FINANCE: FROM MAINSTREAM TO LOW-INCOME MARKETS

“The energy storage industry needs better financing to break out of its early stages.” Ivan Penn and Russ Mitchell, LA Times¹

Low- and moderate-income (LMI) communities have lagged far behind commercial and upscale markets in implementing solar+storage technologies. Contributing to that challenge is a persistent financing gap. There are new ownership and finance models beginning to address the economic barriers to deploying resilient power technologies in disadvantaged communities, as well as market-building interventions that foundations and advocates could use to leverage additional sources of capital to advance solar+storage solutions in these markets.

Issues

There are two distinct markets that are central to a discussion of battery storage finance.

First is a broad market of different segments of creditworthy commercial customers able to access conventional financing; and second, there is a separate market of property owners and project developers seeking financing for affordable housing and community facilities in LMI communities.

In the larger commercial markets with strong utility rate structures and policies, we are starting to see significant commercial activity for battery storage that is supported by robust financing tools.

A key finance tool commonly used by independent power producers for conventional power plants is non-recourse project financing. In these transactions, the credit risk is limited to the project itself; the project sponsor is not obligated to backstop the project’s loan payments. Non-recourse project financing allows project developers that may not have large balance sheets to be able to access financing on commercially reasonable terms.

Now we’re beginning to see more battery storage projects be developed with non-recourse project financing (2). Least risky are those projects where loan payments are fully covered by payment streams under long-term power purchase agreements (PPAs) from investor-owned utilities. There is also an increasing number of projects that combine merchant revenues (non-contracted payment streams) with contracted utility PPAs. The more loan repayment relies on merchant revenues, the greater the risk and the higher the cost of financing.

In 2017, Macquarie Capital, with CIT Bank, closed on the first non-recourse project financing facility ($200 million) for a portfolio of behind-the-meter (BTM) commercial projects totaling 50 MW of battery storage systems. The projects were acquired from Advanced Microgrid Solutions and are located at commercial, industrial and government properties throughout Southern California (3).

Through the acquisition of 80 percent of the start-up Green Charge by ENGIE (a French multinational electric utility) in 2016, Green Charge now has direct access to capital markets and nonrecourse debt to build out its BTM pipeline of commercial and industrial projects and expand into utility scale projects (4).

These types of acquisitions are a clear sign of financial confidence in the energy storage market. And in the monopoly utility states without competition, large-scale energy storage projects are typically rate based, solving that financing issue. Captive customers are obligated to repay utility-scale storage projects through their electric bills.

This is also occurring in one state, Massachusetts, which is a competitive, restructured state. Massachusetts has allowed its electric utilities to rate base energy storage projects as a “non-generation asset.” (It should be noted that where energy storage projects can be financed by utility ratepayers, it can create an emerging problem of utility market power that could undermine competitive, BTM markets.)

Outside of the vertically integrated monopoly states, new energy storage market activity is dependent in large part on firm and clear regulatory signals and state and federal policies.

The most active commercial storage market is in California and is driven by a three-legged stool of high demand charges, an aggressive utility storage mandate, and the state’s Self Generation Initiative Program (SGIP) incentive.

That combination has resulted in an active market of new storage start-ups and other solar companies moving into the storage market with well-financed products and services on offer. A case in point is the partnership between Generate Capital, Sharp’s Energy Systems and Services Group and SolEd (a solar+storage developer structured as a B Corporation focused on the municipalities, schools and non-profit organizations markets). Generate Capital has been able to secure California energy storage incentives for solar+storage systems to reduce utility costs for six California public schools (5).

In commercial markets, the key to being able to finance battery storage projects rests on policy. Strong state mandates and incentives, coupled with federal incentives like the paired solar+storage investment tax credits (ITC), have opened a path for financing portfolios of storage projects. If other states want to see their storage markets develop and bring in finance players into that market, they need to implement similar storage policies. The low-income market is another finance story entirely. The dramatic success of clean energy technologies like solar PV over the last decade has largely bypassed disadvantaged communities.

