CHAPTER 12. PRELIMINARY MANUFACTURER IMPACT AN A LYSIS

TABLE OF CONTENTS

12.1 INTRODUCTION

................................ ................................ ................................ ......... 12

- 1 12.2 METHODOLOGY

................................ ................................ ................................ ........ 12

- 1 12.2.1 Phase 1: Industry Profile

................................ ................................ .................... 12

- 2 12.2.2 Phase 2: Industry Cash

- Flow Analysis and Interview Guide

............................ 12

- 2 12.2.2.1 Industry Cash

- Flow Analysis

................................ ................................ . 12

- 2 12.2.2.2 Interview Guide

................................ ................................ ..................... 12

- 2 12.2.3 Phase 3: Sub

- Group Analysis

................................ ................................ ............ 12

- 3 12.2.3.1 Manufacturer Interviews

................................ ................................ ........ 12

- 3 12.2.3.2 Revised Industry Cash

- Flow Analysis

................................ ................... 12

- 3 12.2.3.3 Manufacturer Sub

- Group Analysis

................................ ........................ 12

- 3 12.2.3.4 Competitive Impact Assessment

................................ ............................ 12

- 4 12.2.3.5 Manufacturing Capacity Impact

................................ ............................ 12

- 4 12.2.3.6 Employment Impact

................................ ................................ ............... 12

- 4 12.2.3.7 Cumulative Regulatory Burden

................................ ............................. 12

- 4 12.3 PRELIMINARY MANUFACT URER IMPACT ANALYSIS

................................ ..... 12

- 5 12.3.1 Industry Overview

................................ ................................ ............................. 12

- 5 12.3.1.1 Industry Cost Structure

................................ ................................ .......... 12

- 5 12.3.1.2 Inventory Levels

................................ ................................ .................... 12

- 6 12.3.2 General Interview Structure and Preliminary Findings

................................ ..... 12

- 8 12.3.2.1 Key Issues

................................ ................................ .............................. 12

- 8 12.3.2.2 Shipment Projections

................................ ................................ ............. 12

- 9 12.3.2.3 Profitability

................................ ................................ .......................... 12

- 10 12.3.2.4 Equipment Mix

................................ ................................ .................... 12

- 10 12 .3.2.5 Conversion Costs, Manufacturing Capacity, and Employment Levels 12

- 11 12.3.2.6 Market Shares and Industry Consolidation

................................ .......... 12

- 12 12.3.2.7 Impact on Small Manufacturers

................................ ........................... 12

- 13 12.3.2.8 Cumulative Regulatory Burden

................................ ........................... 12

- 14

LIST OF TABLES

Table 12.3.1 Employment and Earnings for the Heating Equipment (except Warm Air Furnaces) Manufacturing Industry

................................ ................................ ................................ 12

- 6 Table 12.3.2 Heating Equipment (except Warm Air Furnaces) Manufacturing Industry Material and Payroll Costs

................................ ................................ ................................ ........... 12

- 6 Table 12.3.3 End

- of

- Year Inventory for the Heating Equipment (except Warm Air Furnaces) Manufacturing Industry

................................ ................................ ................................ . 12

- 7 Table 12.3.4 Heating Equipment (except Warm Air Furnaces) Manufacturing Industry Full Production Capacity Utilization Rates

................................ ................................ ........... 12

- 7

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- iCHAPTER 12. PRELIMINARY MANUFACT URER IMPACT ANALYSIS

12.1 INTRODUCTION

The purpose of the manufacturer impact analysis (MIA) is to identify the likely impacts of amended energy conservation standards on manufacturers. The U.S. Department of Energy ( DOE ) will conduct this analysis with input from manufacturers and other intere sted parties and will apply the methodology detailed in the following sections to its evaluation of amended energy conservation standards for commercial packaged boilers

. In this analysis, DOE will consider financial impacts on the industry , as well as a wide range of quantitative and qualitative impacts that might occur as a result of amend ed energy conservation standard s

. For example, if DOE were to adopt a particular standard level for commercial packaged boilers, manufacturers may have to change thei r manufacturing practices, causing them to reexamine their financial and investment strategies, personnel decisions, product mixes, among other aspects of their businesses that could be impacted. DOE will identify and seek to understand these impacts throu gh interviews with manufacturers and other interested parties

.

