Performance-Based Contract Models for Industrial Energy Efficiency in Indonesia

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Executive Summary

Indonesia's industrial sector presents substantial opportunities for energy efficiency improvements, with the manufacturing industry consuming approximately 556.6 million barrels of oil equivalent in 2023 and accounting for around 46-49% of national electricity consumption according to Ministry of Energy and Mineral Resources data.¹ Performance-based contracting through Energy Service Companies offers proven mechanisms for systematic energy cost reduction through guaranteed or shared savings arrangements.

However, the Indonesian ESCO market remains underdeveloped with penetration below 5% of addressable opportunities due to multiple barriers including financing constraints, limited awareness, regulatory gaps, and trust issues between stakeholders.² The Ministry of Energy has identified 459 targeted industrial companies for energy efficiency adoption supporting national energy self-sufficiency priorities, while Presidential Regulation No. 22/2017 mandates energy management for large facilities.

International initiatives including JETP, GCF-KDB programs, and various bilateral partnerships are working to overcome market barriers through innovative financing mechanisms, capacity building, and stakeholder engagement.³ This article examines the current state of performance-based energy efficiency contracting in Indonesia, analyzes existing barriers, and explores viable pathways for market development supporting Indonesia's energy transition objectives.

Understanding Indonesia's Industrial Energy Landscape

Indonesia's industrial sector represents a critical component of national energy consumption and economic development. According to Ministry of Energy and Mineral Resources statistics, the industrial sector consumed approximately 556.6 million barrels of oil equivalent in 2023, with electricity consumption from industry reaching approximately 46-49% of total national electricity demand.¹ The manufacturing sector has been a primary contributor to Indonesia's GDP growth, alongside trade and agriculture sectors.

Energy-intensive industries including steel, petrochemical, cement, textiles, and food processing dominate industrial energy consumption patterns. The iron, steel, and metallurgy industry has experienced significant coal demand growth over the past decade, increasing from 440,000 short tons in 2015 to approximately 77 million short tons in 2024. Natural gas consumption in the industrial sector accounts for approximately 37% of total gas use, while the electricity sector is responsible for around 69% of coal consumption.

Despite Indonesia's energy resource wealth as the world's fourth-largest coal producer and Southeast Asia's biggest gas supplier, energy cost management remains a critical challenge for manufacturers. Electricity costs vary across regions and demand characteristics, while natural gas pricing fluctuations and diesel fuel dependency for backup power generation create operational budgeting challenges. Many industrial facilities continue operating aging equipment and inefficient processes due to capital constraints, technical capacity limitations, and risk aversion toward new technology adoption.

Performance-Based Contract Models: Framework and Mechanisms

Performance-based contracts for industrial energy efficiency utilize structured mechanisms that align service provider financial incentives with client operational objectives while managing implementation risks through comprehensive performance warranties.⁴ Energy Service Company models provide systematic approaches for energy audit implementation, technology deployment, financing coordination, and long-term performance optimization.

Guaranteed Savings Contracts transfer performance risk to ESCO providers who guarantee specific energy cost reductions regardless of actual performance variations. Under this model, the ESCO provider assumes responsibility for technology performance, maintenance requirements, and savings achievement through comprehensive service delivery including initial energy audits, system design and installation, operator training, and ongoing performance monitoring throughout the contract duration. This approach provides industrial clients with predictable operational cost benefits while ensuring project financing security through third-party verification protocols following International Performance Measurement and Verification Protocol standards.

Shared Savings Contracts distribute energy cost reduction benefits between ESCO providers and industrial clients according to predetermined percentage allocations. This approach reduces client capital investment requirements as the ESCO typically arranges project financing, providing performance-based revenue streams that incentivize maximum efficiency achievement through advanced technology deployment and operational optimization programs. The shared savings model is often recommended for developing economies where clients face difficulties accessing bank financing.

