Money, Myths and Solar Power

PHOTO CREDIT: SUNPLUGGERS.COM
Solar electricity's financial advantages are
not yet widely perceived, but double-digit
investment returns are possible.

By Michael Balchunas

Published Feb. 24, 2010

The U.S. solar industry faces a problem similar to one that vexed Copernicus: When everyone can see that the sun circles the Earth every day, how do you convince them it's the other way around?

Mathematics.

In Southern California, some businesses installing solar-electric systems are locking in long-term internal rates of return in the double digits, sometimes as high as 20 percent, solar experts say. Investment returns for homeowners may be as high as 12 percent, at a time when bank interest rates range from 1 to 2 percent.

Flashy returns are being driven by a plunge in equipment prices, combined with still-generous incentives, an array of financing options – some involving zero up-front cost and immediate positive cash flow – and, for businesses, accelerated depreciation and advantageous electricity rates.

The solar-electric industry has long been bedeviled by a lack of public awareness of its value proposition and by what once was the high up-front cost of capturing it.

The cost issue has been melting away, but public awareness remains a problem.

"There's still a lot of confusion out there about the solar business," says Ted Flanigan, president of a California company, EcoMotion, that advises governments, utilities and companies on energy and environmental programs.

PHOTO CREDIT: SUNPLUGGERS.COM
Solar modules at a Pasadena rail station.

At a recent solar-industry conference at the Pasadena Convention Center, Mr. Flanigan recounted an illustrative anecdote to the audience.

"This is our own house," he said as a photograph showing workers installing a rooftop solar array filled a projection screen.

"Panels go up on a Saturday afternoon, we throw a party, invite all the neighbors. A lot of my neighbors are asking, 'Where are the pipes?'

"Well, we don't have pipes. We have wires."

"What for?"

"It's solar electric."

"You're crazy!"

As audience members chuckled, he went on to explain why solar electricity is far from crazy for those with good sunshine access, especially if they live in places where electricity rates are high.

"We have a 13-year payback," he said of the solar array at his house. "Boy, that's a scary number, isn't it? It's the wrong number to use. Over the next 30 years, we project a net generation value of $44,000 for our net cost of $12,000."

By capturing accelerated depreciation and applying other incentives, such as a special electricity rate called Option R in the Southern California Edison service area, businesses can reap even better investment returns than homeowners. Because the advantage is realized through savings on an otherwise unavoidable expense – electricity – these returns are internal, not the external returns that many homeowners are accustomed to receiving from interest-bearing accounts, for example.

Mr. Flanigan said that the after-tax internal rate of return on one large project his company is now handling is projected to be 11.6 percent; on another, 13.9 percent. He presented the following figures for a commercial installation now under way.

These percentages are greater than long-term investment returns achieved with most gold mines, and may entail less risk. Some experts believe that modern solar photovoltaic modules may produce useful electricity for much longer than their typical warranted production lifetimes of 25 years.

Recent figures from a longtime Southern California installer confirmed Mr. Flanigan's rate-of-return estimates, indicating homeowners may sometimes reap 12 percent, and some business owners as much as 20 percent.

Positive returns are not limited to California but have been spreading in recent months to other states as well. The federal 30 percent tax credit and state and local incentives are major contributors, but over time subsidies have been dropping, as expected, roughly in line with declines in prices for solar installations.

Meanwhile, in some sunny California and Hawaii locations, where electric rates can be high, non-subsidized solar already is competitive with or cheaper than the highest prices for utility-supplied electricity. Few in the general public know that they may be able to start saving money immediately by installing modules.

Solar for Pragmatists

Another myth about solar photovoltaic electricity is that its appeal is primarily to consumers who are politically liberal and that the buying motive is environmental sensibility.

Evidence suggests that most actual buyers are pragmatists and their motive is money.

MAP CREDIT: SUNPLUGGERS.COM
Conservative cities such as
Palm Desert and Bakersfield have
outstripped more liberal cities in solar
adoption on a per-capita basis.

At the solar conference, Mr. Flanigan noted that the idea for an innovative zero-down method for financing solar arrays, in which cities and towns loan money that is paid back through the borrower's property taxes, originated in politically liberal Berkeley, Calif., in 2008.

At almost exactly the same time, Mr. Flanigan helped the politically conservative Southern California city of Palm Desert establish a very similar financing approach, using a different legal basis.

After about a year and a half, according to Mr. Flanigan's figures, 13 solar projects had been financed this way in liberal Berkeley, with a population of about 104,000. More than 100 solar projects had been financed in conservative Palm Desert, where the population is about 44,000.