Contributing to this lag in market uptake is a persistent financing gap. Solar+storage projects are vastly underrepresented in affordable housing and community facilities across the country (6). Current models of financing clean energy systems do not sufficiently serve low-income communities, if they serve them at all. That is, there is a lack of capital to invest in these systems in these markets.

Why is it that solar+storage projects that could reduce utility bills and create more resilient power systems for people who need the benefits the most (7) are unable to reliably access financing?

Many nonprofit property owners serving low-income communities are viewed by lenders as having limited cash flow to service additional debt, making it difficult to access financing for energy upgrades.

Additionally, nonprofit owners of affordable housing or community facilities have difficulty accessing solar+storage tax equity markets. Tax-exempt entities have little if any tax appetite and the tax equity investors that have purchased low-income housing tax credits (LIHTCs) for affordable housing projects have little experience with how solar+storage projects and their ITCs perform in multifamily housing.

In the case of stand-alone solar PV systems, third-party ownership and lease financing models have greatly expanded the market for solar PV by providing no-down payment, 100 percent financing. But in many instances, it has also obligated property owners to long-term leases with recurring payment escalators and unclear bundled operating, management, and financing costs—which present an especially tricky problem for LMI customers or property owners who may have little ability to absorb increasing costs. For these and other reasons, residential direct ownership of PV systems overtook solar leasing in the United States in the last quarter of 2016 (8).

To overcome some of these financing obstacles in low-income communities, in 2017 Clean Energy Group issued a report, A Resilient Power Capital Scan (9), that identifies multiple barriers to financing solar+storage technologies in low-income markets and proposes a broad range of investment opportunities that foundations and socially minded investors can use to address these barriers.

The report makes the following observations:

There are too few completed projects in the LMI space for other interested building owners to evaluate. That lack of replicable completed projects makes scale hard to achieve.
Property owners and advocates are still largely unaware of the economic, health, and community resilience benefits of solar+storage. This constrains demand for financing.
There are insufficient performance data. Building owners and lenders want to be able to analyze a track record of successful project development and operation over time.
There is too much uncertainty regarding how project pro formas compare with actual operations, information that is important in financial underwriting and structuring PPA and energy service contract terms.
It is difficult for many behind-the-meter building-specific projects to reliably access tax credit investment.
In general, there is a chicken-and-egg issue facing the current LMI market: Predictable access to well-structured finance is needed to justify the work of developing projects, but investors aren’t willing to commit capital without the assurance of a ready pipeline of financeable projects.

Opportunities and Challenges

How the ownership of solar+storage assets is structured will affect the financing options that are available to an LMI housing developer. The good news is that there are several new financing options emerging in the LMI marketplace.

In Clean Energy Group’s March 2018 report, Owning the Benefits of Solar+Storage: New Ownership and Investment Models for Affordable Housing and Community Facilities, four new ownership and investment models were discussed that promise to extend the benefits of solar+storage to affordable housing owners and residents, as well as community facilities, beyond the direct ownership model (10).

First, as a baseline status quo option, there is the immediate direct ownership model. The solar+storage system is purchased and owned outright by the property owner. In this model, a solar+storage developer designs and builds a turnkey system to be owned by the property owner, and the owner retains the greatest flexibility and control over the economic and use benefits of the solar+storage system. The net metering, solar renewable energy certificates (SRECs), and utility bill savings of solar and energy storage systems are retained by the owner.

As tax-exempt organizations, government and nonprofit entities are unable to take the tax incentives associated with solar+storage systems. These tax benefits may include ITCs, LIHTCs, and accelerated depreciation (Modified Accelerated Cost Recovery System, or MACRS).

Second, there is the third-party ownership flip: A third-party entity initially owns the solar+storage assets until the tax equity investor’s tax incentives have been fully used, at which point ownership of the project assets flips to the property owner. The third-party entity (either a special purpose entity created for the specific project or a third-party project development entity) raises tax equity investment to supplement the grants and incentives that have been awarded to the project.