Energy-as-a-Service models represent emerging approaches where ESCOs provide energy services on a subscription basis or through purchase options, offering flexibility that addresses the perceived high investment cost barrier.² Under subscription models, clients pay regular service fees while the ESCO retains equipment ownership and maintenance responsibility, eliminating upfront capital requirements and construction risks for clients.

Current State of ESCO Market in Indonesia

Indonesia's ESCO market development remains significantly constrained despite clear benefits from energy efficiency improvements and supportive regulatory frameworks. According to the Climate Policy Initiative's 2021 assessment, ESCO development in Indonesia is limited with market penetration below optimal levels.² The two traditional energy efficiency business models—shared savings and guaranteed savings—have encountered substantial implementation challenges in the Indonesian context.

Both ESCOs and clients face difficulties accessing finance from banks, undermining the shared savings model which assumes ESCOs can provide project financing. Loan officers and risk managers within financial institutions often lack knowledge of energy efficiency technologies and business models, resulting in perceived high financing risks. Limited information about energy management benefits represents the primary reason for lack of interest by building owners and investors, while clients' lack of trust in ESCOs' capacity and capabilities hampers business model functionality.

Typical contractual agreements for energy efficiency businesses in Indonesia do not fully address certain key issues, requiring updates to standard contracts to improve trust between clients and banks.⁵ Some industries hesitate to engage ESCOs due to concerns about potential impacts on financial solvency, while tensions arise due to differing expectations around payback periods.

ESCOs vary in scope with some specializing in building efficiency while others focus on niche industrial sectors. Even when ESCOs are engaged, their role often ends at the recommendation stage as industries feel capable of implementing measures independently. Energy efficiency projects remain unappealing to owners and investors despite clear benefits, with industrial companies viewing extended ROI periods as excessive while ESCOs consider them relatively short.

Regulatory Framework and Policy Support

Indonesia has established regulatory frameworks supporting industrial energy efficiency, though implementation challenges persist. Presidential Regulation No. 22/2017 mandates energy management requirements for industrial facilities consuming over 6,000 tonnes of oil equivalent annually, establishing accountability for energy performance improvements. This regulation creates baseline requirements for major energy consumers while providing market foundation for ESCO service development.

The Ministry of Energy and Mineral Resources, through the Directorate of Energy Conservation under the Directorate General of New, Renewable Energy, and Energy Conservation, has identified 459 targeted industrial companies for energy efficiency adoption.⁶ This targeting supports Energy Self-Sufficiency as one of Indonesia's national priorities. The Ministry of Industry, through its Green Industry Center, urges industry players to transform toward green industry models as emission reduction policies become increasingly important for competitiveness and sustainability.

Indonesia's energy policy framework includes the National Energy Policy targeting renewable energy development, though specific energy efficiency targets have faced implementation challenges. The original target for 23% renewables in the energy mix by 2025 has been extended to 2030 in updated planning documents. The government's Long-Term National Development Plan 2025-2045 incorporates energy transition milestones across four phases, including electricity utilization and efficiency improvements in the industry sector.

The Taxonomy Keuangan Berkelanjutan Indonesia, or Indonesian Sustainable Finance Taxonomy, represents a significant policy advancement. Unlike its predecessor, the TKBI includes energy sector activities such as energy efficiency and conservation services, providing clearer frameworks for categorizing activities as green or transition based on environmental objectives and essential criteria. This taxonomy development supports financial sector engagement in energy efficiency projects by establishing recognized classification standards.

Technology Solutions for Energy Efficiency

Advanced energy management technologies enable comprehensive performance monitoring, predictive optimization, and automated control systems essential for guaranteed savings achievement in performance-based contract environments.⁷ Industrial Internet of Things sensor networks provide real-time energy consumption data across multiple facility systems including HVAC, lighting, compressed air, process equipment, and motor drives, enabling granular performance tracking and optimization opportunity identification.