DOE announced changes to the MIA format through a report issued to Congress on January 31, 2006

, (as required by section 141 of the Energy Policy Act of 2005 ( EPACT 2005 ) which amended the Ene rgy Policy and Conservation Act of 1975 ), entitled “Energy Conservation Standards Activities”

. 1 Previously, DOE did not report any MIA results until the notice of proposed rulemaking (NOPR) phase; however, under the format prescribed by EPACT 2005, DOE col lects, evaluates, and reports preliminary information and data during the preliminary analysis phase (the phase preceding the NOPR) of this rulemaking.

12.2 METHODOLOGY

DOE conducts the MIA in three phases and tailors its analytical framework based
on comments from interested parties. In phase 1, DOE creates an industry profile to characterize the industry and conducts a preliminary MIA to identify important issues that require consideration. The preliminary technical support document (TSD) presents the results of the phase 1 analysis. In phase 2, DOE prepares an industry cash

- flow model and an interview guide to help steer subsequent discussions with manufacturers. In phase 3, DOE interviews manufacturers and assesses the impacts of amended energy conservation standards both quantitatively and qualitatively. Using the government regulatory impact model (GRIM), DOE assesses industry and sub

- group cash flow and industry net present value. DOE then assesses impacts on competition, manufacturing capacity, employment , and cumulative regulatory burden based on feedback received during manufacturer interviews. The NOPR TSD presents the results of the phase 2 and 3 analyses.

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- 112.2.1 Phase 1: Industry Profile

In phase 1 of the MIA, DOE collects pertinent qualitative and quantitat ive financial and market information. This includes commercial packaged boiler manufacturer market shares, corporate operating ratios, wages, employment levels, and production cost ratios. Sources of information include reports published by industry
groups , trade journals, the U.S. Census Bureau, copies of Securities Exchange Commission (SEC) 10

- K filings, and interviews with manufacturers. DOE also relies on information from its market and technology assessment, engineering analysis, life

- cycle cost analys is, markup analysis, and analysis of capital expenditure requirements.

12.2.2 Phase 2: Industry Cash

- Flow Analysis and Interview Guide

In phase 2 of the MIA, DOE performs a preliminary industry cash

- flow analysis and prepares interview guides for its discussions with manufacturers.

12.2.2.1 Industry Cash

- Flow Analysis

DOE uses the GRIM to analyze the financial impacts of amended energy conservation standards on the commercial packaged boiler industry. Standards will potentially require additional investments, raise product ion costs, and affect revenue through higher prices and, possibly, lower sales. The GRIM is designed to take into account several factors as it calculates a series of annual cash flows for the year standards take effect and for several years after implemen tation. These factors include annual expected revenues, costs of sales, selling and general administration costs, and taxes, as well as capital expenditures, depreciation and maintenance related to new standards. Inputs to the GRIM include manufacturing co sts, shipments forecasts, and price forecasts developed in other analyses. DOE also uses industry financial parameters as inputs for the GRIM analysis, which it develops by collecting and analyzing publically available industry financial information. DOE r efines these analyses with manufacturer feedback obtained confidentially during interviews. DOE compares the standards

- case results of the GRIM against baseline projections where standards are not amended. The financial impact of amended energy conservatio n standards is the difference between the two sets of discounted annual cash flows.

12.2.2.2 Interview Guide

DOE conducts interviews with manufacturers to gather information on the anticipated effects of standards on revenues and finances, direct employment, capita l assets, and industry competitiveness. Before the interviews, DOE distributes an interview guide that serves as an outline for its discussions with manufacturers and that helps identify relevant issues and possible impacts of standards on individual manuf acturers or sub

- groups of manufacturers. DOE’s interview guide covers current organizational characteristics, industry infrastructure, manufacturer cash

- flow analysis, a competitive impacts assessment, an employment impacts assessment, and a manufacturing capacity impacts assessment.

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- 212.2.3 Phase 3: Sub

- Group Analysis

In phase 3 of the MIA, DOE conducts manufacturer interviews and revises the industry cash

- flow analysis based on manufacturer feedback. DOE also assesses the impacts amended standards may have on man ufacturer sub

- group cash

- flows, industry competition, manufacturing capacity, employment, and cumulative regulatory burden.

12.2.3.1 Manufacturer Interviews

The information gathered in phase 1 and the preliminary cash

- flow analysis performed in phase 2 is suppleme nted with information gathered during interviews with manufacturers during phase 3. The interview process plays an important role in the manufacturer impact analysis, as it provides an opportunity for interested parties to express their views confidentiall y on important issues, allowing sensitive information to be considered in the rulemaking process.