Solar+storage equipment can be installed without any upfront capital cost to the property owner. The third-party ownership of solar+storage assets does not interfere with the existing capital stack for the real estate property, so no consents are required by existing mortgage lenders, and the project does not need to coincide with a capitalization event.

Third, there is the third-party ownership flip using an affiliated entity: Instead of the assets being transferred to the property owner/housing developer once the tax benefits have been fully utilized, they are transferred to an affiliated public purpose entity. Initially, the affiliated entity would retain one percent ownership of the solar+storage assets, and the tax equity investor would own the remaining 99 percent. The affiliated entity would enter into PPAs with the individual property owners and tenants on favorable terms throughout the economic life of the project.

Once the tax benefits have been fully utilized by the tax equity investor, 100 percent ownership of the assets flips to the affiliated entity. Construction and permanent financing to leverage the tax equity investment for the project can be obtained by either the owner/developer or the affiliated entity. The owner/developer and the affiliated entity could serve as co-developers for the solar+storage project, for which they share in the development fee.

Fourth, there is the C-PACE model with third-party ownership: Property Assessed Clean Energy (PACE) financing secures the loan payments through a priority lien assessment on real estate property, providing third-party owners/tax equity investors with additional security and long-term debt sources for solar+storage projects. State and local incentives and favorable financing — including 20-year tax credit bond financing such as Qualified Energy Conservation Bonds (QECBs) — can be used to reduce the cost of financing and increase the project’s economic benefits.

These economic benefits are then passed on to the property owner through improved power purchase agreement (PPA) pricing and terms, sometimes using a “prepaid PPA” model (an option that may no longer be financially feasible under the 2017 end-of-year U.S. tax-cut bill) (11, 12).

Once the investment tax credits have been fully used, ownership of the solar+storage equipment can be flipped to the nonprofit property owner or affiliate.

Fifth and last, there is the utility-ownership or third-party ownership under a utility-contracted payment for services agreement: If energy demand congestion is relieved in key grid circuits, the utility is indifferent to whether the project is located adjacent to a low-income community property. When the grid is down, the solar+storage system is available to provide resilient back-up power for adjacent critical energy loads and public services. Utilities may choose to own the solar+storage systems outright.

But in many states, utilities are not permitted to own generation sources. An alternative ownership model that is being developed is for third-party providers to own solar+storage systems and sell energy, capacity, or ancillary services from solar+storage systems into wholesale markets or with payment-for-services utility contracts.

This may involve aggregating energy storage systems to create larger energy services offerings, something a single property owner or business may not otherwise be able to do. This model has been deployed in commercial markets and could be extended to multifamily affordable housing and community facilities.

Actions

A two-pronged approach is needed to meet the challenge of scaling solar+storage deployment in LMI communities.

New financial resources and interventions are needed to address financing gaps and leverage external investment so that projects can be implemented, and portfolio owners and project developers will commit their resources to developing prospective projects.

Support is needed for organizations that have demonstrated an ongoing commitment to developing their capacity to build project pipelines.

A uniform, scalable financing product for LMI projects is not immediately apparent at this stage in the market’s development. Instead, support should be given to project developers and financial intermediaries that are pursuing flexible “pilot” financing approaches for deploying solar+storage systems.

Excellent work is being done in developing new financing products, underwriting terms, and development/construction risk mitigation protocols for LMI solar+storage projects, notably New York City Energy Efficiency Corporation (NYCEEC), NHT Renewable, Urban Ingenuity and Generate Capital (13).

In A Resilient Power Capital Scan, more than fifty grant and investment interventions are proposed that foundations and impact investors could consider to accelerate the financing and deployment of solar+storage technologies in LMI communities.

