efficiency retrofits. However,this approach does not promote comprehensive retrofit planning, thus end up addingindividual retrofits to the buildings. Moreover, the continuity of the retrofitting initiativesstarted by these programs heavily dependent on the incentives and backing provided bythese agencies, which are heavily dependent on government policies [16] and the nationaleconomy. Promoting intermediary agencies such as ESCOs can support in overcomingthis challenge as they are motivated to promote energy efficiency and high-quality projectoutcomes as that is a major part of their business model and profit-making strategy.One-stop-shop (OSH), ESA, and MESA models discussed by Donal Brown can bemapped into different EPC approaches followed by the ESCOs in other countries. OSHapproach includes a project management company that completes the required retrofittingrequirement by dealing with one contractor or a reputable and closely connected group ofsub-contractors [6,16]. An approach with a significant amount of similarities with the OSHwas discussed in another study under the name “Energy Expense Entrusted” [13].OSH approach may create higher pricing pressure for small-scale subcontractors incontrast to working with the building owner directly. Moreover, small-scale subcontractorsmay not always be the first choices of the ESCOs. This may create potential threats to small-scale local businesses [6]. However, on a positive note, the marketing done by the ESCOs forenergy upgrades can create new retrofit project opportunities that can benefit many compa-nies at the same time. One main advantage of this approach is the improved communicationbetween the contractors [16]. This addresses the common issues in retrofit planning, suchas oversizing issues, inefficiencies in retrofit investments caused by neglected interactionsof energy system components, meeting the close tolerances determining the profitabilityand the quality of the outcome [10,13,17]. The ESCO and the Owner are closely tied intoa financial commitment in an EPC. Both parties benefit from the energy and cost savingsresulting from the renovation project in both financial models, including first-out and splitenergy savings [22]. The OSH is commonly discussed in other studies as well [13]. Dueto the profit-sharing mechanisms involved, EPCs ensure the best possible quality of theproject outcomes compared to a regular renovation project. In ESA, the ESCO guarantees aSustainability 2022, 14, 4334 7 of 21minimum performance level such as a minimum heating temperature, a monthly volumeof hot water supply, and total energy supply for a pre-defined period [6,17]. If unable tomeet the promised performance level during the guarantee period, ESCO is liable for pre-defined service penalties [16]. This method can enhance investor confidence in retrofittingprojects. MESA approach provides a complete energy management solution by assumingthe responsibility of paying the energy bills and maintenance work on top of the ESA. Thisapproach allows the ESCO to attempt aggressive strategies such as net-zero retrofittingwith inhouse renewable energy generation if long contractual periods such as 30 yearsare involved [14,16]. Models with similar characteristics to MESA were discussed underthe names “Chauffage” and “Chaffee”, in literature [14,32]. Capital investments for thelatter three business models could be fully covered by the building owner (owner equity orthird-party finance body) [14], ESCO (company equity), or a third-party finance body [6,16].On the other hand, it can come as a split investment between the Owner and the ESCOor another financial institute [22]. Kupchik et al. and Carlo et al. discussed the financialimplications of retrofit projects in reference to the outlay from the building owner and theequity from the ESCO. Moreover, impacts of the operational cost savings split between theOwner and the ESCO on the investment decision were previously investigated [14,21,32].Assigning a higher share from the cost savings split to the ESCO can significantly reduceESCO’s payback period and, therefore, the contract length of the EPC. However, if the fi-nancial benefit for the client is not significant, the project may not take place [21]. Therefore,determining the split of cost savings is a delicate matter. The current EPC planning modelsproposed in the literature is discussed in the following section.1.3. Project EvaluationEconomic feasibility is a key determinant of the successful implementation of energyretrofit projects, thus the EPCs. Few approaches have been proposed for planning EPCs.Toppel et al. proposed a method to assess the risk mitigation potential of energy efficiencyinsurances and EPCs. This model considered stochastic uncertainties in natural, financial,and technological parameters [13]. Kullapa et al. proposed a Monte Carlo simulation-basedapproach for developing EPCs for residential energy retrofits. This study highlights thelack of information about the distributions of the uncertain parameters as a challenge forMonte Carlo approach [21]. Carlo et al. proposed a comprehensive financial performanceassessment tool to evaluate the effectiveness of investments on an energy performanceintervention from the building owners’ and ESCO’s views. This study evaluates first-outand shared saving models for EPCs. Moreover, it investigates the impact of differentincentive schemes on EPC performance [22]. However, in this study, no emphasis wasgiven to potential uncertainties associated with energy prices, behavioral variations, etc.Moreover, it focuses on finding the range of outlay from the building owner that producesmutual benefits to both parties. However, it does not focus on finding an optimum outlayfrom the building owners’ perspective. Kristaps et al. compare the performance of threefinancial models for building renovations in reference to three actual multi-unit residentialbuildings in Latvia. The case study results show that EPCs stand out against the other twoapproaches, including loan financed retrofitting without involving an ESCO and doingno renovation [34]. This type of practical example is essential to develop the confidenceof the building owners and investors in EPCs. However, the said study does not proposean EPC planning approach. All the studies discussed above, overlooks the impact ofthe variations in the cost of capital and funding mechanisms involved on the financialperformance of EPCs.1.4. Research Gap and ContributionsFindings from the literature review indicated that a comprehensive investment evalu-ation model accounting for investment uncertainties and opportunity costs of investmentsfor the