DOE conducts detailed interviews with as many manufacturers as possible to gain insight into the range of potential impacts of standards. During the intervie ws, DOE solicits both quantitative and qualitative information on the expected impacts of standards on sales, direct employment, capital assets, and industry competitiveness. Interviews are scheduled well in advance to provide every opportunity for key ind ividuals to be available for comment. DOE accepts written responses to the interview guide prepared in phase 2, however prefers interactive interviews because they help clarify responses and provide the opportunity to identify additional issues.

All information gained in interviews is considered, where appropriate, in DOE’s decision

- making process. DOE asks interview participants to identify the information (provided orally or in writing) that they wish to keep confidential; no confidential informatio n will be made available in the public record.

12.2.3.2 Revised Industry Cash

- Flow Analysis

During the interviews, DOE seeks comments and suggestions regarding the financial parameters developed in phase 1. Upon completion of the interviews, DOE revises its indust ry cash

- flow model based on manufacturer feedback.

12.2.3.3 Manufacturer Sub

- Group Analysis

DOE acknowledges that using average cost assumptions to develop an industry cash

- flow estimate is not adequate for assessing differential impacts on sub

- groups of manufacturers. Smaller manufacturers, niche players, or manufacturers exhibiting a cost
struc ture that differs largely from the industry average could be more negatively affected. Ideally, DOE would consider the impact on every firm individually; however, it typically uses the results of the industry characterization to group manufacturers exhibit ing similar characteristics. During the interview process, DOE discusses potential sub

- groups and sub

- group members that have been identified for the analysis. DOE asks manufacturers

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- 3and other interested parties to suggest what sub

- groups or characteristic s are most appropriate for the analysis.

12.2.3.4 Competitive Impact Assessment

Section 342(a)(6)(B)(i)(V) of EPCA, 42 U.S.C. 6313(a)(6)(B)(i)(V), directs DOE to consider any lessening of competition likely to result from imposition of standards. It further directs the U.S. Attorney General to determine the impacts, if any, of a decrease in competition. As such, DOE makes every effort to gather and report firm

- specific financial information and potential impacts. The competitive analysis focuses on assessing the imp acts on smaller, yet significant, manufacturers. The assessment is based on manufacturing cost data and information collected from interviews with manufacturers. The manufacturer interviews focus on gathering information that would help in assessing asymme trical cost increases to some manufacturers, the potential increase in business risks from an increased proportion of fixed costs, and potential barriers to market entry ( e.g. , proprietary technologies).

12.2.3.5 Manufacturing Capacity Impact

Amended standards coul d cause the obsolescence of existing manufacturing assets, including tooling and investments in production equipment. DOE includes a series of questions in the interview guide to help identify impacts on manufacturing capacity. The questions address capaci ty utilization and plant location decisions in North America with and without a standard; the ability of manufacturers to upgrade or remodel existing facilities to accommodate the new requirements; the nature and value of any stranded assets; and estimates for any one

- time restructuring charges, where applicable.

12.2.3.6 Employment Impact

The impact of amended energy conservation standards on employment is an important consideration in the rulemaking process. To assess how domestic employment patterns might be affe cted, DOE asks manufacturers about current employment trends in the commercial packaged boiler industry. DOE also solicits manufacturers’ views about changes in employment patterns that may result from amended standards. In the employment impacts section o f the interview guide, DOE particularly asks manufacturers about the current employment levels at each of their production facilities, expected future employment levels with and without amended standards, and any differences in workforce skills or retraini ng that might be necessitated by amended standards.

12.2.3.7 Cumulative Regulatory Burden

DOE recognizes and seeks to mitigate the overlapping effects on manufacturers of amended energy conservation standards and other regulatory actions affecting the same equipmen t. DOE examines and considers the impact on manufacturers of multiple, equipment

- specific regulatory actions. In view of its research and discussions with manufacturers, DOE has identified regulations relevant to commercial packaged boiler manufacturers, s uch as: Environmental Protection Agency emissions regulations; energy conservation standards for residential boilers and the test procedures for commercial

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- 4packaged boilers under Title 10 of the Code of Federal Regulations, Part 431; and ENERGY STAR requir ements, among others. DOE examines the potential impacts of cumulative regulatory burden in greater detail during the NOPR phase.

12.3 PRELIMINARY MANUFACT URER IMPACT ANALYSIS

As part of this preliminary analysis, DOE puts together an industry profile and cond ucts a preliminary evaluation of the impact of potential energy conservation standards on the commercial packaged boiler industry. The primary sources of information for this analysis are U.S. Census Bureau data, industry reports, and interviews with manuf acturers of commercial packaged boilers which were conducted during early 2014. During these interviews, DOE collected information about manufacturer financial performance, manufacturing capacity, industry employment levels, and equipment utility and innov ation. In addition, DOE asked manufacturers to identify major concerns regarding potential amended standards for commercial packaged boilers.