Elsewhere in California, leading cities for solar adoption include politically conservative San Diego, Fresno, Sacramento and Bakersfield, while famously liberal San Francisco and Los Angeles are laggards in relation to their large populations.

Over the past year across the U.S., solar-electric installations have mushroomed at military bases in response to the Pentagon's policy of promoting it, in part as a measure that increases the country's national security.

"I like to say that conservation is for conservatives," said Mr. Flanigan. "Palm Desert gets it, with some very visionary leaders out there."

The Berkeley and Palm Desert financing approach began spreading fast last year. Almost 20 states now permit some form of it, but individual towns, cities and counties as a rule must also take steps to adopt the programs.

This zero-down payment plan has been known by various names, but the most common one is property assessed clean-energy financing, or PACE.

PHOTO CREDIT: SUNPLUGGERS.COM
A display at the Rahus solar conference
at the Pasadena Convention Center.

To participate, property owners typically start with an installer's price quote. In some places, they may get help from a government agency in first determining whether their site is suitable for a solar photovoltaic system.

In applying for loan funds, the resident usually must prove ownership of the property by paying for a title search, which also may assure that a property has no liens on it. Property taxes must be paid up, and proof of homeowners insurance may be needed. For some programs, an energy audit of the home or business may be required.

A key feature of most such programs is that the tax authority places a lien on the property that is superior to a mortgage. It guarantees, in essence, that other taxpayers or bondholders will not be at risk of losing money if a homeowner should default on a loan. An advantage for property owners is that the loan and lien stay with the property if it is sold, reducing anxiety that a homeowner who moves before a solar system is paid off might lose money.

Most PACE programs have minimum and maximum loan amounts for residential and commercial installations. They typically also require that the owner have sufficient equity in the property. This may be measured by a loan-to-value ratio, which is a commonly used mortgage calculation, or a lien-to-value ratio.

The term of the loan payback period may be predetermined, for example at 20 years, or different terms may be offered, such as 10, 15 or 20 years. Loan interest may be deductible on income taxes.

Because the loan is typically secured by a lien on the property (as well as the value of the solar PV system), a credit check is often waived. If these programs increase in popularity, some of these terms may change.

A typical interest rate for a PACE loan now is 7 or 8 percent. For many property owners with good credit and ample equity, lower-cost loans may currently be available through a mortgage refinancing, and could be a better deal. Home-loan rates have been hovering at record lows during the recession. It is possible that in the future the gap between the best private mortgage refinancing rates available and the rates offered with PACE programs may narrow.

Mr. Flanigan said that with the Palm Desert program he helped establish, 7 percent struck a reasonable balance among various factors, such as the condition of the bond market and the need for the city to cover its cost to administer the program. PACE programs are usually intended to be cost-free for the governments offering them.

With PACE funding for a solar-electric system, he said, it may be possible for residential property owners to rapidly achieve positive cash flow, especially if utility rates escalate. He provided an example:

In this case, positive cash flow is achieved in the sixth year. Although most PACE interest rates are above 6 percent, the effective rate is lower when income-tax deductibility is included. Many properties are not well situated for solar, and incentive amounts vary widely from place to place, so these kinds of savings are by no means universally applicable. But where conditions are ideal, large numbers of potentially profitable rooftops and yards are still dormant.

Private solar-financing options that require little or no money down also have been expanding rapidly. Companies now offer solar leases and power-purchase agreements, which are similar to leases, with a variety of payment plans. Some may start out with a property owner paying less for electricity than the utility charges for it. Other plans start out with higher rates, but lock them in for long periods of time. If a utility's price rises in the future, the property owner reaps savings.

At the solar conference, which was sponsored by the nonprofit Rahus Institute, a research and educational organization focusing on resource efficiency, Mr. Flanigan's advice to installers and government officials was: "Make sure that the programs really serve your constituents."

PHOTO CREDIT: SUNPLUGGERS.COM
A billboard near the city of Perris in Southern California.

He said that the emerging wide range of options for installing solar-electric systems, with reduced or in many cases no up-front costs, and sometimes positive cash flow from the outset, has begun to correct misperceptions about cost.

"We are going to see this sweep right across the country," he said of the new financing approaches such as PACE loans. "It is the game-changer I think that many of us have been waiting for."

Mr. Flanigan, who has served as an expert energy consultant for many years to utilities, companies and government agencies, said he expects that a price will have to be placed on carbon emissions before long, causing the cost of energy generated from fossil fuels, especially coal, to rise.

Lower-priced solar and easy financing terms are now arriving, and higher electricity costs may follow before long. What does he think the U.S. solar market may do?

He looked around as if to see whether anyone was listening.

"Explode," he said quietly.