Financing is quickly become necessary for the successful adoption of renewable energy in the United States. If you want to sell geothermal or solar projects, you need to understand finance.
Great Resources
Finance 101 for Renewable Energy Pros
Finance 101 for Solar PV Pros
Mastering Commercial Solar Finance
The Complete Guide to Geothermal Tax Credits
I’ve been doing a lot of interviews with companies that are selling renewable energy services, but what I’m really interested in learning about is how property owners are making their purchasing decisions. If we can better understand the customer, it will be easier to sell to them.
After I published some data on the Massachusetts solar PV market, Gary Best reached out to me with a few questions about the data.
Gary is a homeowner in Massachusetts that recently purchased a solar PV project for his house and then started a great website for other homeowners in Massachusetts. What’s really great about his website is that it’s a “homeowner to homeowner” site. He’s not selling anything. He uses language that he understand and discusses the research that he did when deciding to purchase his system.
I spoke with Gary for a little longer then 15 minutes and learn A LOT of valuable lessons that will be useful to any solar company that wants to improve their sales.
Here are the 5 major learning points from our conversation
Here’s a big learning point. Gary was just doing this to save money, it wasn’t about being green. He went with solar because he thought got a lot of sun and DID NOT consider other technology (geothermal, energy efficiency). However, AFTER installing the system he’s started researching other ways to save money in his bills. Solar is a good introduction technology, then you can sell other technologies and services!
Gary first thought about solar when he received a post card from Sungevity, but he didn’t end up buying from them for a few reasons. 1) They didn’t go a site visit 2) He wanted to OWN the panels not lease them
Gary said there was a huge distinction between companies that did a phone interview vs a site visit. He was much more confident in companies that actually came to his house. He could actually meet them, get to know them, and it gave him more confidence that they knew what they were doing.
Gary had a simple buying criteria, he wanted to get meaningful returns and he wanted to trust the contractor.
He didn’t go with a 100% lease because he would only save $30 per month, but he didn’t have the cash to purchase it outright. He went with a 3rd party loan that costs him 8%. He owns the panels, but has some debt on them. He saved $100 a month from day 1, and will own them in 7 to 8 years.
Here’s our full discussion
Gary, what’s the story of your solar system? Why and how did you decide to go solar? When did it happen?
Gary always thought his house would do well with solar, his house is facing south and he noticed he always got a lot of sun in the summer
He first thought he could do it when he got a post card from sungevity and looking at the numbers it showed he could save $30 a month. At the time, he thought that would great, $30 for free was great!
However, he started doing research remembering that “owning is better then leasing” and he decided to do some research to figure out how much it would cost to buy.
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The Massachusetts Clean Energy Center has made data on the number of project funded through the Commonwealth solar grant available public. Find the on MA CEC’s website or download it here in excel format.
The data is very detailed and tells an interesting story that can be use for industry analysis, competitor analysis and for market research for those companies still looking to enter the residential PV game. My advice to any company that is looking to enter the residential solar PV industry should look at this data to determine which companies are growing the quickest, in which cities and what their costs are.
A few notes about the quality of the data
It’s based on state grants delivery by the Commonwealth Solar program so in 2012, this is only for residential projects.
Every residential project may still not be listed in the data becasue there is likely some projects completed that did not receive MA CEC funds.
Installed costs, size, etc are also self-reported by the installers and the MA CEC takes the data at face value. It’s unlike installers would lie, it’s just important to note.
In 2010 and 2011, it included both commercial and residential programs but not utility and MW projects that were completed
Massachusetts switched to a SREC based incentive program in 2011.
The data from 2012 is ONLY up to 03/23/12
I spent some time going through the data trying to answer a few basic questions and here are some of the highlights
Here are the question I looked into:
How many active installers were there in 2010, 2011, and 2012?
What were the average installed costs in 2011, in 2012?
What was the cheapest system in 2010, 2011, and 2012?
What percentage of systems were financed in 2010, 2011, and 2012?
What is average installed costs of a financed system vs cash system in 2011? In 2012?
What was the value of all residential projects installed in 2010 worth? In 2011? In 2012?
What percentage of the market is dominated by large installers (those that do more hen 25 systems per year) in 2010? In 2011? Who are the largest installers and who is growing the fastest?