multiple stakeholders involved was not developed. Moreover, the possibility ofsecuring third-party loans and associated cost-of-capital variations were not modeled inSustainability 2022, 14, 4334 8 of 21the previous studies. Therefore, this study focused on developing a model to identifythe best EPC financial parameters for a given contract period. A non-linear optimizationalgorithm was developed to determine the optimal capital cost contributions and cost-saving splits among the stakeholders for different contract periods while accounting foruncertainties and varying decision priorities. Monte Carlo simulations were conductedto understand the impact of uncertainties on the optimal values and overall profits re-alized by the stakeholders involved. Energy simulations were employed to understandthe operational uncertainties. Compared to data-driven approaches, the proposed energysimulation-based approach has greater adaptability for buildings located at different loca-tions irrespective of the operational and the location-specific conditions. Key contributionsof the proposed EPC formulation approach are summarized below:â Proposing an energy performance contract planning approach for small residential buildings.â Considering the impact of financial parameters on the “cost of capital” of the perfor-mance contract.â Accounting for multi-stakeholder perspectives and uncertainties in the performancecontract formulation process.â Proposing an energy simulation-based approach for EPC planning under uncertain conditions.â Developing a non-linear optimization algorithm for identifying the suitable profitsplits and the optimal capital contributions for different contract periods.The proposed EPC planning approach was demonstrated using a medium two-storysingle family detached residential building located in Kelowna, British Columbia, Canadaas a case study. The specific details of the case study are presented in the Section 2.4.2. Materials and MethodsThe proposed optimization process for EPC-based retrofitting project planning involvesfive main steps, including retrofit options identification, energy performance simulation, keyperformance indicator identification, and EPC modeling. Retrofit options scenario prioritiza-tion has been comprehensively discussed in previous studies [10,32]. Therefore, this paperfocused on the other main steps of retrofit project delivery. Overall decision-making processof the proposed EPC planning approach is summarized in Figure 1.Sustainability 2022, 14, x FOR PEER REVIEW 9 of 22   Figure 1. Overview of the proposed EPC planning methodology. The detailed methodology followed in completing the said steps is presented below. 2.1. Energy Performance Simulation HOT2000 (Version 11.3) was employed to simulate the energy performance of the selected case study building as it is the recommended and most commonly used energy simulation software package in the small residential building sector in Canada [6,29]. The Housing Technology Assessment Platform (HTAP) developed by Natural Resources Can-ada (NRCan) was employed to feed alternative retrofit strategies (combinations of differ-ent retrofit options) into HOT2000 [35]. Energy performance results from the simulations were combined with the emissions and cost factors in the later stages of the study to eval-uate the economic and environmental performance of different retrofit strategies. Build-ing energy performance is sensitive to building operational conditions such as heating setpoint, cooling setpoint, etc. [5,10]. Therefore, the energy performance uncertainties were simulated considering potential operational condition variations, as described in the Case Study section. 2.2. Key Performance Indicator Identification Life cycle cost (LCC) and net percent value (NPV), internal rate of return (IRR), pay-back period (PBP), and marginal abatement cost (The cost of avoided unit of pollution) (MAC) were used in literature to evaluate the financial performance of retrofit and EPC projects [6,21,31]. Life cycle cost is the net percent value of all the cash flows involved during the life cycle of a given project. This assists decision-makers in understanding the overall financial performance of a project by the end of its life cycle. IRR is the discount rate at which the NPV of the project becomes zero. IRR is commonly compared against the weighted average cost of capital (WACC) to determine the profitability of a project. A higher IRR than the WACC usually indicates a good investment opportunity. The differ-ence between IRR and WACC translates into the profit or the value addition created by a given investment to the investors [36]. Therefore, the WACC of a retrofit project can be used to understand whether that investment is financially feasible. The need of using WACC to understand the impact of using different financial sources (i.e., loans, owner equity, ESCO equity) is overlooked in the literature related to the EPCs. In this study, the life cycle cost savings (LCCS) for the Owner and the ESCO were considered as the perfor-mance indicators. WACC was used as the discount factor to accurately quantify the im-pacts of funding source on the project profitability. Figure 1. Overview of the proposed EPC planning methodology.The detailed methodology followed in completing the said steps is presented below.Sustainability 2022, 14, 4334 9 of 212.1. Energy Performance SimulationHOT2000 (Version 11.3) was employed to simulate the energy performance of theselected case study building as it is the recommended and most commonly used energysimulation software package in the small residential building sector in Canada [6,29].The Housing Technology Assessment Platform (HTAP) developed by Natural ResourcesCanada (NRCan) was employed to feed alternative retrofit strategies (combinations ofdifferent retrofit options) into HOT2000 [35]. Energy performance results from the simu-lations were combined with the emissions and cost factors in the later stages of the studyto evaluate the economic and environmental performance of different retrofit strategies.Building energy performance is sensitive to building operational conditions such as heatingsetpoint, cooling setpoint, etc. [5,10]. Therefore, the energy performance uncertainties weresimulated considering potential operational condition variations, as described in the CaseStudy section.2.2. Key Performance Indicator IdentificationLife cycle cost (LCC) and net percent value (NPV), internal rate of return (IRR),payback period (PBP), and marginal abatement cost (The cost of avoided unit of pollution)(MAC) were used in literature to evaluate the financial performance of retrofit