To maintain confidentiality, DOE reports only aggregated information from manufacturer interviews. DOE does not disclose company

- specific information, nor does it identify the individual manufacturers that disclose information.

For the preliminary MIA, DOE uses public comments and interview feedback primarily to identify key issues and gain insight into the qualitat ive impacts of energy conservation standards.

12.3.1 Industry Overview

The following section summarizes publicly available industry data.

12.3.1.1 Industry Cost Structure

DOE is not aware of any publicly available industry

- wide cost data specific to manufacturers of commercial packaged boilers. As such, DOE conducted a keyword search of the North American Industry Classification System (NAICS) codes database and determined that commercial packaged boilers manufacturing is most closely associated with NAICS code 333414 (Heating Equipment (except Warm Air Furnaces) Manufacturing). 2 DOE used this NAICS code for obtaining the data presented in this industry overview. DOE presen ts this data as a broader industry proxy for the commercial packaged boiler industry, which, in combination with information gained in interviews, inform DOE’s analysis of the industry cost structure.

DOE obtained the below data from the U.S. Census Burea u, Annual Survey of Manufacturers, Statistics for Industry Groups and Industries from 2005

- 2011. 3

Table 12.3

. 1 presents the industry employment leve ls and earnings from 2005 to 2011. The statistics illustrate approximately a 29.2

- percent decrease in production workers and 23

- percent decrease in overall number of employees from 2005 to 2011.

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- 5Table 12.3

. 1 Employment and Earnings for the Heating Equipment (except Warm Air Furnaces) Manufacturing Industry

Year Production Workers All Employees Annual Payroll ($000s)

2005 13,425 20,779 815,116 2006 13,757 20,951 836,066 2007 12,239 19,935 856,552 2008 12,605 20,619 910,149 2009 9,182 16,539 771,250 2010 8,801 16,054 802,471 2011 9,497 15,925 803,254 Source: U.S. Census Bureau. Annual Survey of Manufacturers, 2005

- 2011

Table 12.3

. 2 presents the costs of materials and industry payroll as a percentage of shipment value from 2005 to 2011. The cost of materials as a percentage of shipment value has increased from 2005 to 20 11 by 3.1

- percent. The cost of payroll for production workers and the cost of total payroll have increased by approximately 4.9

- percent and 20.2

- percent, respectively.

Table 12.3

. 2 Heating Equipment (except Warm Air Furnaces) Manufacturing Industry Material and Payroll Costs

Year Cost of Materials (percent of shipment value) Cost of Payroll for Production Workers (percent of shipment value) Cost of Total Payroll (percent of shipment value)

2005 45.7 8.0 16.1 2006 44.0 7.4 15.3 2007 44.8 7.3 16.7 2008 46.5 7.7 17.2 2009 47.6 8.4 20.4 2010 47.9 8.0 20.8 2011 47.1 8.3 19.3 Source: U.S. Census Bureau. Annual Survey of Manufacturers, 2005

- 2011

12.3.1.2 Inventory Levels

Table 12.3

. 3 shows the year

- end inventory for the Air

- Conditioning and Warm Air Heating Equipment and Commercial and Industrial Refrigeration Equipmen t Manufacturing industry obtained from the U.S. Census Bureau, Annual Survey of Manufacturers, Statistics for Industry Groups and Industries from 2005 to 2011. Year

end inventory refers to the amount of inventory a manufacturer has on hand at year end, whi ch includes work

- in

- progress and finished goods. Again, DOE presents these data as a broader measure of the commercial packaged boiler industry. The industry’s end

- of

- year

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- 6inventory from 2005 to 2011 increased when expressed as a percentage of shipment

va lue.

Table 12.3

. 3 End

- of

- Year Inventory for the Heating Equipment (except Warm Air Furnaces) Manufacturing Industry

Year End

- of

- Year Inventory

($000s) End

- of

- Year Inventory (percent of shipment value) 2005 648,457 12.8 2006 730,820 13.4 2007 677,137 13.2 2008 726,489 13.7 2009 552,847 14.6 2010 557,767 14.4 2011 608,981 14.7 Source: U.S. Census Bureau. Annual Survey of Manufacturers, 2005

- 2011

DOE obtains full production capacity utilization rates from the U.S. Census Bureau, “Current Industrial Reports,” Survey of Plant Capacity from 2006 to 2013. Table 12.3.4 presents production capacity utilization rates for NAICS code 333414. Full production capacity is defined as the maximum level of production an establishment could attain under normal operating conditions. In the Survey of Plant Capac ity report, the full production utilization rate is a ratio of the actual level of operations to the full production level.