Lastly, I discuss what other questions could be answer from the data, and the story this tells for existing solar companies or companies looking to enter the Massachusetts market.
Let’s get into the details 🙂
1. How many installers were active in 2010, 2011, in 2012?
2010: 92
2011: 99
2012: 45 (only in the first 3 months)
2. What were the average installed costs in 2011, in 2012?
2011 : $5.65/watt
2012: $5.05/watt
A use mean average and not median. A $.60 reduction in the installed cost of residential projects is a reduction is 10%. Not bad, but this is actually below industry averages across the US for the 2010/2011 period.
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In order to sell solar PV projects, especially commercial projects, you need to understand finance. Understanding finance will allow you to calculate and communicate the financial benefit of a system to your client.
Download the Commercial Solar Finance Model
Read the Guide to Financing Commercial Solar Projects
Solar Executive MBA
LinkedIn group: Best Practices for Financing Commercial PPAs Between 200kW and 5MW
60-minute interview with Solar Executive MBA instructors on financing commercial solar PV projects and power purchase agreements (PPAs)
50-minute interview on what commercial solar developers need to understand about yieldcos
This is the follow-up to Finance 101 for Renewable Energy Professionals. In that post I did walk-throughs and provided examples of all the financing terms you will need to know (IRR, NPV, discount rates, nominal cash flows, etc.) and how the terms of your financial analysis will impact the returns.
In this article I’m going to discuss how finance applies to residential and light commercial solar PV. I’ll discuss how to plug solar-specific installed costs, incentives, etc. into a financial model so that you can properly understand the returns of a specific project and then communicate those returns to a client.
The post is a basic walk-through of solar PV financing, but some of these topics get complex quickly and are dependent upon specific customers, utilities, and geographic areas. I’ll try to keep it basic but provide further reading and note where and why subjects get more complicated so you can do your own research.
I’m going to use Massachusetts-specific numbers because that’s the market I understand best. I will note if you should look into different elements depending on where you are located. For example, you may have time-of-use electric pricing in your area and you may not have SRECs, like we have in Massachusetts.
Here is the outline of what I’m going to discuss:
1. Government Rebates
The difference between one-time and production-based incentives
The value of tax credits vs rebates versus depreciation
How to calculate MACRS for commercial clients
2. Installed Costs: Gross and Net
Where to find good industry averages for installed costs
How to find gross and then net installed costs for a project
3. Operations and Maintenance Costs
The variables that drive operations and maintenance costs
How to calculate O+M costs based on a percentage of installed costs or by dollar amount of kW installed per year
4. Value of a Solar kWh based on Customer Type
The value of a solar kWh is worth EXACTLY the cost of the power it is replacing
Understanding how a residential client can be billed
Demand charges versus usage rates for commercial clients
5. Conclusion and Example Customers
Lastly, we’ll run through a few examples of different residential and commercial clients and determine the financial viability of the projects based on their IRRs and NPV, given a discount rate.
What is the impact of commercial client’s demand charges on the value of a solar project?
[gravityform id=”23″ name=”Download the Finance 101 for Solar PV Pros Excel File”]
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This is the last interview in the 5 part series we did with BrightGrid Renewable Energy Finance on residential solar leases and it’s one of the best. We focused most of the interview on specifics of what solar sales and marketing professionals need to do to increase revenue.
Sign up for the full free course here: How to Use Solar Leases to Grow Your Business
The premise of the interviews and the free course is simple. Solar leases are becoming a standard in the solar industry so we wanted to provide detailed information about how they work and how solar companies can use them best.
I spoke with Bret O’Neal, who is a channel manager at BrightGrid. Bret works with all of BrightGrid’s installers on selling residential solar leases. Bret has great insight and pragmatic advice for contractors on how to best sell a lease, what new solar contractors need to focus on, and the difference between cash and lease customers.
Watch the full interview here:
We spoke for 18 minutes, and here is what we talked about:
Question: What are the top 3 characteristics that make lease customers different from cash customers?
1 – The largest is that lease customers are the majority of the market and that cash customers are a small percentage of the market.