Some of these include:

Storage developers have developed thousands of behind-the-meter battery storage systems for commercial customers. Favorable financing—including equity investment—for companies that are prepared to expand their market focus to include LMI and MUSH (municipalities, universities, schools, and hospitals) markets would be a means of accelerating deployment in these markets.
Support for the creation, outreach, and initial operations of a new or repurposed legal entity to aggregate multiple portfolio owners’ solar+storage tax credits to create a scaled investment opportunity for investors.
Support for analysis and pre-development costs to create business models and value sharing with utilities interested in solar+storage in LMI communities to defer capital investments in transmission and distribution.
Provide a source of ten-year project financing or credit enhancement so third-party project developers can prove out utility and community resiliency benefits of solar+storage until utilities can gain approval to own the systems themselves.
Provide debt service reserve funds and other credit enhancement to support initial projects of strong portfolio owners.
Provide credit enhancement and/or capital to support commercial and “Civic” PACE (PACE financing for tax-exempt property owners) financing for multifamily affordable housing (including public housing) and nonprofit-owned community facilities projects.
Provide funding to build pipeline-development capacity that supports program related investments (PRIs) and other investment in community resilient power projects. However, PRIs to advance solar+storage technologies will have difficulty getting traction in this emerging LMI market without sustained support for capacity building for project developers, property owners, and community advocates. This needed support includes technical assistance, data collection and analysis, and information sharing.
Provide market building grant funding. Philanthropic and local/state support is needed to create an adequate policy, incentives, and regulatory frameworks to leverage financing and investment for solar+storage project development in LMI communities.

As an overall recommendation, there is a serious storage “capacity gap” among low-income communities, advocates, and affordable housing owners that must be addressed. Solar+storage is a new, complex technology that requires a level of energy sophistication that often is missing in small nonprofits, among affordable housing building owners, and in public agencies. Foundations should consider developing a significant “capacity fund” to serve LMI storage markets if they want to see serious uptake of the technology for those most in need.

Works Cited

(1) Spector, Julian, “Project Financing Grows for Commercial Energy Storage, Lags for Residential,” Greentech Media, July 7, 2017, www.greentechmedia.com/articles/read/project-financing-grows-for-commercial-energy-storage-lags-for-residential#gs.CZ04K80.

(2) One recent example cited in a new report from Moody’s investors Services is the $2 billion AES Southland project financing of a combined-cycle gas plant with 100 MW of battery storage, a transaction that closed in 2017. The project is anchored by a 20-year power purchase agreement with Southern California Edison. This transaction offered lenders a fully contracted asset with an investor-owned utility, representing a low credit risk. See Maloney, Peter, “Project Finance Getting More Viable for Energy Storage, Moody’s Says,” Utility Dive, March 21, 2018, https://www.utilitydive.com/news/project-finance-getting-more-viable-for-energy-storage-moodys-says/519701.

(3) Maloney, Peter, “Macquarie, CIT Close Project Financing for AMS’ 50 MW Energy Storage Fleet,” Utility Dive, March 30, 2017, www.utilitydive.com/news/macquarie-cit-close-project-financing-for-ams-50-mw-energy-storage-fleet/439299. Also see, Ryan, Joe, “Macquarie Gets CIT Financing for California Storage Project,” Bloomberg Markets, March 30, 2017, www.bloomberg.com/news/articles/2017-03-24/macquarie-gets-cit-financing-for-california-storage-project.

(4) St. John, Jeff, “Behind-the-Meter Battery Acquisition: EnGiE Takes Majority Stake in Green Charge,”Greentech Media, May 10, 2016, www.greentechmedia.com/articles/read/behind-the-meter-battery-acquisition-engie-takes-majority-stake-in-green-ch#gs.k5F0mcI.

(5) Press release, “Generate Capital and Sharp Pioneering to integrate SmartStorage® “Solar-Plus-Storage” Systems to Serve Santa Rita Union School District,” Sharp Electronics Corporation, September 6, 2017, www.sharpsmartstorage.com/SRUSD.jsp.

(6) There are many reasons for this gap that Clean Energy Group, outlined in a report titled “A Resilient Power Capital Scan: How Foundations Could Use Grants and Investments to Advance Solar and Storage in Low-Income Communities,” available at www.cleanegroup.org/wp-content/uploads/Capital-Scan-Feb2017.pdf. The report, commissioned by The Kresge Foundation, the Surdna Foundation and The JPB Foundation, identifies market barriers to deploying solar+storage technologies in low-income markets, and proposes more than 50 grant and investment opportunities that socially minded investors can use to target those barriers.

