Open Letter to Developers: How to Navigate Solar-Plus-Storage Project Finance

Energy storage is on track to become a
billion dollar annual industry
in the next three to five years,
while many solar developers view it as the next
viable growth opportunity
. But while developers and some small
private equity firms move into solar-plus-storage, major banks are
hesitant to dive in.

Without actualized financial backing, full-fledged market growth
is stalled. What the industry is battling is a classic case of
chicken or the egg: will more development spur more investment, or
more capital bring in more projects?

The challenge: missing key financial must-haves

Over the last year, countless developers have added storage to
their service offerings, and for good reason — energy storage
installations totaled 338
megawatts in 2018, and will grow to 3.9 gigawatts by 2023. But in
their excitement to pursue storage opportunities, some developers
are glossing over key financing requirements.

Foremost is a consistent and reliable revenue stream. To date,
the majority of existing storage assets have been installed under
pilot programs with large one-off incentives, much like most solar
projects eight to 10 years ago. The heavy reliance on incentives is
causing projects, and the market more broadly, to be volatile —
as it is constrained or propelled by cumbersome and slow-moving
policy issues that are difficult to predict.

When the Federal Energy Regulatory Commission (FERC) approved
Order 841 in February of last year, for example,
projects stalled in their tracks
as the
industry debated
how each independent system operator (ISO) and
regional transmission organization (RTO) should accommodate
batteries into the grid. Transitioning from inconsistent
incentive-backed projects  to market-based project financing will
require bankable long term revenue streams.

Equally important to consider are the operational risks of a
solar-plus-storage project. With little market penetration, there
are a number of questions yet to be answered about
solar-plus-storage. Wood Mackenzie reports that while
storage-plus-renewables have become an increasing phenomenon in the
market, there are still few examples of its economic outcomes. This
is in part because the technology itself is ever-changing, which
presents issues for financial modeling.

While Lithium-ion has led the charge among battery chemistries,
alternative battery options have infiltrated the industry and
brought with them a wide range of price points. And as the
technology changes, the software integrations and deployment
strategies that support it have to adapt quickly to be effective.
The changes in battery technologies, software integrations and
price are ping-ponging across the industry, creating a game
that’s a little too exciting (and risky) for investors to join in
without careful, nuanced vetting.

Financiers look for fixed cash flow, strong software and
deep balance sheets

These unknowns make it difficult to model a straightforward
projection of revenue. Unlike solar, assigning a value isn’t as
simple as understanding the relationship between energy produced
and the PPA price. For PV systems, as long as there is a
financeable cash flow stream, values can be attributed to an asset,
then stacked and calculated. Even for some simple storage projects
— a capacity payment for a storage asset that’s concrete, with
some risk analysis, can be valued.

For most storage projects though, it’s a bit trickier. Some
developers are penciling a merchant revenue that they expect the
system to produce and then attributing that value to the asset. But
layering merchant value behind a solar system is an issue for many
financiers because projected merchant revenue streams vary too
widely,
making them too unstable to get behind
.

At this stage, financiers are staying away from large merchant
evaluations and looking for fixed or largely fixed cash flow, or
revenue flow that can be financed. In the meantime, developers
should prepare for any kind of risk associated with value stacking
or merchant valuation on the asset to accrue to the equity holder
or developer of the asset, at least for the next few years as the
industry continues to emerge.

Another major piece of the valuing assets puzzle is software.
Software can be either a saving grace or a silent killer in a
financier’s decision to invest in a solar-plus-storage asset. Not
only does much of the financial risk of the assets come from the
software, but much of it can also be solved with it.

For example, in order for storage to qualify for the Investment
Tax Credit, a minimum of 75 percent of the storage asset must be
charged by the solar system it’s supporting. Otherwise, the
project doesn’t qualify. Software is key for operating and
maintaining the solar assets to ensure that the requirement is met.
At this point, financiers are looking for strong software
providers, with a proven track record and deep balance sheets, to
take on that risk in the asset.

Considering these factors, it becomes clear that the current
constructs in most regional markets are not ready for storage
financing. Either there is a lack of incentives to install storage
at scale or the incentives are not enough for developers and
financiers to assume the long term operational risks in rolling out
storage at scale.

If there’s a will (or a program offering a fixed add-on),
there’s a way

Luckily, there are promising programs lighting the path forward.
The Massachusetts SMART
program is attractive because it provides a fixed, bankable
financial bonus for PV projects with storage. This takes away the
possibility for merchant valuation of assets, instead adding a
fixed value of about 3 cents per kilowatt-hour to 7 cents per
kilowatt-hour to the PV project and ushering in a straightforward
cost benefit analysis for risk-rejecting financiers.

Another is California’s Self Generation Incentive Program
(SGIP)
which offers cash grants to developers for storage in
exchange for their help peak shifting the grid. This is enabled by
the strong penetration of solar in the state, which has brought
traditionally higher daytime retail energy prices down and lower
nighttime prices up.

By generating energy during the day, then releasing it through
storage at night, storage projects are helping flatten the energy
demand curve, bring down nighttime retail electricity prices and
manage grid peaking. These simple cash grants for storage offer an
easy-to-calculate, fixed value add-on to the revenue stream.

Above all, financiers are excited about these programs and
storage and PV-plus-storage more broadly. Storage solves issues
that are created by solar, and solar’s not going anywhere.

***

Sripradha Ilango is the chief financial officer at the
independent renewable power firm Soltage.

Source: FS – GreenTech Media
Open Letter to Developers: How to Navigate Solar-Plus-Storage Project Finance