Table 12.3

. 4 Heating Equipment (except Warm Air Furnaces) Manufacturing Industry Full Production Capacity Utilization Rates

Year Heating Equipment (except Warm Air Furnaces) Manufacturing (%)

2006 63 2007 58 2008 64 2009 57 2010 60 2011 54 2012 54 2013 53 Source: U.S. Census Bureau. 2013 Current Industrial Reports: Table 1a

- Full Production Capacity Utilization Rates by Industry: Fourth Quarters 2006 through 2013 4

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- 712.3.2 General Interview Structure and Preliminary Findings

The preliminary interview guide includes questions relating to the topics outlined in sections 12.3.1.1 through 12.3.2.8 . These sections summarize information received via interviews and public comments from various stakeholders during the preliminary analysis phase of this rulemaking.

12.3.2.1 Key Issues

DOE begins its interviews with manufacturers by asking manufacturers to identify any key issues DOE should consider while reviewing energy conservation standards for commercial packaged boilers. This enables DOE to identify important issues early in the evaluation of am ended standards and to delve more deeply into these issues throughout the interview process. During preliminary interviews, manufacturers identified four major areas of concern: (1) the testing burden associated with amended standards; (2) condensing boile rs are not appropriate for many commercial applications; (3) not many American companies produce condensing heat exchangers; and (4) amended standards could reduce product durability and reliability. DOE will explore these issues and will carefully conside r them throughout the rulemaking process. The issues identified by manufacturers are explained in more detail below.

Testing Burden Several manufacturers expressed concern about the testing burden associated with amended energy conservation standards. Ma nufacturers noted that amended standards and an altered test procedure will result in them having to retest all of their equipment, which they pointed out is a costly and logistically challenging process due to the large size of the equipment and the fact that many commercial packaged boilers are custom

built for certain customers. Manufacturers stated that retesting all of their models would put a strain on their laboratory resources and would cause undue financial burden.

Condensing Boilers are Not Appr opriate for Many Commercial Applications Several manufacturers expressed concern that they would only be able to meet certain efficiency levels with condensing technology in gas

- fired hot water equipment. They argued that this technology would not be effe ctive in many commercial applications. Several manufacturers pointed out that condensing boilers will not operate in condensing mode in larger applications, and that users would not realize any efficiency gains where buildings and heat distribution systems are not designed around condensing technology. Manufacturers noted that it is very difficult to sell condensing boilers in the replacement market (which, according to manufacturers, comprises about 90 percent of boiler sales) because commercial customers would have to make expensive retrofit changes to venting and distribution systems.

Manufacturers also pointed out that condensing boilers may not save energy in commercial applications, even if they were to operate in condensing mode. Several manufacture rs argued that condensing equipment requires higher pump force power and higher horsepower blower motors, and thus would consume more electricity. They noted

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- 8that even if a boiler were operating in condensing mode, the fuel savings could be partially offse t by higher electricity use.

Not Many American Companies Produce Condensing Heat Exchangers Several manufacturers expressed concern that if DOE were to mandate efficiency levels that could only be achieved with condensing technology for gas

- fired hot wate r equipment, companies would likely face high conversion costs. While many companies in the U.S. currently produce condensing equipment, most condensing heat exchangers are sourced from European or Asian companies. American companies would have to decide w hether to develop their own condensing heat exchanger production capacity or assemble a baseline product around a condensing heat exchanger. Developing condensing heat exchanger production capacity would require large capital investments in new production lines and new equipment to handle the different metals that are required. Companies that are currently heavily invested in lower

- efficiency equipment may not be able to make such investments. The other option would be for companies to drop their noncondens ing equipment and assemble equipment around a sourced heat exchanger. In this scenario, companies would lose a significant piece of the value chain.

Reduced Product Durability and Reliability Several manufacturers commented that higher

- efficiency condensi ng boilers on the market have not demonstrated the same level of durability and reliability as lower

efficiency products. Manufacturers stated that condensing equipment requires more maintenance and generally does not last as long as non

- condensing equipme nt. Several manufacturers pointed out that they incur large after

- sale costs with their condensing equipment because of additional warranty claims. Maintenance calls for these boilers require more skilled technicians and occur more frequently than with no n

- condensing boilers.

