A Whole Different Kind of Innovation

New business models may not be as sexy as new technology. But their impact could be just as great.

By ELIZABETH M. BAILEY AND CATHERINE WOLFRAM

Until 2008, most people paid for their rooftop solar panels upfront, usually laying out at least $15,000 and sometimes as much as $60,000. Such a hefty cost limited the market for residential solar installations to cash-rich homeowners, restricting the potential for growth.

Then came solar leases, which allow customers to make monthly payments. Solar costs have come down, so customers with smaller systems can now pay as little as $100 per month and nothing upfront.

The result: The market has opened up to a whole new group of homeowners.

Since 2010, third-party-owned residential solar installations have taken off, while customer-owned systems have remained flat. In California, the biggest solar market, most customers are now opting for third-party installations.

Outside the Lab

Energy innovation typically calls to mind a scientist in a lab, working with new materials for solar photovoltaic cells, or a new enzyme to convert plant matter to biofuels. As important as such technology innovations are, there is another kind of innovation that is crucial to meeting the challenges associated with energy use.

We're talking about innovations in business models and practices—everything from how a company runs its own business to innovative ideas for starting new ones and creating new markets. When companies embrace novel approaches, either internally or externally, they open new opportunities for drastically reducing energy consumption or expanding the use of alternative sources of energy.

Consider one of the simplest, and most conspicuous, examples. Just as a new board position—chief electricity officer—emerged in U.S. companies in the late 1800s as manufacturing firms accessed the electrical grid for the first time, companies today are again rearranging their organizational charts to accommodate the chief sustainability officer, an executive charged with managing revenue and costs related to energy, climate change and waste disposal.

Similarly, but less visibly, some organizations are reorganizing their facilities and maintenance departments, and finding that assigning one person bottom-line responsibility for energy can lead to substantial savings.

In late 2011, the University of California at Berkeley created a campuswide energy office as part of an effort to reduce the amount of energy the campus consumes. Where previously energy was just one of the many things the facilities and maintenance department oversaw, the new office is totally focused on monitoring and managing energy use. By pioneering a number of energy-saving measures, including an online "dashboard" that measures electricity consumption building by building, the energy office expects to cut more than $2 million off the campus's annual energy bill.

Neighborhood Images

Meanwhile, a host of clean-technology companies are coming up with new business concepts—concepts that can result in energy savings for both businesses and consumers.

Several companies, applying an idea already tested outside the energy industry, are mining massive amounts of data to identify potential customers. Rich data, including infrared images of whole neighborhoods, can identify buildings in need of energy-efficiency upgrades. This could cut the cost of energy-efficiency evaluations by supplanting costly, labor-intensive audits.

Other companies are revolutionizing the way consumers receive data on their energy consumption by using one of the oldest tools in marketing: comparing people with their neighbors. One company has shown that people who receive information about how their energy consumption compares with that of nearby houses reduce their energy use by 2% to 5%.

Some business-model innovations are still gestating. Consider the way banks and other lenders evaluate loans for commercial office space. Although energy accounts for a high share of the operating costs of an office building, typically 30%, commercial-mortgage lenders currently don't gauge the energy appetite of the building in the underwriting process.

Recent research by our colleagues suggests that building owners and lenders both would be better off if loans recognized building energy costs. Commercial developers would profit by making their buildings more energy-efficient, and lenders would reduce their exposure to the risk associated with large fluctuations in future energy costs. This, in turn, could spur more building retrofits and the adoption of energy-efficient technologies, such as new windows that reduce the amount of heat that passes through the glass.

Encouraging Innovation

So, how can we ensure that innovative business models continue to transform the energy sector? Business-model innovation poses many of the same challenges that technology innovation does—how to fund it, how to promote it and how to get it to market—but the solutions to these challenges are often very different.

Companies have the incentive to innovate if they can reap the rewards of their creativity by offering a unique product or service. Unlike technological innovations, such as a new solar cell, business-model innovations, such as the idea of leasing, often cannot be protected with a patent or kept secret from competitors. After all, many solar installation companies now offer solar leases.

As a starting point, we need to recognize the importance of business-model innovations in the energy industry. For example, solar installations are subsidized through a number of federal and state programs, which lower the price to customers. While some question the merits of promoting a technology that currently is working its way up the development curve, it's useful to recognize that subsidies also encourage business-model innovation. Even if the technology keeps improving, as it surely will, subsidizing renewable energy now can drive innovation on the business side. That way, better business models will be fully developed when scientists perfect the technology.

Standard setting also can encourage business-model innovation. At present, it is difficult for lenders to incorporate energy efficiency into commercial underwriting decisions because they don't get good information on a building's energy consumption. To evaluate risk, underwriters need standardized reports that will help them determine whether an investment would use more or less energy compared with peer buildings. Setting such standards would encourage lenders to take advantage of new opportunities in commercial underwriting.

Once again: No scientist, no lab, no technology breakthrough. Just a new way of thinking about what a business does, and how it does it. Could anything be simpler—or more important?