Smart Energy Management Systems integrate advanced analytics platforms with automated control capabilities supporting demand response participation, peak load management, and process optimization aligned with production schedules and energy pricing variations. These systems analyze consumption patterns, production requirements, and external variables to optimize facility energy usage while maintaining production quality and delivery requirements.

Variable Frequency Drives represent one of the most common and effective technologies for industrial motor efficiency enhancement, enabling motor speed adjustment based on actual load requirements rather than operating at constant full speed. Compressed air system optimization, including leak detection and pressure management, offers significant efficiency gains in many industrial applications where compressed air costs can represent substantial portions of facility electricity consumption.

Combined Heat and Power or cogeneration systems enable simultaneous production of electricity and useful thermal energy from a single fuel source, achieving efficiency levels of 65-80% compared to 45-50% for conventional separate heat and power systems. Process-specific technologies including waste heat recovery, thermal insulation improvements, and furnace or kiln optimization provide additional efficiency opportunities tailored to specific industrial sectors.

Current Initiatives and Programs

Several initiatives are working to overcome ESCO market barriers and facilitate energy efficiency adoption in Indonesia's industrial sector. The Just Energy Transition Partnership Secretariat has organized structured workshops connecting industries, ESCOs, and financial institutions through focused discussion sessions and matchmaking activities.³ These workshops address financing opportunities for industrial energy efficiency projects and facilitate direct interaction between stakeholders.

Key themes include exploring guarantee mechanisms from GuarantCo and Energy Savings Insurance from CEFIM to help reduce perceived project risks.⁸ The Green Climate Fund and Korea Development Bank programme supported by ASEAN Centre for Energy focuses on de-risking mechanisms in Indonesia's industrial sector, aiming to improve market conditions for energy efficiency investments through technical assistance and financial de-risking instruments.

Comprehensive diagnostic analyses of energy efficiency development in Indonesia identify systemic barriers and recommend policy improvements, financing mechanisms, and capacity building priorities to accelerate market development. Research from institutions including IPB explores alternative Product-Service System business models for ESCOs in Indonesia, seeking approaches better adapted to local market conditions than traditional shared or guaranteed savings arrangements.

International Best Practices and Lessons Learned

International experience provides valuable insights for Indonesian ESCO market development. European countries including Poland, Germany, France, and Italy have developed standardized EPC frameworks with comprehensive guidelines covering project stages, model contracts, and measurement and verification protocols.⁹ Poland's implementation using European Regional Development Fund support demonstrates how public financing mechanisms can catalyze EPC market development.

The U.S. Department of Energy's indefinite delivery contracts have facilitated over 550 projects worth billions in investment across Federal agencies.¹⁰ These programs demonstrate the effectiveness of streamlined procurement processes, standardized measurement and verification guidelines following IPMVP protocols, and performance-based payment structures in reducing transaction costs and accelerating project implementation.

Several countries have established Super ESCO entities that provide training, accreditation, project aggregation, standardization, marketing support, and financing facilitation. These intermediary institutions help reduce transaction costs, develop risk profiles for the ESCO industry, and provide technical assistance for project development and implementation. International trends show that digitalization within the energy sector drives efficiency improvements through increased use of building controls, automation, and analytics.

Viable Business Model Adaptations for Indonesia

Based on market analysis and stakeholder consultations, several business model adaptations show promise for Indonesian conditions. Energy-as-a-Service with flexible options lowers perceived high investment costs by offering flexibility through subscription services or purchase options.¹¹ Under the subscription approach, ESCOs own and maintain equipment while clients pay regular service fees, eliminating upfront capital requirements and construction risks.

Modified leasing structures where ESCOs provide equipment installation and initial maintenance, with clear pathways for client ownership transfer after defined periods, address trust barriers while providing ESCOs with secured revenue streams during the lease period. Hybrid performance contracts combining guaranteed minimum savings with shared savings upside potential distribute risk more equitably between ESCOs and clients. These arrangements can include phased implementation allowing clients to verify performance before committing to larger investments.