2 – The next difference is that the lease customer is more motivated by simplicity and convenience. A cash customer is more focused on the specifics about the technology and their financial return.
3 – Finally, the lease customers are primarily driven by money and not the environment.
Q: When you’re dealing with managing the sales team, what would you say is really important for a residential installer to understand about the difference between lease and cash sales? How does the difference impact their day-to-day operations?
Selling cash projects is a different sales process all together
The details of the cash sales will be more on the specifics, both in technology and finance.
Selling a lease requires a sales person to really dumb it down and keep it simple and stupid. Going into details will only complicate the sale.
All the lease customer wants to know is how much it will save them every month and what will their obligations will be.
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Understanding finance is required to sell renewable energy projects. It’s needed to communicate the value of both residential and commercial projects, and for all types of technologies: solar PV, solar hot water, and geothermal heat pumps.
The reason financial metrics are important is that all of these technologies are financial investments. Thus, you must be able to communicate the financial value of the system to the client and ‘payback period’ does not do this. I repeat, don’t use ‘payback period’, and we’ll talk about why later.
The key to understanding financial analysis is a small contradiction. The actual financial calculations are not difficult once you have all the numbers. The challenging aspect of financial analysis is that many of the numbers the model depends on are assumptions and projections — things you can’t always nail down. Thus, it’s important to perform sensitivity analysis to see how a few critical variables will impact a project’s returns.
Another challenge is communicating exactly what these numbers mean to a consumer, so they understand it. In order to do this, you need to understand what each term represents and how to explain it in plain language.
I’ve noticed that the information and educational resources on basic financial analysis for the renewable energy industry is lacking. While many PV installers can derate conductors easily, they may not know what the NPV of an array is. Most geothermal contractors can size of a heat pump, but few know that the typical IRR of a system is when it’s replacing an oil boiler. We need to change this.
Let’s Start With the Basic Terms
Below are the basic financial terms you will need to understand to perform financial analysis on any renewable energy project. I’m simply going to discuss what each variable is and how to calculate it, with an example from excel. At the bottom of the article you’ll be able to download the excel file, so you can play with it yourself.
It’s critical to remember that the variables that impact these metrics will change based upon technology and incentives, but the underlying cash flows that create the financial returns will remain the same. NPV is NPV.
Here are the terms will will discuss
Net Present Value (NPV)
Present Value
Future Value
Discount Rate
Internal Rate of Return (IRR)
Sensitivity Analysis
Net Present Value (NPV)
NPV is the most recognized metric used to analyze capital projects. NPV takes every known cash flow in a period, negative and positive, and discounts back to today to see if the project is profitable or not. If a profit has a negative NPV, it should not be completed. If it’s zero, it doesn’t matter if a project is completed or not, from a pure financial perspective. If it’s positive, all else equal, it means the project should be completed.
Unlike ‘payback period’, NPV provides a specific dollar amount that you can use to determine if a project is profitable or not. HOWEVER, NPV analysis can vary widely because it is extremely dependent on the discount rate used. On residential sales in particular, an acceptable discount rate can change greatly depending on the customer.
The analysis can also vary widely due to the confidence one has in the financial assumptions used to create the model. It is key to perform a sensitivity analysis when performing NPV analysis because most times the cash values being used are projections and it cannot be said with 100% confidence the numbers will be exact.
The equation to calculate NPV is to add together the present values of each cash flow for each period for a project. Here is the formula to calculate present value for a single period.
Present Value = Net Cash Flow / (1 + i)^t
i = discount rate
t = time period.
**Note, I’m using “^” meaning to the power of X, or in replacement of a supercript because our publishing software does not allow superscript. This is also the same script that excel will use if you want to raise a integer to a power of X**
If we had 5 periods, we could calculate the present value for each period, then add those numbers together.
What is the net present value of $500 investment, with 5 unequal cash flows, 50, 200, 200, 300, and 300 at a 5% discount rate?
Figure 1: Adding together the present values of 5 future cash flows to determine NPV
A few notes: The cell in C13 is simply summing the values of C6:C11. Each of the values in C6:C11 is calculating the present value of a single cash flow. Notice how $200 in 2 years, is worth more then $200 in year 3? This is because it’s getting discounted by 5% every year.
