Monday, October 3, 2011

Legal Loophole Drives Hot Sales of Air Conditioning Units

By Bob Tita
Published September 30, 2011

--Air conditioning companies producing components using banned refrigerant

--Manufacturers use regulatory loophole to resume production

--Components with banned refrigerant popular with consumers

A frosty battle has broken out in the U.S. air-conditioning market, as manufacturers confront consumers' unwillingness to pay up for equipment without an ozone-depleting refrigerant.

A legal loophole has allowed companies to continue to produce air conditioning units with a refrigerant banned in the U.S. last year. The move has driven a wedge through an industry struggling to respond to a weak economy and a moribund housing market that dropped shipments of air conditioning units last year to 36% below volumes from a decade ago. Some executives warn that continuing to provide equipment with the hydrocholoroflorocarbon-22 refrigerant, or R-22, will make it difficult to attract buyers for higher-margin, more energy-efficient systems using a more environmentally friendly refrigerant.

"It's really bad environmental policy," said John Mandyck, chief sustainability officer for Carrier Corp. "We ought to be getting back on track with what's been understood for decades, that R-22 should be phased out."

Manufacturers expected sales of their newest models to receive a boost when the U.S. Environmental Protection Agency last year banned the production and sale of residential air conditioning units with R-22. But cash-strapped consumers have been opting to overhaul their existing R-22 systems with new outdoor condensers for $1,500 to $2,000, rather than pay $3,500 for an entirely new system. Manufacturers started to produce older-model condensers again under a provision in the EPA regulation that allows them to supply replacement parts for R-22 systems as long as they're not charged with the refrigerant at the factory. Instead, heating and air conditioning contractors add it when they install the units.

Some analysts estimate that R-22 condensers accounted for as much as 20% of the air conditioning shipments during the second quarter, double the R-22 volume from the first quarter. Companies say the increasing demand for R-22 condensers reflects consumers' need for lower-cost alternatives to a completely new air conditioning system.

"We have a lot of homeowners who can't afford that new system," said Carol Baker, vice president for marketing at Missouri-based Nordyne, one of the first manufacturers to restart production of R-22 condensers.

Ingersoll-Rand PLC (IR), which makes heating and air conditioning equipment under the Trane brand, was one of the last manufacturers to resume production of R-22 condensers. Chairman and Chief Executive Michael Lamach said rivals backed out of a pledge made two years ago to only produce equipment for the new coolant, known as R-410A.

"One by one, they began to ship heavily into the [R-22] market," Lamach said. "We were the last one left standing that wasn't producing R-22. But if a Trane dealer needs an R-22 unit today, he'll be able to get an R-22 unit." While everyone is making R-22 condensers again, some of the largest manufacturers want to close the loophole that's allowed production to resume.

Carrier, a unit of United Technologies Corp. (UTX), petitioned the EPA earlier this year to designate R-22 condensers as sub-systems that cannot be replaced as entire units. Ingersoll-Rand, Johnson Controls Inc. (JCI), the maker of York equipment, and Lennox International Inc. (LII) have endorsed Carrier's petition.

Ingersoll's Lamach worries that consumers are being conditioned to accept half-measure replacements that will destroy the market for the new systems using R-410A that have cost manufacturers hundreds of millions of dollars to develop and market.

But Philip Windham, vice president of sales for Nordyne, whose brands include Frigidaire, Tappan and Westinghouse, disputes the notion that homeowners would buy significantly more systems with R-410A if the R-22 condensers weren't available. Instead, he suspects they'd just resort to even more stop-gap repairs with lower-margins for manufacturers.

"If a homeowner has a choice, they'll choose a full upgrade," he said. "But the average homeowner doesn't have enough money in the bank to afford it now and can't get financing like a few years ago."

A spokeswoman for the EPA said Thursday the agency continues to evaluate Carrier's request to reclassify R-22 condensers. Industry analysts expect the agency to eventually deny the petition to avoid being seen as increasing the regulatory burden on consumers during tough economic times. The attraction of the R-22 condensers is likely to weaken in the coming years as the refrigerant becomes increasingly scarce. The price of R-22 has ballooned to more than $300 for 30 pounds from $40 a couple of years ago, said Barry Logan, vice president for investor relations at Watsco Inc. (WSO), a Florida-based distributor for Carrier, Trane, Nordyne and other brands of heating and air conditioning equipment.

"Over the new few years, the loophole is going to go away because there wouldn't be enough R-22 to service these systems beyond 2015 and certainly by 2020," he said.

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