As we noted in our previous blog about things that utility managers new to solar should know, utilities typically finance solar via direct ownership, power purchase agreements (PPAs), leases and loans. For the purposes of introducing utility solar financing to people new to or unfamiliar with the space, let’s focus on three: solar PPAs with a third-party owner, PPAs with an unregulated utility independent power producer (IPP), and outright ownership.
Third-party solar PPAs
When it comes to financing, the main engine driving the growth of the U.S. utility solar sector has been third-party PPAs. The comparatively low-risk package is appealing to many utilities, since they buy the power at a fixed—and increasingly competitive—rate for 20-25 years. Recent PPAs signed in several parts of the U.S. have come down to levelized rates of just pennies per kilowatt-hour, beating out wind and natural gas peaker plant bids. Locking in such low rates (and benefiting from solar’s very stable fuel price of “zero”) has turned heads in the utility sector.
Other advantages of third-party solar PPAs include:
- Little to no capital costs. In some states, solar PPAs allow utilities to meet their renewable portfolio standard and sustainability goals without using capital dollars, freeing utility managers to use those funds for transmission and other improvements.
- O&M included. The solar PPA provider takes cares of all operations and maintenance costs, and unlike the fixed costs of a loan or capital lease, utilities only pay for the negotiated cost of each kilowatt-hour generated.
- Easy financing for nonprofit utilities. Nonprofit utilities and rural electric co-ops cannot take advantage of the federal 30% solar investment tax credit (ITC), but these incentives can be captured through the negotiated PPA savings.
- Today’s solar PPA structures vary greatly. Solar PPA developers can customize the agreement so that it satisfies the goals of each party and create a win-win-win for the developer/owner, the utility, and the mandates of the public utility commission.
Unregulated utility IPP-owned generation
Some of the big names in the utility business—Mid-American, Southern Company, NextEra, Dominion, and Duke—are involved in large-scale solar through their unregulated subsidiaries as well as their main business units. Some of these IPPs were early entrants into utility solar. Utility IPPs already own at least 50% of all operating utility-scale solar and have more than 5 GW of the projects in development, according to GTM Research. Many more development-grade projects will be bought by IPPs once they become operational. These utility IPPs don’t usually originate the projects—they buy the solar PPA-ready project from established developers in regions they’re familiar with once the project is under way.
Since these companies are IPPs, many of the same benefits one would find from a third-party PPA apply to this financing model as well, with some additional potential advantages:
- Bridging the unregulated-regulated gap. Due to their unique status, unregulated IPPs have the freedom to seek a variety of offtakers, including regulated and unregulated utilities, municipal utilities, and co-ops.
- Corporate customer opportunity. Unregulated IPPs offer their regulated affiliates a chance to meet rising demand for renewables from key corporate customers without having to partner with another independent developer from outside the service territory, according to GTM Research.
Utility-owned generation
As anyone in the utility business knows, owning one’s own generation sources has been part of the prevailing business model for decades. Utilities have added generation capacity from time to time to meet increasing demand and boost the value of the company. Whether it was a coal-fired power plant, nuclear facility or dam-based hydropower, a utility or consortium of utilities owned the generation infrastructure.
Although more utility solar plants operate under a PPA-type agreement, there are still gigawatts of solar owned and operated by the utilities. Some industry experts see inherent advantages to the utility-owned model:
- Tax incentives. Investor-owned utilities can take advantage of all local and federal tax advantages, including the 30% solar investment tax credit and modified accelerated cost recovery system (MACRS) with up to 50% bonus depreciation. This means that in the first year of service, companies can depreciate 50% of the cost basis while the remaining 50% is depreciated within the normal MACRS period. However, this bonus percentage decreases in subsequent years, reaching 0% in 2020. Of course, each state may have additional tax incentives that reduce the upfront or long-term costs.
- Simplicity and control. Even though installed solar system costs have dropped significantly, it’s still relatively expensive to finance solar projects via complex partnerships of tax equity investors. Self-financing, owning, and operating the solar plant allows utilities complete control of their assets and how they are integrated into the grid.
- Low-cost capital. Utilities have access to low-cost capital, something that can be even more helpful to their margins if they can monetize the tax benefits, and will be more cost effective over the operating lifetime of the system.
- Utilizing unused land and brownfields. Another advantage is the availability of underused land in the utility’s portfolio, such as brownfields used for prior utility plants. The potential to turn unproductive real estate into a power generation asset and revenue source is appealing.
We know that this blog provides only a brief introduction to the burgeoning utility solar financing sector, so we again encourage you to reach out to the Inovateus team with any questions you might have. In future blog posts, we will take a closer look at some of the finer points of solar financing, plant commissioning and operational issues, and the rise of community and corporate solar.
By Nathan Vogel, director of strategy, Inovateus Solar