and EPCprojects [6,21,31]. Life cycle cost is the net percent value of all the cash flows involvedduring the life cycle of a given project. This assists decision-makers in understanding theoverall financial performance of a project by the end of its life cycle. IRR is the discountrate at which the NPV of the project becomes zero. IRR is commonly compared againstthe weighted average cost of capital (WACC) to determine the profitability of a project. Ahigher IRR than the WACC usually indicates a good investment opportunity. The differencebetween IRR and WACC translates into the profit or the value addition created by a giveninvestment to the investors [36]. Therefore, the WACC of a retrofit project can be usedto understand whether that investment is financially feasible. The need of using WACCto understand the impact of using different financial sources (i.e., loans, owner equity,ESCO equity) is overlooked in the literature related to the EPCs. In this study, the life cyclecost savings (LCCS) for the Owner and the ESCO were considered as the performanceindicators. WACC was used as the discount factor to accurately quantify the impacts offunding source on the project profitability.2.2.1. Weighted Average Cost of CapitalThe Owner contributes a portion of the initial capital from available funds to him/her.It was assumed that the ESCO leverages loans from third-party financial bodies to coverthe balance of the initial investment when the Owner cannot or does not want to fully fundthe project. In such a situation, the WACC of a project can be calculated using Equation (1).r =ICo ∗ re + (IC− ICo) ∗ (1− rt) ∗ rdIC= (1− rt)rd + ICoIC (re − (1− rt)rd) = β1 + β2ICoIC(1)where,r—Weighted average cost of capitalIC—Total initial capital requirement of the retrofit projectICo—Capital investment from ownerre—Cost of equityrd—Debt Ratert—Tax RateWACC was used to discount the future cash flows of the retrofitting project. Dependingon the financial constraints of the owner and/or the cost of equity, the project can either befinanced solely by the owner or as a mix of owner equity and a loan.Sustainability 2022, 14, 4334 10 of 212.2.2. Third-Party FinancingWhen the ESCO involves a third-party financing body, the loan installment can be calcu-lated using Equation (2), assuming that the loan continues throughout the contract period.LI = (IC− ICo) ∗ rd(TC)1− (1 + rd(TC))−TC(2)rd(TC)—Debt rate for the given contract period.2.2.3. Life Cycle Profits Realized by the ESCOFor a given contract period (TC), the LCCS realized by the ESCO was calculated usingEquation (3).f1(x) = (ACS− k− LI) ∗{(1 + r)TC − 1r.(1 + r)TC}(3)where,k—Guaranteed cost savings to the ownerLI—Loan installmentACS—Annual cost savingsTC—Contract periodLI—Loan installmentThe Life Cycle Profits Realized by the OwnerThe LCCS realized by the building owner during was calculated using Equation (4).f2(x) = −ICo + k ∗∑TCt=1{1(1 + r)t}+ ACS ∗∑TPt=TC+1{1(1 + r)t}(4)where,TP—Project period.The project period is the total time that the owner is planning to own the house. Afterthe contract period, owner is going to receive the entire cost savings produced by theretrofitting project as the ESCO is moving out of the contract. Even though the retrofitsimplemented are going to generate savings after the project period until the end of thelifetime of the retrofit, neither the ESCO nor the owner is going to receive any direct benefits.Therefore, the cost savings incurred after the project period were not considered in the EPCevaluation process.2.3. Energy Performance Contract FormulationESCO and building owners compete with each other for profits after determining thecosts of a given retrofit project. The ESCO help in increasing the confidence of the buildingowner to commit to a retrofit project by sharing the risk through an energy performancecontract. The ESCO has to build a compelling argument in order to secure the project whilemaximizing their profits.Generally, residential building owners have constraints on their maximum capitalcontribution. In such situations, the ESCO can cover the capital cost deficit by securing aloan by a third-party financial body. EPCs employ two main financial models, including theenergy/cost savings guarantee and profit-sharing [13]. This paper employs the energy/costsavings guarantee model to demonstrate the proposed EPC formulation process.2.3.1. Optimization ProblemThe optimal values for the guaranteed cost savings to the owner (k) and capital invest-ment from owner (ICo) vary depending on the priorities assigned to the optimization goals,the capital contribution from the Owner, contract period, and operational uncertainties.Sustainability 2022, 14, 4334 11 of 21Therefore, an optimization algorithm was developed to find the optimal values for k andICo for a given contract period accounting for stakeholder decision priorities. The MonteCarlo approach was employed to account for uncertainties. The optimization variables canbe presented by the following vector:x = (ICo, k)The optimization was iteratively conducted for each contract period (TC). For eachTC = 1,2, . . . ,TP, the objective function G(x) can be written as below:G(x) = W1 ∗ f1(x) + W2 ∗ f2(x) (5)where,W1—Weight of maximizing profits for the ESCOf 1(x)—Profits realized by the ESCOW2—Weight of maximizing profits for the ownerf 2(x)—Profits realized by the ownerThe optimization has to be conducted binding to the constraints discussed below. Thebuilding owner should at least be able to provide sufficient initial capital to close the gapbetween the total capital requirement and the maximum capital contribution provided bythe ESCO (ICESCO, Max) via third-party loans. Therefore, the following inequality mustbe satisfied.IC− ICESCO, Max ≤ ICo ≤ ICOWNER, Max (6)Total profits realized by the ESCO has to be higher than or equal to their minimumprofit expectation (η1). Total profits realized by the Owner has to be higher than or equal totheir minimum profit expectation (η2).η1 < f1(x)η2 < f2(x)(7)As the contract period increases, the ESCO has to keep on monitoring the project, andthey increase the risk of facing cost-saving reductions due to component deterioration.Therefore, for each year the ESCO is in contract, there should be a compelling profitincrement to compensate for the assumed risk. Thus, the minimum profit expectation ofthe ESCO was defined as a function of the contract period.