12.3.2.2 Shipment Projections

DOE’s shipments analysis is a significant factor in estimating the impacts of amended energy conservation standards on manufacturers. The framework comment period and preliminary interviews provide an opportunity for manufacturers and other interested parties to share information that can help DOE quantify the magnitude of any changes in shipments resulting from amended energy conservation standards. DOE is interested in information relating to the current number of product shipments, broken down by equipment class and efficiency level. DOE also seeks input on the forecast of future shipments absent amended energy conservation standards.

DOE asks manufacturers how they would expect shipments to change for the industry as a whole as a function of amended efficiency standard levels and why they expect these changes might occur. More specific questions aim to derive a price elasticity estimate for use in the national impact analysis (NIA) spreadsheet. DOE also ask s individual manufacturers how a reduction in shipments would impact their businesses.

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- 9According to manufacturers, shipments of condensing commercial packaged boilers have been increasing quickly in recent years and they expect that trend to continue. Som e estimated that condensing equipment shipments could continue to increase at a rate of 10

- to 20

- percent annually. Most manufacturers also agreed that the commercial packaged boiler market is currently trending away from oil

- fired and natural draft equipm ent and expected the shipments of equipment with these characteristics to continue to decline. DOE will continue to investigate the impact of amended standards on shipment projections in the NOPR phase.

12.3.2.3 Profitability

DOE solicits information from manufactu rers about the impact of potential amended energy conservation standards on their future profitability. Amended energy conservation standards could affect financial performance in several different ways. For example, commercial packaged boiler manufacturer s may have to incur significant product and capital conversion costs to upgrade their equipment designs and their production processes to produce more

- efficient equipment. This would result in reduced cash flow and possible stranded investments if producti on equipment that had not fully depreciated had to be replaced. Higher energy efficiency standards also can result in higher per

- unit costs that may deter some customers from purchasing the equipment or cause some customers to delay purchase or seek to pur chase used equipment, thereby reducing shipments.

Commercial packaged boiler manufacturers expressed varying opinions about whether amended standards would affect profitability. Some manufacturers already produce equipment that performs at efficiency le vels well above the current standard. These manufacturers stated that it is unlikely that amended standards would greatly affect their profitability. Other manufacturers stated, however, that even an incremental increase in standards could cause them to ha ve to drop equipment that account for a large percentage of their revenues. These manufacturers argued that this would greatly harm profitability, as they would have to expend significant resources to design new equipment. Some said their businesses would not withstand such an effort and standards that were too stringent could cause them to exit the market.

12.3.2.4 Equipment Mix

DOE understands that more

- stringent energy conservation standards could affect a manufacturer’s ability to differentiate and market its premium equipment that typically earns higher profit margins. As a result, DOE is interested in understanding whether

am ended energy conservation standards would change a manufacturer’s equipment mix and if this change would affect profits. DOE also seeks to ascertain how amended energy conservation standards might affect a manufacturer’s customer mix, distribution channels , and profitability.

Manufacturers expressed varying opinions about whether amended standards would affect their equipment mixes. Several manufacturers in the industry are already heavily invested in high

- efficiency and condensing equipment. DOE believes that it is

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- 10unlikely that these manufacturers would need to greatly alter their equipment mixes. Others manufacturers expressed concern that amended standards could eliminate equipment that comprises a large percentage of their sales volumes.

12.3.2.5 Conversion Costs, Manufacturing Capacity, and Employment Levels

During the preliminary interviews, DOE asks manufacturers to quantify and explain both the capital and product conversion costs necessary to raise the energy efficiency of their equipment to the proposed standard levels. In some instances, manufacturers may be able to meet proposed standard levels by making slight modifications to existing equipment. In other cases, manufacturers may have to completely redesign their equipment and/or production processes. In these situations, amended standards may cause manufacturers to incur one

- time capital and product conversion expenses. Capital conversion expenditures are one

- time investments in property, plant, and equipment. Product conversion expenses include one

- t ime investments in research, product development, testing, and marketing.

In interviews, manufacturers expressed varying opinions about conversion costs at various efficiency levels. Several manufacturers do not anticipate they would incur high conversion costs, even if the standard were set at an efficiency level where condensing technology was necessary, as much of the equipment they currently sell is condensing equipment. Others are concerned that a standard that necessitated condensing technology would be overly burdensome, as they would have to design new equipment and construct new production lines, as well as reevaluate testing facilities and incur large testing
expenses.

