Robert Sternthal is president of Reznick Capital Markets Securities and has extensive experience in financing renewable energy transactions, whether they are in the wind, solar or biomass sectors. Working alongside CohnReznick LLP and CohnReznick Think Energy, Reznick Capital Markets Securities offers one of the most comprehensive financial advisory platforms in the industry.
Every month, there are numerous solar conferences and seminars in the United States. At each of these events nearly every solar developer or potential investor complains about the lack of good U.S solar projects, which I find odd. After all, we are barraged on a daily basis by email updates regarding new solar developments connecting to the grid.
What is going on here? What is the truth about small-scale solar projects? Who is right? Are there good projects out there? Where are they? Are there certain places where solar provides better economics?
My team and I think about this daily as we work with our own clients on financing, buying and selling solar projects. I believe the truth remains that there are still few developers demonstrating continued success in this market, but since there are so many developers in the United States, what we are seeing every day are glimpses of success by a select few developers from among the masses.
Let me share with you a few thoughts that may help you understand what seems to be standing in the way of progress — or which may explain what you are seeing in the market when you do see it:
1. No solar project is easy. All solar projects take time to develop and build. Even my own residential rooftop system took more than six months from start to finish — and I’m still awaiting connection. For commercial deals, there are dozens of additional issues a developer must overcome depending upon the buyer of the electricity, the type of system, location, environmental concerns and rooftop conditions, among others.
2. There is no such thing as a standard PPA/lease. Despite the desire of solar developers to create and use standard PPAs or leases, all of them find that each of their customers has specific needs and/or desires when it comes to acquiring a solar system. Ultimately, despite the efforts of many securitization and asset-based lending experts, the differences in each deal, whether in the PPA or lease or otherwise, will prevent a one-stop shop for financing large portfolios of solar projects, with the exception of a very few.
3. Few solar developers have a portfolio that exceeds 25 MW in the distributed-generation market. Maybe we can count a handful of developers that have built and financed more than 25 MW of projects. Many of these developers have a solid process in place to develop projects internally, while others are purchasing portfolios from the same.
4. Many solar developers of projects or portfolios of projects still lack capital. Few solar developers realize just how much equity is necessary to build a portfolio of solar projects, especially without a 1603 Grant in place. Now that solar projects require a buyer for the solar investment tax credit (ITC) (unless you have tax capacity), a developer must have the wherewithal to indemnify the buyer for the full amount of such ITC in the case of a recapture event. As a result, even many of the most successful solar developers in today’s market are starting to look for more significant sources of capital.
5. The equity capital provided for solar development still does not seem to meet the returns of the market. To date, only sale-leaseback buyers are willing to accept 7%-8% after-tax, unlevered returns. These buyers are purchasing deals at the date of delivery and still require developers to retain a decent amount of project risk. At the same time, developers that want to own their own projects require a 10% unlevered return to develop a project. Despite the reduction in panels and development costs, few projects seem to meet these 10% return hurdles at the end of the day. Accordingly, many of the projects getting done must produce lower returns. This phenomenon leads many of us to question where the low-cost capital is coming from for these projects or a desire to understand how the developer is otherwise justifying such returns.
6. The market continues to be clouded by panel manufacturers, inverter manufacturers, engineering, procurement and construction (EPCs), etc., that want to offer financing terms, as well as their products or services, in return for development of projects. Some of these parties are responsible for the lower return projects, but not all of them.
7. Some solar developers – especially in renewable energy credit (REC) markets – are taking a risk/reward approach by taking large amounts of risk on the viability of selling RECs over the long-term and at sufficient pricing to provide private equity-like returns (more than 20% levered).
8. Finding debt for solar distributed-generation (DG) projects is not easy. More and more regional banks are starting to jump in the game, but they are still reluctant to provide long-term loans (e.g., 15 years), and generally do not understand solar well enough yet to get through the due-diligence process or tax-equity financing easily.
9. The tax equity market for small-scale solar deals still remains limited. There are many players/brokers coming into the market trying to fill this void in the market, but tax-equity deals for small-scale solar deals are just as hard, if not harder, to complete than large-scale deals. Each project must go through a separate due diligence, even when included in a diverse portfolio of projects.
As I would urge our own clients, when looking at the small-scale solar market, each deal needs to be examined and analyzed on its own merits and economics. There is no panacea to the distributed-generation sector or competition for transactions would not be so segmented and the market would consolidate to only a few major developers. That may occur eventually, but for now, all developers can continue to succeed so long as they focus on the economics of each deal and proceed to build their own track record of completed systems.
For more information, contact Steve O’Day or Phillip Hoover.