η1 = θ1 + θ2 ∗ TC (8)where,θ1—Starting profit level in order to enter the performance contractθ2—Additional profit share per each year the performance contract continuesFollowing inequality must be satisfied for the project to be profitable.IRR > WACC (9)2.3.2. Monte Carlo SimulationsA Monte Carlo simulation was conducted to investigate the associated uncertainties.Annual energy savings and energy prices were modeled as random variables that varywithin a given range. The range was determined based on the operational energy savingvariations obtained from the energy simulations and the energy price variations predictedbased on potential future scenarios. The details of the simulation process and the energyprice variations particular to the case study are discussed in the next section.Sustainability 2022, 14, 4334 12 of 212.4. Case StudyThe proposed research methodology was demonstrated using a case study as discussed below.2.4.1. Base Building CharacteristicsFor demonstration purposes a two-story medium single family detached house locatedin Kelowna, BC, was chosen as the base building (BB). The volume of the house is 31,751 ft3and the conditioned area is 1862 ft2. Energy system and envelop characteristics of thebase buildings were adopted from literature [5]. The base building characteristics aresummarized in Table 1.Table 1. Base building characteristics.Heating Hot Water Window Wall Ceiling Infiltration VentilationElectricBaseboardConventional Tank (Electric)(EF = 0.55) Single Pane R10 R10 7.5 ACH @50 Pa 28 L/sThe baseloads created by the major electrical appliances, minor electrical appliances,and lighting were 10.68 kWh/day, 0.29 kWh/day, and 2.6 kWh/day, respectively. Averageexterior energy use was assumed to be negligible. Hot water consumption was taken as247 L/day. It was assumed that the house is occupied by three people who stay at thehouse during 50% of the time.The total energy requirement of BB was 56,767 kWh (all energy provided by electricity.Similarly, the energy performance of the base-building after applying different retrofitstrategies was simulated.2.4.2. Retrofit StrategiesSpace heating system, hot water unit, and building envelop related retrofits are com-monly used to improve the energy performance of existing buildings. The best-performingretrofit options from the literature were considered for this case study [5].The retrofit options considered Table 2 were combined to produce 128 retrofit strategiesfor the reference building. The LCCS produced by all retrofits was evaluated considering aten year project period. The most cost-effective retrofit strategy was selected based on LCCsavings. The proposed EPC planning model was applied to the most cost-effective option.Table 2. Retrofitting options summary.Heating Hot Water Window Wall Ceiling InfiltrationMulti-Split ASHPHSPF-9.9COP-2.928 kBTUHeat Pump system(EF = 1.90)Double Pane Low-E HardCoat Air FillR31 R40 5.0 ACH @50 PaTier-1 ASHPTier-2 ASHP2.4.3. Uncertain ConditionsThe uncertainties associated with energy savings of each retrofit strategy were quanti-fied by simulating the varying operational conditions. Following operational variabilities(shown in Table 3) from the literature were adopted to represent the associated uncertaintieswith this case study [5].Sustainability 2022, 14, 4334 13 of 21Table 3. Operational Uncertainties.Parameter Energy-Conscious User Average User Consumeristic UserNumber of adults avg. + 1 3 adults [10] avg. − 1Percentage time inside the house 60% 50% [10] 40%Appliance, lighting, and other loads 90% of avg. Conditions from Prabatha et al. [10] 110% of avg.Domestic hot waterconsumption and temperature 197 L, 53◦C 247 L, 55 ◦C [10] 297 L, 57 ◦CDaytime heating temperature 20 ◦C 21 ◦C [10] 22 ◦CNighttime heating temperature 17 ◦C 18 ◦C [10] 19 ◦CSetback duration 9 h 8 h [10] 7 hThe average electricity price was considered to be 11.62 cents/kWh with a 10% pricevariability [5].2.4.4. Economic ParametersThis section contains the economic parameters used in the case study. The risk-freerate and the tax rate for home renovation projects were taken as 2.04% and 5%, respectively.The cost of equity for green and renewable energy projects was found to be 5.6% fromthe literature [37]. The debt rate variation with time was derived based on a data set onCanadian building renovation loan rates from an online resource [38,39]. The followingtrendline equation was developed to reflect the variation of the loan rate with the contractperiod (or the period for which the loan was taken).rd = (2.3746 ∗ ln(TC) + 0.1866) ∗ 10−2 (10)2.4.5. Decision PrioritiesThe decision priorities have to be found based on the Owner’s and the ESCO’s expecta-tions for maximizing priorities. For demonstration purposes of the proposed algorithm, thedecision priorities were adopted from the literature [5]. In order to understand the impactof the decision priorities on the final results, the algorithm was re-executed by altering thedecision priorities following the scenarios listed in Table 4.Table 4. Decision priorities.Scenarios W1 (ESCO) W2 (Owner)ESCO Profit Maximisation Scenario 2.25 1Owner Profit Maximisation Scenario 1 2.252.4.6. Optimization ConstraintsMinimum profit expectation of the ESCO depends on the company agenda. Fordemonstration purposes, the minimum profit requirement of the ESCO for entering theEPC (θ1) and the minimum net present profit for staying an additional year in the contract(θ2) were taken as 1000 CAD and 500 CAD/year, respectively. In this analysis, the annualoverhead costs for the ESCO were not included as data relating to that are not available.However, when data is available, the overhead costs can be included as an annual cashflow that has to be borne by the ESCO.The minimum net present profit expectation of the Owner from the project was set as1000 CAD assuming that the building owner does not bear any additional cost than theplanned capital cost contribution. During the contract period, the Owner has assurancefrom the ESCO regarding the energy savings. However, longer contract periods mean thatthe Owner has to share the profits with the ESCO for a longer period.Sustainability 2022, 14, 4334 14 of 213. Results and DiscussionThis section analyzes the results generated during the case study.3.1. Cost Optimal Retrofit StrategyThe cost-optimal retrofit strategy was selected by ranking the considered retrofitstrategies using a fuzzy number ranking mechanism (min-max method) [5]. In this rankingprocess, the LCCS was considered as the performance indicator. The chosen retrofit optionsand the capital costs associated with each retrofit are presented in the Appendix A. It isimportant to note that in this scenario analysis, the potential of source switching was notconsidered as switching from electricity to NG is not promoted in the British Columbianclimate change mitigation discussion. However, if the potential of source switching wasconsidered, substantially