Large scale investments in solar power is a relatively new but large market. In 2018 alone, $130.8 billion was invested globally, according to Bloomberg. Though representing a 24% reduction from 2017, this reduction was mainly caused by reduced capital costs of solar panels.
Landscape of Solar Investments
Most solar investments take place in China, the US being the 2nd market, followed by Japan, India and Germany. Solar investments are overwhelmingly private, with 90% of the investments in 2016. Investments in both debt and equity.
Landscape of solar investors
Solar Investors are a varied group including
- Traditional power market investors such as Independent Power Producers (IPP) and utilities
- Major developers
- Institutional investors such as pension funds, banks, funds or private equity
- Large energy users investing in generating capacity
- Government and climate funds
Solar investors are predominantly private parties, with 40% of the investments done by major developers. Governments and climate funds however only contribute 5% of all investments according to IRENA.
In this article, we will discuss direct solar investors, i.e., investors that invest in solar farms. We do not cover investments in for example solar equipment producers, or indirect investments in companies that in their turn invest in solar farms.
In general, Renewable Energy projects require a high upfront investment, with relatively small annual operating costs.
For commercial projects, the revenue is driven by the buyer of the electricity, the off-taker, with whom a Purchase Power Agreement is signed. Typicaly the range for the project equity target return is :12-18%, the debt one between 6-10%, and the actual returns one 13% to 21%.
For residential rooftop projects, due to the smaller scale the costs are slightly higher, leading to <10% return. However, that still means the consumer can earn back the solar investment in a few years.
CAPEX and OPEX models
For the actual end-user or off-taker of the electricity, be it a utility, a consumer or a company, there are two archetypes of solar investments: a ‘capex model’, which means acquiring the solar panels and benefit from the produced electricity, or an ‘opex model’, which means the paying for the panels over time. The opex model requires a solar investor willing to make the initial solar investments. The solar investor will usually charge the off-taker a price per unit consumed through a Power Purchase Agreement (PPA), or a fixed rate through a lease agreement.
Both lease and PPA agreements will be a binding contract over a long period of time to ensure the solar investor’s return, and at the end of the period, the panels may or may not become ownership of the offtaker.
CAPEX model investments
For a CAPEX model investment, the offtaker will invest in solar panels to reduce the electricity bill. The investment analysis will thus contain the following three key elements:
- Initial investment (and yearly running cost) of solar panels
- Electricity costs saved
- Depending on local regulation, extra revenue received from selling power when not consuming
- Tax effects
Solar Investment Characteristics
Renewable energy, more than conventional energy, require large upfront investments; not requiring any fuel and minimal maintenance to run, yearly operational costs represent only 0.5% – 1% of initial investments, or less than 5% of the lifecycle Levelised Cost of Electricity (LCOE), vs up to 50% for coal power.
Solar panels only produce electricity during sun hours and the production depends on the intensity of the sun. The production hence varies over the day, between days (due to rain and clouds) and seasons. However, over a year, the total electricity produced is predictable with ~10% deviation between P50 and P90 production.
Solar Investment Considerations
Solar Investors need to consider the following when developing a project:
A company can execute the project on its own behalf. The developer then owns the equipment directly and will receive the revenue from the offtaker. The second option is for the investment to be done via a separate legal entity, the Special Purpose Vehicle (SPV). Though executing the project without SPV (‘on balance sheet’) is simple and efficient, a SPV offers the following optionality:
- Acquire non-recourse loans from bank
- Have different solar investors per project
- Shield the company from project risk
For the solar investor, the PPA terms should ensure the revenue over the lifetime of the project. Critical elements are:
- Electricity tariff, price per unit
- Period for which the tariff is fixed
- Covering unforeseen circumstance such as
- The offtaker not able to offtake the electricity
- Offtaker terminating the contract
- Failure of the solar farm
As opposed to other businesses, a solar farm most likely will only have a single client/off-taker, and due to cabling, one can not easily switch to another buyer. As a result, a solar investor will closely analyse the offtaker profile, such as financials, credit rating, business health.
OPEX model investment analysis
The OPEX model solar investment analysis is more complicated than the CAPEX model. The solar investor will consider the following key elements:
- Initial investment (and yearly running cost) of the panels
- Revenue generated by selling power
- Tax paid
- Effects of the financing structure, such as loan repayments, dividend payments
A solar investor would typically test for multiple scenarios, such as:
- Delay in project execution
- Higher or lower cost
- Higher or lower production
- Different price ranges after the locked-in period
Solar investments is a relatively new investment category. The return is stable and can be secured with a credible offtaker, however the upfront capital investment is high and leaves capital locked up for a long time.