(7) The Resilient Power Project (RPP), at www.cleanegroup.org/ceg-projects/resilient-power-project), is a joint initiative of Clean Energy Group and Meridian institute that is working to accelerate market development of solar PV plus battery storage (solar+storage) technologies for resilient power applications that also provide economic benefits to low-income communities. RPP’s many reports include “Resilience for Free: How Solar+Storage Could Protect Multifamily Affordable Housing from Power Outages at Little or No Net Cost” (www.cleanegroup.org/wp-content/uploads/Resilience-for-Free-October-2015.pdf), “Solar+Storage 101: An Introductory Guide to Resilient Solar Power Systems” (www.cleanegroup.org/wp-content/uploads/Energy-Storage-101.pdf), and “Solar+Storage for Low- and Moderate-Income Communities: A Guide for States and Municipalities” (www.cesa.org/assets/2017-Files/Solar-Storage-for-LMI-Communities.pdf).

(8) Litvak, Nicole, “It’s Official: More Residential Solar Customers Buy Than Lease,” Greentech Media, March 6, 2017, www.greentechmedia.com/articles/read/its-official-more-residential-solar-customers-buy-than-lease

(9) Milford, Lewis and Robert Sanders, “A Resilient Power Capital Scan: How Foundations Could Use Grants and Investments to Advance Solar and Storage in Low-Income Communities,” Clean Energy Group, February 1, 2017, www.cleanegroup.org/ceg-resources/resource/resilient-power-capital-scan

(10) Milford, Lewis and Robert Sanders, “Owning the Benefits of Solar+Storage: New Ownership and Investment Models for Affordable Housing and Community Facilities,” Clean Energy Group, February 15, 2018, www.cleanegroup.org/ceg-resources/resource/owning-the-benefits-of-solar-storage.

(11) The off-taker (e.g., public housing authority, utility, etc.) negotiates a long-term PPA to buy electricity from the project entity as a prepayment for some or all of the electricity generated over the term of the agreement in exchange for a discount on the electricity price. The advantage of a prepaid PPA is that in most cases an energy purchaser such as a utility, housing authority or municipality has access to cheaper capital than a solar energy developer. See Martin, Keith, “Prepaid Power Contracts,” Norton Rose Fulbright US LLP. www.chadbourne.com/PrepaidPowerContracts_Sept12_Projectfinance; and Feldman, David, “Prepay is a Good Way for Solar,” National Renewable Energy Laboratory, https://financere.nrel.gov/finance/content/prepay-good-way-solar.

(12) Martin, Keith, “How the U.S. Tax Changes Affect Transactions,” Norton Rose Fulbright US LLP, December, 2017, www.nortonrosefulbright.com/knowledge/publications/158248/how-the-us-tax-changes-affect-transactions.

(13) New York City Energy Efficiency Corporation (nYCEEC) is a nonprofit energy specialty finance institution that financed the battery system for the solar+storage microgrid at Marcus Garvey Apartments in the East Brooklyn neighborhood of New York City (http://beta.nyceec.com/wp-content/uploads/Marcus-Garvey-Apartments-Case-Study-Final.pdf). National Housing Trust Renewable (NHT) is a company established by the National Housing Trust to develop, structure, finance and operate solar PV systems for affordable housing throughout the country (www.nationalhousingtrust.org/solar). Urban Ingenuity, located in Washington DC, has a track record of financing tax exempt properties (affordable housing, community facilities and churches) using affiliated third-party “Blocker Corporations” to initially own solar (and storage) assets, thereby retaining benefits for communities (https://urbaningenuity.com/pace). Generate Capital, co-founded by Jigar Shah (former founder and CEO of Sunedison), recently partnered with Soled (solar+storage developer and B Corporation) to provide capital to design and install solar+storage (1 MW of Solar, 1.2 MWh of battery storage) in six CA public schools (www.utilitydivecom/press-release/20170906-generate-capital-and-sharp-pioneering-to-integrate-smartstorage-solar-plu).

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