higher cost savings can be obtained due to the low energy cost ofNG compared to electricity in Canada (Table 5).Table 5. Capital cost of cost optimal solution.System Option Capital Cost ($)ACH @50 5 ACH @50 Pa 1103Wall R31 4059Window Do not upgrade -Ceiling Do not upgrade -Space HeatingMulti-Split ASHPHSPF9.9COP2.928 kBTU3700Hot water system Electric Heat Pump operated hotwater system 2399Total cost 11,261The energy and cost savings achieved by applying the cost-optimal retrofit strategyis presented in Table 6. Savings were calculated assuming the operational parametersdo not significantly differ from the usual operational conditions when the retrofits areimplemented. The variability for the operational conditions for both pre- and post-retrofitperiods was modeled considering the conditions presented in Table 4. A ± 10% pricevariability in electricity unit price was considered when calculating the annual cost savings.Table 6. Energy performance under uncertain conditions.Lower Bound Likely Value Upper BoundBase Building (kWh/year) 51,086 56,767 62,596Retrofitted Building (kWh/year) 22,383 24,932 27,627Energy Savings (kWh/year) 28,703 31,835 34,969Annual cost savings (CAD/year) 3410 3820 42383.2. Energy Performance ContractThe Monte-Carlo simulation was conducted considering a normal distribution forthe annual energy savings (mean = 3820, range = [3410, 4238]) and the unit energy price(mean = 11.62 cents/kWh, range = [10.458, 12.782]). Both parameters were consideredto be normally distributed in the given range and were modeled by 10,000 data points.The optimization results obtained from the proposed model are presented below. In theoptimization, it was assumed that the Owner is going to own the house for at least 10 years.If the Owner decides to keep the house for more than 10 years, then the selected retrofitstrategy is going to keep generating cost savings until the end-of-life cycle of the selectedSustainability 2022, 14, 4334 15 of 21retrofits, which can be expected to be around 15–25 years. Therefore, if the Owner keepsthe house for a longer period, then they can realize higher profits than the values discussedin the sections below.3.2.1. Owner’s Profit Maximization ScenarioThe Owner’s profit maximization scenario was defined to give higher priority to theOwner’s profit by assigning a higher weight to the Owner’s expectations over the ESCO (2.25:1),as discussed in Section 3.1. The optimal range of guaranteed energy savings level and theoptimal capital cost born by the Owner for each contract period is presented in Figure 2.Sustainability 2022, 14, x FOR PEER REVIEW 15 of 22  not significantly differ from the usual operational conditions when the retrofits are imple-mented. The variability for the operational conditions for both pre- and post-retrofit peri-ods was modeled considering the conditions presented in Table 4. A ± 10% price variabil-ity in electricity unit price was considered when calculating the annual cost savings. Table 6. Energy performance under uncertain conditions.  Lower Bound Likely Value Upper Bound Base Building (kWh/year) 51,086 56,767 62,596 Retrofitted Building (kWh/year) 22,383 24,932 27,627 Energy Savings (kWh/year) 28,703 31,835 34,969 Annual cost savings (CAD/year) 3410 3820 4238 3.2. Energy Performance Contract The Monte-Carlo simulation was conducted considering a normal distribution for the annual energy savings (mean = 3820, range = [3410, 4238]) and the unit energy price (mean = 11.62 cents/kWh, range = [10.458, 12.782]). Both parameters were considered to be normally distributed in the given range and were modeled by 10,000 data points. The optimization results obtained from the proposed model are presented below. In the opti-mization, it was assumed that the Owner is going to own the house for at least 10 years. If the Owner decides to keep the house for more than 10 years, then the selected retrofit strategy is going to keep generating cost savings until the end-of-life cycle of the selected retrofits, which can be expected to be around 15–25 years. Therefore, if the Owner keeps the house for a longer period, then they can realize higher profits than the values dis-cussed in the sections below. 3.2.1. Owner’s Profit Maximization Scenario The Owne ’s profit maximization scenario was defined to give higher priority to the Owner’s profit by assigning a higher w ight to the Ow er’s expectations over the ESCO (2.25:1), as discus ed in Section 3.1. The optimal ra ge of guaranteed energy savings level and the optimal apital cost born by the Owner for each contract period is prese ted in Figure 2.  Figure 2. Owner’s capital cost contribution and guaranteed savings against the contract period. 02004006008001,0001,2001,4001,6001,80001,0002,0003,0004,0005,0006,0007,0008,0009,00010,0001 3 5 7 9Guaranteed Savings ($)Capital Cost contribution from owner ($)TC (Years)ICFigure 2. Owner’s capital cost contribution and guaranteed savings against the contract period.The dashed lines indicate the possible range of values that a given parameter cantake due to uncertainties, while the solid lines indicate the likely scenario. This helpsboth stakeholders to understand the worst case, best case, and likely conditions to beexpected from this contract. When the contract period is short, the ESCO has to securea higher portion of the annual profits in order to achieve the expected minimum profitlevel. Therefore, the optimal guaranteed savings level stays at the minimum guaranteedcost savings value defined in the algorithm (100 CAD) up until the contract period exceeds4 years. When the ESCO stays in the contract longer, ESCO realizes more profits comparedto ending the contract in a shorter period. In that case, the owner capital cost contributionreduces, and the guaranteed savings amount increases in order to maximize the Owner’sprofit. Figure 3 presents the impact of the contract period and the optimization variableson the profits realized by the stakeholders.According to Figure 3, until the contract period (TC) reaches 3 years, the total projectprofit keeps increasing. However, after 3 years, the total project profit starts declining dueto increasing WACC with decreasing owner capital contribution. This can be understoodby paying attention to the constants β1 and β2 presented in Equation (1). Until TC = 3, β1 ishigher than β2. Therefore, decreasing capital contribution from the owner help improvethe total project profit by minimizing the WACC. However, when TC exceeds 3, the debtrate keeps on increasing, causing the β2 to be higher than β1, thereby increases the WACCcausing a lower overall project profit. However, the Owner has to contribute a lower