Throughout Array’s 30-plus years in utility-scale PV, we’ve seen major shifts in the solar energy market. As the market currently expands with utility-scale PV assets, more and more lenders and investors are seeing the potential in funding these projects.
Considering that these are multi-million-dollar endeavors, it’s remarkable the amount of guesswork that can still sneak into the planning of many solar projects. Ensuring a profitable return requires a careful assessment of risks and avoiding common pitfalls.
In this three-part blog series, we’ll look at these risks for lenders. We’ll also speak to insurers about mitigating risk when underwriting projects.
We’ll do this by :
- Addressing common pitfalls and solutions on how to realistically mitigate them
- Examining the solar market evolution over time relating to these risks and what’s happening in the current market, and
- Discussing why trackers are critical to risk profile and giving practical insight into design and procurement for an optimal solar site
Risks to PV assets and in long-term asset management
Some risks overlap across categories for lenders and insurers. Six major solar project investment pitfalls include:
- technical risks,
- construction risks,
- climate change,
- warranty liability,
- PPA prices and cost pressures, and
- utility-scale technology innovation.
For a good return on investment, the Levelized Cost of Energy (LCOE) is a primary concern. Considerations for LCOE involve many technical aspects of the project, including costs associated with capital expenditure (CAPEX) and operational expenditure (OPEX), the project’s lifespan, energy production degradation over time, and yield estimation.
The bankability of each project is tied to accurately assessing each of these technical inputs with financial impact in mind.
TÜV released a report in Science Direct last year revealing that 30% of the PV power plants they investigated showed defects, and 50% of those defects were caused by installation errors. An increase in the use of low-quality materials and poor installation practices mean that performing due diligence into reliable equipment, vendor selection, project component choices, and proper installation is critical.
We’ll talk more about assessing component testing and performance in the next part of this blog series, “Historic and Current Market Risk Assessment for Utility-Scale PV Solar Lenders and Insurers.”
Lender and insurer interests overlap here. Project timelines, costs, and performance all coalesce under the construction phase. Costs must be kept in check, delays and incompletion must be avoided, and quality assurance is everything.
During construction, there’s a higher potential chance of damage to equipment or injury to people. Both investors and insurers want to avoid these liability issues.
Lenders can protect their investment by adding the appropriate liability insurances into contracts. Insurers are more confident in the project they’re underwriting when it’s driven by investors and developers who are concordant with quality and safety standards.
More frequent and extreme global weather events affect both sides of the financier/insurer dynamic. These disasters impact the construction and operation of PV plants, hurting or halting investor returns and potentially causing sizeable insurance payouts. We have already seen documentation of numerous PV power plants heavily damaged and even completely destroyed by hurricanes.
More intense and damaging weather also poses an unpredictability risk, making PV sites more difficult for underwriters to assess. Insurers lean on the side of caution for more risk-prone projects, which in turn leads to higher insurance costs.
Some companies now offer utility-scale insurance covering weather events and other standard operational risks.
While no equipment is fail-safe, successful long-term projects are built with extreme weather resilient components built to withstand intense conditions. This is the best hedge against damage, downtime, and payouts. More on this in post #3 of this blog series for lenders and insurers: “Why PV Trackers Are a Critical Component of a Risk Profile for Utility-Scale PV Solar Lenders and Insurers.”
Product manufacturers offer warranties that cover equipment malfunction or performance drops below a certain level. However, it’s important to verify (before any issues arise) that the property insurance covers problems outside the warranty coverage or timeframe.
Another potential pitfall is counting on a component manufacturer’s warranty made useless should the guaranteeing company claim bankruptcy or exit the market. This is unfortunately already a common occurrence in the solar PV industry, as there are many warranties that are no longer in effect.
Verifying that the manufacturer has an insurance backup or acquiring additional warranty insurance is incumbent upon financiers. Insurers too, would be wise to make sure this potential coverage gap is closed.
PPA prices and cost pressures
Wholesale market price reductions and regulatory environment evolution is increasing pressure for developers to stay competitive. The corresponding decrease in PPA prices erodes returns for investors.
The Q1 2020 LevelTen PPA price index report marked a 0.9% drop in solar PPA prices from Q1 2019 to Q1 2020. The Q2 2020 report reported that 8% of project developers anticipated a further drop in PPA prices in response to the Next Generation EU Fund.
Investors can hedge these risks by increasing the minimum expected rate of return and optimizing energy production. Since the reduction in PPA prices has essentially reduced the value of each unit of energy produced, there is less room for performance shortfalls. The need to produce maximum energy levels will matter more than ever.
Another step would be to ask for solar production insurance (SPI). This specialized insurance calculates the kWh output of solar projects (including PPAs) and addresses underperformance risk for both energy buyers and investors.
Utility-scale technology innovation
Developing plants and components with fewer moving parts and complex interconnections is on the rise. This helps reduce failure points in the system. New technology, such as bifacial modules, is also alluring for developers.
While this is a good thing, it’s increasing the number of requests for repowering or retrofitting relatively young solar sites. The best course of action is to weigh the value of a retrofit vs. the cost and to thoroughly understand tax-deductibility needs before repowering.
Risk analysis refinement
Lenders and insurers in the space are feeling pressure to refine and improve risk analysis to avoid unexpectedly high payouts in insurance premiums or shortfall in energy production. These issues lead to a default on installments to lenders and financiers.
For more on how the changing utility solar market is making risk assessment more complicated and valuable, see part 2, Historic and Current Market Risk Assessment.