Present Value (PV):
Present value is the present value, today, of a future cash amount discounted back to today. Net present value is thus, a series of cash flows all discounted back to today’s terms. For example, what is $50 worth today? It’s worth $50. However, if you wanted to find out what $100 in 5 years would be worth today at a 5% interest rate, you’d need to calculate the present value. Here is the equation.
The equation to find present value of a future cash flow is:
PV = FV / (1 + i) ^ n
i = interest rate
n = number of period.
So, what is the present value of $100 payment in 5 years at a discount rate of 5%
PV = $100 / (1 + .05) ^ 5
PV = $100 / 1.28
PV = $78.15
This means that is someone gave you $100 in 5 years, and you have a bank account with a yield of 5%, it would have been the same value of money if they would have given you $78.15 today and you put the money into the bank for 5 years.
Future Value: (FV)
The future value is asking what the future value is of a present day cash amount, given it is accumulating at a specific interest rate. The best way of describing future value is a typical savings accounts.
If you put $50 dollars into a savings account with a 5% interest rate and take it out in 10 years, how much will it be worth?
The equation to calculate future value is
FV = PV (1+i)^n.
FV = the value of a future cash flow today, given x % interest rate.
PV = the present value of the investment
i = the interest rate of the investment
n = number of periods of the investment
FV = $50 (1+.05) ^ 10
(1.05)^10 = 1.63
$50 * 1.63 = $81.44
In other words, $50 today at 5% interest is EQUAL TO be given $81.44 in 10 years
How about a 10% interest rate?
FV = $50 (1 + .10) ^10
FV = $129.69
As you can see, the interest rate used over the term has a huge impact on the value of the investment.
Discount Rate / Interest Rate:
In the calculations of NPV, PV, and FV, you’ve noticed that we’ve been using an interest rate to calculate the value of money in different parts of time. This value is called the discount rate. Sometimes, it’s referred to as the interest rate (for future value), or minimal attractive rate of return (MARR), which we’ll discuss below.
The discount rate can be somewhat confusing to some. There are critical pieces to understand about the discount rate. First, what it does. Second, how you determine it.
In the above examples of calculating PV and FV you noticed I used an interest rate to calculate the value of cash between a certain period in time and another period in time. So, to define it very simply the discount rate is an interest rate that is the difference between a present value and future value of the same dollar amount. The difference between $100 today and in five years is the discount rate.
How one should select the discount rate is a little more difficult. Many times the discount rate is selected based on a few characteristics. None of these is wrong, it simply depends on the circumstances.
A comparable investment or savings rate. If a homeowner could invest the same money in a CD at risk free interest rate of 5.6%, they will likely use 5.6% as a discount rate for other investments. Also, keep in mind that many times a homeowner might add a few percentage points to a different investment that is not risk free to cover the additional risk.
The inflation rate. If I had $100 in cash and stuffed it in a safe (a place that is not getting interest), and took it out in 5 years, it would have lower purchasing power. To understand how the purchasing power changes, we would calculate the FV of $100 in 5 years with the discount rate being the expected rate of inflation.
Risk tolerance. The more risky the investment, the higher discount rate you’d need to satisfy the level or risk. Having a higher discount rate will decrease the time it takes for you re-coup your investment, given the NPV is still positive. When risk tolerance is being used to determine need returns, it’s sometimes referred to as “Minimum Attractive Rate of Return” (MARR), or the “hurdle rate”.
The thing to remember about discount rate is that while it’s use in the financial analysis is extremely clear, determining what exactly to use as a discount rate is extremely subjective or will vary widely between homeowners.
The impact of a different discount rate can be huge when talking about renewable energy projects because an acceptable discount rate between different homeowners can vary widely. Let’s walk through some examples to demonstrate.
CASE STUDY: A Sample Solar Hot Water Customer in Greenfield, MA.
Net Installed Cost After Incentives: $4,000
Displaced Oil : 130 Gallons with 3 Full Time Occupants
Value of Displaced Oil @ 3.00 Gallon = $390
The life of the system will be 20 years.
Maintenance costs are $200 at year 10.
All other equipment failures will be paid by the manufacturer
Here’s the T*Sol estimation for the system production and load.
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