capitalcost portion as their profit tends to drop with ESCO’s demand of 500 CAD more from thenet present profits for each year they stay in the contract.Sustainability 2022, 14, 4334 16 of 21Sustainability 2022, 14, x FOR PEER REVIEW 16 of 22  The dashed lines indicate the possible range of values that a given parameter can take due to uncertainties, while the solid lines indicate the likely scenario. This helps both stakeholders to understand the worst case, best case, and likely conditions to be expected from this contract. When the contract period is short, the ESCO has to secure a higher portion of the annual profits in order to achieve the expected minimum profit level. There-fore, the optimal guaranteed savings level stays at the minimum guaranteed cost savings value defined in the algorithm (100 CAD) up until the contract period exceeds 4 years. When the ESCO stays in the contract longer, ESCO realizes more profits compared to end-ing the contract in a shorter period. In that case, the owner capital cost contribution re-duces, and the guaranteed savings amount increases in order to maximize the Owner’s profit. Figure 3 presents the impact of the contract period and the optimization variables on the profits realized by the stakeholders.  Figure 3. Owner’s profit and ESCO’s profit against the contract period. According to Figure 3, until the contract period (TC) reaches 3 years, the total project profit keeps increasing. However, after 3 years, the total project profit starts declining due to increasing WACC with decreasing owner capital contribution. This can be understood by paying attention to the constants 𝛽ଵ and 𝛽ଶ presented in Equation (1). Until Tc = 3, 𝛽ଵ is higher than 𝛽ଶ. Therefore, decreasing capital contribution from the owner help improve the total project profit by minimizing the WACC. However, when Tc exceeds 3, the debt rate keeps on increasing, causing the 𝛽ଶ  to be higher than 𝛽ଵ , thereby increases the WACC causing a lower overall project profit. However, the Owner has to contribute a lower capital cost portion as their profit tends to drop with ESCO’s demand of 500 CAD more from the net present profits for each year they stay in the contract. Under the given decision priorities, it is beneficial for the ESCO to stay longer in the contract and maximize the profits. The Owner’s profit maximizes if a contract period of 2 years is selected. However, it is important to note that when the ESCO moves out of the performance contract, there is no performance guarantee. Therefore, the Owner has to assume the risk of not receiving the promised savings if they want to maximize the profits. Even though longer contracts enhance ESCO’s profits, the ESCO has to assume the risk of having to compensate for not being able to meet the promised energy savings by staying longer in the performance contract. Moreover, longer contract periods demand the ESCO to increase the debt portion of the initial investment, therefore, the company’s liability. From the Owner’s point of view, longer contract periods result in very low to zero capital contributions. This is beneficial for owners who are facing issues in securing the required capital cost for the project. Moreover, longer contract periods can help resolve principal-05,00010,00015,00020,00025,00001,0002,0003,0004,0005,0006,0007,0008,0009,00010,0001 3 5 7 9Total profit ($)ESCO's profit / Owner's profit ($)TC (Years)ESCO ProfitOwner ProfitTotal ProfitFigure 3. Owner’s profit and ESCO’s profit against the contract period (Owner’s ProfitMaximization Scenario).Under the given decision priorities, it is beneficial for the ESCO to stay longer in thecontract and maximize the profits. The Owner’s profit maximizes if a contract period of2 years is selected. However, it is important to note that when the ESCO moves out ofthe performance contract, there is no performance guarantee. Therefore, the Owner hasto assume the risk of not receiving the promised savings if they want to maximize theprofits. Even though longer contracts enhance ESCO’s profits, the ESCO has to assume therisk of having to comp nsat for not being able to m et the promis d energy savings bystaying longer in he performance contract. Moreover, longer contract periods demandthe ESCO to increase th debt porti n of the initial investment, therefore, the company’sliability. From the Owner’s p int of v ew, longer contract periods result in very low to zerocapital ontributions. This is beneficial for owners who are facing issues in securing therequired capital cost for the project. Moreover, longer contract periods can help resolveprincipal- gent issues in rental properties whe the ESCO is bearing the to al capital cost. Insuch a situation, the ESCO can mak their profit maxim zation a top priority. In conclusion,it is safe to mention that the ontract p riod selection i a discussion that both par ies musthave at the ntract formulation sta e, considering their risk app tite and other conditionsdiscussed abov .3.2.2. ESCO’s Profit Maximization ScenarioThis sce ario was defined to give higher pri rity to ESCO’s profit by assigning a higherweight to the ESCO’s expectations over the Owner (2.25:1), as discussed in Section 2.4.5. Theoptimal range of guaranteed energy savings levels and the optimal capital cost born by theOwner for each contract period under given decision priorities are presented in Figure 4.In this decision scenario, a higher priority was assigned to the profits realized by theESCO compared to the owner. Therefore, the goal should be to get the maximum capitalcontribution from the owner while providing the minimum guaranteed savings duringthe contract period. At lower contract periods, maximizing the profits for the ESCO isharder due to the shorter time frame. Therefore, when the contract period (TC) is shorter(≤5 years), the total capital cost is borne by the building owner, and only the minimumguaranteed cost-saving amount will be provided. As TC gets closer to the project life, thecapital cost contribution from the Owner decreases to enable realizing minimum profitexpectations of the Owner. When the contract period is 10 years, the guaranteed savingsslightly increase in order to meet the minimum profit expectations of the Owner.Sustainability 2022, 14, 4334 17 of 21Sustainability 2022, 14, x FOR PEER REVIEW 17 of 22  agent issues in rental properties when the ESCO is bearing the total capital cost. In such a situation, the ESCO can make their profit maximization a top priority. In conclusion, it is safe to mention that the contract period selection is a discussion that both parties must have at the contract formulation stage, considering their risk appetite and other conditions discussed above. 