Rather than comprehensive facility energy management, some ESCOs are finding success with focused contracts targeting specific high-impact technologies such as LED lighting, VFD installations, or compressed air system optimization. These narrower scope projects require lower capital investment and shorter payback periods, building client confidence for subsequent broader efficiency measures.

Financing Mechanisms and Risk Mitigation

Addressing financing barriers represents a critical priority for ESCO market development. Organizations such as GuarantCo provide guarantee facilities that can partially cover financing risks for energy efficiency projects, making projects more attractive to commercial lenders by reducing perceived credit risks. Guarantee structures typically cover a portion of the loan principal, enabling financial institutions to offer more favorable terms than would be available without such credit enhancement.

Energy Savings Insurance products provide protection against underperformance of energy efficiency projects.¹² ESI transfers performance risk from clients and lenders to insurance providers, addressing one of the fundamental barriers in guaranteed savings contracts. By ensuring minimum savings levels regardless of actual project performance, ESI can significantly improve project bankability.

The development of Sustainability-Linked Loans and green bonds specifically for energy efficiency provides potential financing pathways. However, current challenges include comparable interest rates to conventional loans, comprehensive KPI-based assessment requirements, third-party verification costs, and longer approval processes. To drive greater adoption, financial institutions need to offer more competitive rates and streamlined procedures. Combining concessional public or donor funding with commercial financing can improve project economics and reduce risks for early-stage market development.

Implementation Framework and Success Factors

Successful performance-based contract implementation requires systematic approaches addressing technical, financial, and institutional requirements. The pre-implementation phase must include investment-grade energy audits following recognized standards such as ISO 50002 to establish accurate baseline consumption and identify efficiency opportunities. Comprehensive Measurement and Verification plans following IPMVP protocols specify data collection methods, calculation procedures, and reporting formats ensuring transparent performance tracking.

Thorough due diligence on ESCO providers includes technical capabilities, financial stability, project experience, and client references. Clear roles, responsibilities, and performance expectations in contractual agreements must address identified gaps in typical Indonesian energy efficiency contracts. During implementation, strong project management with regular communication between clients, ESCOs, and financing partners throughout project execution ensures alignment and issue resolution.

Quality installation and commissioning following manufacturer specifications and industry best practices ensures systems perform as designed. Comprehensive operator training enables facility staff to operate new systems effectively and troubleshoot common issues. Establishing continuous monitoring systems collecting real-time data supports performance tracking and optimization opportunity identification throughout the contract period.

Policy Recommendations for Market Development

Accelerating ESCO market development in Indonesia requires coordinated actions across multiple stakeholder groups. Government and regulators should strengthen regulations and policies supporting ESCO development and expansion, including clearer procurement frameworks for performance-based contracts in public facilities. Developing standardized model contracts and guidelines adapted to Indonesian legal and financial systems addresses gaps identified in current contractual arrangements.

Establishing ESCO accreditation or certification systems builds trust and develops risk profiles for the industry. Facilitating procurement through savings schemes allows government agencies and state-owned enterprises to procure efficiency improvements using operational savings rather than requiring upfront capital appropriations. Providing technical assistance and capacity building for both ESCOs and client organizations improves technical competency across the value chain.

Financial institutions should develop specialized energy efficiency financing products with terms and conditions reflecting the unique characteristics of EPC projects rather than treating them as standard equipment loans. Building internal capacity and knowledge about energy efficiency technologies and business models through training programs and partnerships with technical experts addresses current knowledge gaps preventing project financing.

ESCOs and industry participants should focus on building track records through successful project implementation demonstrating capabilities and building market trust. Investing in technical capacity and certification ensures ability to deliver guaranteed performance while collaboration with international ESCO networks provides access to best practices, technical expertise, and potential partnerships supporting business development.