Amended energy conservation standards could also impact manufacturing capacity by causing the obsolescence of existing manufacturing assets (i.e., tooling) before these assets are fully depreciated. DOE includes questions to identify impacts on manufacturing capacity in the interview guide. DOE develops these questions to elicit

man ufacturer feedback on the impact of potential amended standards on:

• North American manufacturing capacity;

• capacity utilization and plant location decisions in North America both with and without standards;

• the ability of manufacturers to upgrade or remodel existing facilities to accommodate a new product mix; and

• the nature and value of any stranded assets.

Most manufacturers agreed that the industry is running at approximately 50

- to 70

- percent capacity and therefore did not foresee any capacity co nstraints, assuming standards were set at a level that would not change manufacturing practices significantly.

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- 11Several manufacturers did point out, however, that a standard level that necessitated the use of condensing technology could cause capacity issue s. Some manufacturers stated that they would have to eliminate several of their equipment lines and use a different manufacturing process in such a scenario and, therefore, would face significant stranded production assets. Manufacturers also pointed out t hat most companies that produce commercial packaged boilers in the United States do not produce condensing heat exchangers; rather, they source them from Europe or Asia. Several pointed out that if standards necessitated condensing technology, manufacturer s would have to decide whether to continue to source the heat exchanger, which is an important part of the value chain for commercial packaged boilers, or try to develop their own production capacity. The latter strategy could cause capacity issues, as man y manufacturers would be starting from scratch and would have to expend significant time and resources developing new production processes. Several manufacturers believe that a standard that necessitates condensing technology for gas

- fired hot water equipm ent could significantly change the industry in the U.S., as many manufacturers would become more assembly

- oriented and choose not to develop any production capacity for condensing heat exchangers.

Another important consideration in the rulemaking process is the impact of amended energy conservation standards on employment. In interviews, DOE asks manufacturers about current trends in production employment and whether amended energy conservation standards would result in changes in employment patterns. Thes e questions about employment impacts help DOE gain perspective on:

• current employment levels associated with manufacturing at each production facility;

• expected future employment levels both with and without amended standards; and

• differences in workforce skills and issues related to retraining employees.

Most manufacturers agreed that a small increase in efficiency would not greatly impact employment levels in the industry. Some manufacturers who already primarily produce high

- efficiency equipment stated t hat their employment levels would not significantly change, even if the amended standards necessitated condensing technology. Other manufacturers, however, stated that if the amended standards necessitated condensing technology, they would have to drop all of their copper, carbon steel, and cast iron gas

- fired hot water equipment production lines. They would subsequently have to lay off workers who are currently involved in the manufacturing of the noncondensing heat exchangers, as well some who are involve d with manufacturing other components and assembling the equipment.

12.3.2.6 Market Shares and Industry Consolidation

Amended energy conservation standards can alter the competitive dynamics of the marketplace by prompting companies to enter or exit the market, or merge with other companies. In preliminary interviews, DOE asks manufacturers to share their perspectives on industry consolidation both in the absence of amended standards and

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- 12various efficiency levels, assuming standards were amended. DOE designed these questions to help gather information that helps in assessing:

• disproportionate cost increases to some manufacturers;

• increased proportion of fixed costs potentially increasing business risks; and

• potential barriers to market entry ( e.g. , proprietary techn ologies).

DOE evaluates the potential of anti

- competitive effects arising from proposed standards to protect the interests of the customer. During interviews, DOE solicits information about whether amended standards could result in disproportionate economi c or performance penalties for particular consumer/user sub

- groups.

Through market research and input from interested parties, DOE believes there has been little entry and exit in the commercial packaged boiler industry since the 2009 standards rulemaking. In interviews, several manufacturers pointed out that the industry is surprisingly fragmented for how small it is. Some manufacturers argued that an increase in standards could lead to some industry consolidation, as condensing equipment becom es more of a commodity. Some manufacturers suggested that some companies heavily invested in cast iron commercial packaged boiler equipment could be bought up by companies with higher

- efficiency offerings. Other manufacturers, however, pointed out that man y companies in the industry have reliable brands and a large legacy base of installed equipment that customers need maintained and replaced, and would therefore resist consolidation.

12.3.2.7 Impact on Small Manufacturers

DOE will consider the possibility of small businesses being disproportionately affected by amended energy conservation standards for commercial packaged boilers. DOE will study the potential impacts on the small businesses it has identified in greater detail during the NOPR phase of the MIA.