3.2.2. ESCO’s Profit Maximization Scenario This scenario was defined to give higher priority to ESCO’s profit by assigning a higher weight to the ESCO’s expectations over the Owner (2.25:1), as discussed in Section 2.4.5. The optimal range of guaranteed energy savings levels and the optimal capital cost born by the Owner for each contract period under given decision priorities are presented in Figure 4.  Figure 4. Owner’s capital cost contribution & guaranteed savings against the contract period. In this decision scenario, a higher priority was assigned to the profits realized by the ESCO compared to the owner. Therefore, the goal should be to get the maximum capital contribution from the owner while providing the minimum guaranteed savings during the contract period. At lower contract periods, maximizing the profits for the ESCO is harder due to the shorter time frame. Therefore, when the contract period (Tc) is shorter (≤5 years), the total capital cost is borne by the building owner, and only the minimum guaranteed cost-saving amount will be provided. As Tc gets closer to the project life, the capital cost contribution from the Owner decreases to enable realizing minimum profit expectations of the Owner. When the contract period is 10 years, the guaranteed savings slightly increase in order to meet the minimum profit expectations of the Owner. As shown in Figure 5, the profits realized by the owner decrease with the increasing contract period. If Tc extends beyond 5 years, the Owner can only realize the minimum profit expectation agreed before (set as a constraint in the contract formulation). On the other hand, the profits realized by the ESCO rapidly increase when Tc changes from 1 to 5 years. After, there is a gradual increase in the profit until Tc = 7. The slowdown of the profit increase and profit drop observed when Tc exceeds 7 years results from the increas-ing WACC due to increasing loan interest rates with the increasing contract period and the decreasing capital contribution from the Owner. Similar to the previous decision sce-nario, profits realized by the Owner are higher when the contract period is lower, while the ESCO can realize higher profits when the contract periods are longer. Moreover, the Owner may also like longer contract periods in rental situations as the capital cost 02040608010012014002,0004,0006,0008,00010,00012,0001 3 5 7 9Guaranteed Savings ($)Capital cost contribution from owner ($)TC (Years)Figure 4. Owner’s capital cost contribution & guaranteed savings against the contract period.As shown in Figure 5, the profits realized by the owner decrease with the increasingco tract period. If TC extends beyond 5 years, the Owner can only realize the minimumprofit expectat n agreed befo e (set as a constrai t in the contract formulation). On theother hand, the pr fits realized by the ESCO rapidly increase when TC changes from 1 to5 years. After, there is a gradual increase in the profit until TC = 7. The slowdown of theprofit increase and profit drop observed when TC exceeds 7 years results from the increasingWACC due to increasing loan interest rates with the increasing contract period and thedecreasing capital contribution from the Owner. Similar to the previous decision scenario,profits realized by the Owner are higher when the contract period is low r, while the ESCOcan ealize higher profit whe the con ract periods are long r. Moreover, the Ownermay also like longer contract periods in rental situations as the capital cost requirementdecreases. However, the same risks discussed in the previous decision scenario have to beborne by both parties when attempting to maximize profits.Sustainability 2022, 14, x FOR PEER REVIEW 18 of 22  requirement decreases. However, the same risks discussed in the previous decision sce-nario have t  be borne by both parties when atte pting to maximize profits.  Figure 5. Owner’s profit and ESCO’s profit against the contract period. 4. Conclusions This paper proposed a novel energy simulation-based EPC formulation approach for residential building renovation projects. The proposed approach allows the decision-mak-ers to select the contract parameters to match their risk appetite, and other priorities and constraints. Key conclusions derived from the study are discussed below. • Selected decision priorities can significantly alter the project outcomes The contract parameters were calculated considering two decision priority scenarios. The likely value of the overall project profit in the owner’s profit maximization sce-nario varied between $17,571 and $20,626 with the changing contract period. The same for ESCO’s profit maximization scenario varied between $17,401 and $18,035. This indicates that the decision priorities can significantly change the project out-comes and overall profits. Therefore, it can be concluded that the stakeholder priori-ties must be accurately understood before formulating an energy performance con-tract. • Contract period can significantly alter the stakeholder profit shares and risks According to the results, profits realized by the ESCO maximize with the increasing contract periods while the profits realized by the owner decrease as the contract pe-riod increases. However, longer contract periods reduce the risks faced by the owner of being affected by the design performance gap. On the other hand, extended con-tract periods increase the risk for the ESCO of having to compensate for the building owner if the upgrades fail to produce the anticipated savings. Therefore, both parties have to consider their appetite for risks and rewards when deciding on the contract period. • Financial capacity of the stakeholders must be considered when selecting the contract period 02,0004,0006,0008,00010,00012,00014,00016,00018,00020,00001,0002,0003,0004,0005,0006,0007,0008,0009,00010,00011,00012,00013,00014,00015,00016,00017,00018,00019,00020,0001 3 5 7 9Total profit ($)ESCO's profit \Owner's profit ($)TC (Years)ESCO's ProfitOwner's ProfitTotal ProfitFigure 5. Owner’s profit and ESCO’s profit against the contract period (ESCO’s Profit Maximization Scenario).Sustainability 2022, 14, 4334 18 of 214. ConclusionsThis paper proposed a novel energy simulation-based EPC formulation approachfor residential building renovation projects. The proposed approach allows the decision-makers to select the contract parameters to match their risk appetite, and other prioritiesand constraints. Key conclusions derived from the study are discussed below.• Selected decision priorities can significantly alter the project outcomesThe contract parameters were calculated considering two decision priority scenarios.The likely value of the overall project profit in the owner’s profit maximization scenariovaried between $17,571 and $20,626 with the changing contract period. The samefor ESCO’s profit maximization scenario varied between $17,401 and $18,035. Thisindicates that the decision priorities can significantly change the project outcomes andoverall profits. Therefore, it can be concluded that the stakeholder priorities must beaccurately understood before formulating an energy performance contract.• Contract period can significantly alter the stakeholder profit shares and risksAccording to the results, profits realized by the ESCO maximize with the increasingcontract periods while the profits realized by the owner decrease as the contract periodincreases. However, longer contract periods reduce the risks faced by the owner ofbeing affected by the design performance gap. On the other hand, extended contractperiods increase the risk for the ESCO of having to compensate for the building ownerif the upgrades fail to produce the anticipated savings. Therefore, both parties have toconsider their appetite for risks and rewards when deciding on the contract period.• Financial capacity of the stakeholders must be considered when selecting the contract periodIn both decision scenarios, the owner’s capital contribution changes with the changingcontract periods to match the profit expectations of the stakeholders. Extended contractperiods result in lower capital contribution from the building owner, binding the ESCOto higher loan amounts. Lower capital contribution requirements can help overcomecapital cost barriers and uneven benefit distribution issues experienced by the ownersin the (rental) housing market. Therefore, EPCs with extended contract periods canhelp to promote energy retrofits to the rental building sector overcoming the landlord-tenant dilemma.• WACC must be considered in EPC planning when more than one financial source is involvedWACC has been overlooked in the previous EPC planning studies. However, varia-tions in the owner capital contribution to loan ratio impact the weighted average costof capital (WACC). The changes in the WACC result in $3055 and $634 variations in thelikely overall profit of the project in owner’s profit maximization and ESCO’s profitmaximization scenarios, respectively. This indicates the importance of employingWACC when evaluating the energy performance contracting projects with multiplefunding sources.• Uncertainties can significantly alter the EPC outcomesThe results showed that the uncertainties could change the optimal contract parametersand the expected profits significantly. For example, the overall profits realized in theowner’s profit maximization scenario and ESCO’s profit maximization scenario canvary up to 7.7% and 9.4%, respectively due to uncertainties. Therefore, uncertaintiesmust be considered in the EPC planning stage.In summary, EPCs can be employed to effectively deliver building energy retrofittingprojects by overcoming common challenges such as capital investment barriers, lack ofinvestor confidence, principal-agent problems such as landlord-tenant dilemma, and pre-and post-retrofit performance gap. However, the success of an EPC project depends onthe economic performance of the implemented retrofits. Therefore, the retrofit strategyselection must be done carefully. On the other hand, the most cost-effective energy retrofitstrategies may not necessarily provide environmental benefits. Therefore, policy tools suchas guidelines, rebates, and incentives must be developed to simultaneously realize emissionSustainability 2022, 14, 4334 19 of 21savings parallel to cost savings from energy retrofitting projects. These policy implicationsneed to be further investigated in future research.Author Contributions: Conceptualization, T.P. and K.H.; methodology, T.P.; software, T.P.; formalanalysis, T.P.; investigation, T.P.; resources, K.H. and R.S.; writing—original draft preparation, T.P.;writing—review and editing, K.H. and R.S.; visualization, T.P.; supervision, K.H. and R.S.; projectadministration, K.H.; funding acquisition, K.H. and R.S. All authors have read and agreed to thepublished version of the manuscript.Funding: This research was funded by MITACS Inc., grant number IT13420 and the APC was waivedby the Sustainability Journal.Data Availability Statement: Not applicable.Acknowledgments: The authors would like to acknowledge funding and other study supportprovided by FortisBC Inc. and Mitacs Canada, Green Construction Research and Training Centre,and Pacific Institute for Climate Solutions.Conflicts of Interest: The authors declare no conflict of interest. The funders had no role in the designof the study; in the collection, analyses, or interpretation of data; in the writing of the manuscript, orin the decision to publish the results.NomenclatureACS Annual cost savingsACH Air changes per hourBB Base buildingBC British ColumbiaBC-ESC British Columbia Energy STEP CodeEEP Eco-efficiency parameterEF Energy factorEPC Energy performance contractsEPD Environmental product declarationESA Energy services agreementESCO Energy service companiesGHG Greenhouse gasHDD Heating degree daysHTAP Housing Technology Assessment PlatformHP Heat pumpHWU Hot water unitIC Initial costIRR Internal rate of returnLCC Life cycle costMURB Multi-unit residential buildingsMAC Marginal abatement costMESA Managed energy services agreementNG Natural gasNRCan Natural Resources CanadaNPV Net percent valueOSH One-stop-shopPBP Payback periodSustainability 2022, 14, 4334 20 of 21Appendix ATable A1. Capital costs and embodied emission data of the retrofit options considered in the study [5].System Option Capital CostACH @50(Volume of the house: 31,751 ft3) 5 ACH @50 1103Wall (area: 2271 ft2) R31 4059Window(area: 421 ft2)Double pane, Low-E High gain,Air Fill 24,448Ceiling(area: 1114 ft2) R40 3944Space Heating(Conditioned area: 1862 ft2)Tier1 Central Ducted ASHP 4620Tier2 Central Ducted ASHP 5020Multi Split ASHPHSPF 9.9 BTU/watt-hrCOP 2.9Capacity 28 kBTU3700DHWS Electric HP 2399References1. Rogelj, J.; Shindell, D.; Jiang, K.; Fifita, S.; Forster, P.; Ginzburg, V.; Handa, C.; Kheshgi, H.; Kobayashi, S.; Kriegler, E. MitigationPathways Compatible with 1.5 ◦C in the Context of Sustainable Development. In Global Warming of 1.5 ◦C. An IPCC SpecialReport on the Impacts of Global Warming of 1.5 ◦C above Pre-Industrial Levels and Related Global Greenhouse Gas Emission Pathw;2018. Available online: https://www.ipcc.ch/site/assets/uploads/sites/2/2019/02/SR15_Chapter2_Low_Res.pdf. 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