To id entify small businesses for this analysis, DOE applies the small business size standards published by the Small Business Administration (SBA) to determine whether a company is considered a small business. 65 FR 30836, 30848 (May 15, 2000), as amended at 6 5 FR 53533, 53544 (Sept. 5, 2000) and codified at 13 CFR part 121. To be categorized as a small business under North American Industry Classification System (NAICS) code 333414, “Heating Equipment (except Warm Air Furnaces) Manufacturing,” a commercial pac kaged boiler manufacturer and its affiliates may employ a maximum of 500 employees. The 500

- employee threshold includes all employees in a business’s parent company and any other subsidiaries. Based on this classification, DOE has preliminarily identified 21 small business commercial packaged boiler manufacturers.

DOE has asked manufacturers about reasons small businesses may be at a disadvantage relative to a larger manufacturer under amended energy efficiency standards

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- 13for commercial packaged boilers. Manufacturers have commented that small business manufacturers typically have fewer human and financial resources than their larger counterparts, which could make converting their equipment and updating production processes relatively more burdensome. Seve ral manufacturers have commented that small businesses have fewer testing resources and typically do not have testing facilities, which could put them at a disadvantage. DOE will consider these impacts in its NOPR analysis.

12.3.2.8 Cumulative Regulatory Burden

Wh ile any one regulation may not impose a significant burden on manufacturers, the combined effects of several impending regulations may have serious consequences for some manufacturers, groups of manufacturers, or entire industries. Assessing the impact of a single regulation may overlook this cumulative regulatory burden.

Expenditures associated with meeting other regulations are an important aspect of DOE’s consideration of the “cumulative regulatory burden” the industry faces. Manufacturer interviews hel p DOE identify the level and timing of investments manufacturers are expecting to incur as a result of these regulations. DOE asks manufacturers under what circumstances they might be able to coordinate expenditures related to these regulations and efficie ncy standards.

In addition to the amended energy conservation standards, several other Federal regulations may apply to commercial packaged boilers and other products and equipment that these manufacturers make. DOE investigates the cumulative regulatory burden in greater detail during the NOPR phase of the rulemaking.

Based on its own research and discussions with manufacturers, DOE has identified several regulations relevant to commercial packaged boilers, including:

• Environmental Protection Agency (EP A) emissions regulations,

• DOE residential boiler regulations, and

• ENERGY STAR.

Complying with such regulations requires corporations to invest both human and capital resources. The following subsections discuss in greater detail regulations affecting the c ommercial packaged boiler industry.

EPA Emissions Regulations In 2012, EPA issued changes to the Clean Air Act standards for major area and source boilers in order to reduce the emission of pollutants such as mercury, particle pollution, sulfur dioxide, dioxin, lead, and nitrogen dioxide. Several manufacturers

commen ted in interviews that it is difficult to devote resources to making equipment more efficient while simultaneously trying to comply with EPA emissions regulations.

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- 1 4DOE Residential Boiler Regulations Several manufacturers of commercial packaged boilers al so manufacture a wide array of residential boilers which are impacted by DOE’s energy conservation standards. Amended standards for residential boilers went into effect in 2012 and DOE is in the process of reviewing those standards and the test procedures for residential boilers. Manufacturers expressed concern that if there is overlap between the compliance periods for these regulations, the resources they have to convert their equipment and production processes would be stretched.

ENERGY STAR Some intere sted parties have also expressed concern about potential conflicts with other compliance certification programs, in particular EPA’s ENERGY STAR requirements. 5 However, DOE notes that certain standards, such as ENERGY STAR, are voluntary for manufacturers. As such, they are not part of DOE’s consideration of cumulative regulatory burden.

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- 15REFERENCES

1

. Department of Energy’s Energy Conservation Standards Activities, 2006. (Available at: www.eere.energy.gov/buildings/appliance_standards/2006_schedule_settin g.html ).

2

. This search tool is available on the NAICS Association website at: http://www.naics.com/search/

3

. U.S. Census Bureau, Annual Survey of Manufacturers: General Statistics: Statistics for Industry Groups and Industries (2011) (Available at: http://factfinder2.census.gov/faces/nav/jsf/pages/searchresults.xhtml?refresh=t ).

4

. U.S. Census Bureau, Current Industrial Reports: Survey of Plant Capacity Utilization (2013) (Available at: https://www.census.gov/manufacturing/capacity/historical_data/index.html

5

. ENERGY ST AR is a U.S. Environmental Protection Agency (EPA) voluntary program to identify and promote energy

– efficient products and buildings in order to reduce energy consumption, improve energy security, and reduce pollution through voluntary labeling of or other forms of communication about products and buildings. For more information link to http://www.energystar.gov/

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