Companies all around the world are evaluating their impact on the environment. As part of its sustainability agenda, the strategies focus on reducing greenhouse gas emissions, while improving its competitiveness through energy efficiency. In this context, renewable energy is increasingly competitive in costs, so decarbonization of electricity is an attainable goal.
In this context, and without going into excessive explanations by everyone already known, it is evident that at the current price levels of photovoltaic technology - reduction of production costs of 80% in the last 10 years -, photovoltaic self-consumption projects are economically very attractive and financially profitable.
One way to raise self-consumption is through physical Power Purchase Agreements (physical PPAs) directly between the energy buyer - offtaker - and the seller - an investor specialized in self-consumption facilities -. This is so, because the offtaker usually has neither the management capabilities nor interest in financing the project, and seeks a comprehensive solution that integrates the installation, financing, and operation and maintenance, ultimately seeking to guarantee renewable energy supplied to a price that implies a clear discount on his electricity rate over a certain period of time. Alternatively, the offtaker, if it is of a certain size, may be considering undertaking a comprehensive plan of investments in photovoltaic self-consumption in various locations.
Physical PPAs are contracts that contain commercial / contractual terms for the purchase - sale of renewable energy generated in the self-consumption facility, such as the term of the contract, determination of price, volume, etc. These physical PPAs result in a win - win, both for the self-consumer (offtaker) - who, in addition to positioning himself as a proactive agent in the energy transition process, achieves significant savings on his electricity rate within the term of the PPA contract -, as for the investor who makes the investment and sells the energy, which ensures the placement of the renewable energy produced to the offtaker throughout the life of the PPA, thus obtaining a certain financial return.
Similarly, from a risk point of view, in the self-consumption thus raised, the technological, installation, and O&M risks are currently tested and are certainly manageable. Likewise, the risk of the sale price of energy is much more controlled than in a PV Solar merchant plant connected to the grid.
The problem may come hand in hand with the financing of these projects. The most financially efficient way can be to resort to structured financing or Project Finance formulas without recourse or limited resource.
These financing formulas allow these investments, risks and returns to be isolated from the main business, as well as higher leverage, minimization of the necessary equity, and long repayment terms in line with the useful life of the facilities and the duration of the PPA contracts. They also involve a very tight financial cost, as per the exhaustive analysis - technical, legal, risk, financial, fiscal, insurance, etc. - of the projects made by the lender - the only guarantee that the financier has in the end –
The problems for the application of these structured finance or Project Finance formulas to these projects are the following:
- Photovoltaic self-consumption projects are, by definition, individually small projects in terms of CAPEX compared to large solar PV plants connected to the grid or other projects used to use this type of structured or Project Finance type financing, although potentially very profitable at the moment of clear market development.
- Related to the above, they do not usually reach the minimum size to dilute the costs of DD and the time and resources that are necessary to apply by the lenders and advisors for the structuring, being individually far away of the interest of suppliers of this type of financing.
- On the other hand, compared to the PV Solar projects connected to the grid, where the offtaker is normally unique, and of high financial solvency - be it the distributor or the offtaker of a PPA -, in the self-consumption projects, the offtakers they can be - not necessarily - middle market companies - industrial and tertiary sector - or public sector / public business sector -, so the credit risk can be higher from this point of view.
Notwithstanding the foregoing, there are solutions that have proven successful nationally and internationally for the structured financing of these types of projects:
- Pooling of projects: This technique allows the consideration of structured finance or Project Finance formulas for a portfolio of PV Solar Self Consumption projects, thus increasing the CAPEX and the volume of financing at the aggregate level. Through this technique and depending on the aggregate volume, financial institutions and / or specialized funds could be used, or even alternative financial markets.
- Likewise, a high standardization of the Project Contracts must be sought: offtaker, EPC, O&M, etc., to minimize transaction, legal and Due Diligence costs. As well as the agile and successive approval of projects by the financing provider, as they reach the commercial closure.
- In any case, this pooling can be done during the development, commercial closing and installation of the projects, or when they are already in commercial operation, which implies different periods to consider for the approval of the projects and the provision of funds, and variations in the risk structure.
- At the legal - corporate level, a composition with a HoldCo, and SPVs per project or client / offtaker, would be advisable, with back-to-back structures from the HoldCo to the SPVs. Also, as is usual in this type of financing without recourse, both the HoldCo and the SPVs shares pledged in guarantee of the debt incurred, as well as the pledge without displacement or transferable mortgage of the current and future assets of the SPVs ( photovoltaic panels, facilities), and the pledge of the credit rights derived from the Project Contracts (EPC contract, O&M, insurance policies, etc.)
- Pooling of projects could also improve credit risk, by pure diversification, although ultimately it will depend on integrating a portfolio of offtakers with a solid and defensible track record in the future. The consideration of reserve accounts and / or guarantees to cover a period (months) of production may also be necessary, to be structured on a case-by-case basis.
- These project pooling techniques are equally successful for the rotation of mature / operational project portfolios through M&A processes, thus recycling the capital invested for the development of new projects.
From the point of view of the Public Administration in Spain, there are Public Grant Plans that have been approved both from the Central Government and from the competent bodies of the Autonomous Communities, aimed at promoting energy efficiency, including PV Solar self-consumption. However, most of these plans are aimed at the self-consumption of newly built homes and the energy rehabilitation of existing buildings, being the beneficiaries of the aid of both homeowners and renters of homes as well as builders and developers. At the business level, the recently approved Royal Decree 263/2019, dated April 12, which regulates the Program of grants for energy efficiency actions for SMEs and large industrial companies, although it is focused only on this type of business companies and, as a grant program, it covers only part of the financing needs. Therefore, as of today, there are no public instruments in Spain that facilitate the structured financing of photovoltaic self-consumption projects under the above-mentioned pooling scheme, so that the provision of a public or public-private fund to facilitate this type Financing, for example, from the National Energy Efficiency Fund, or from other financial instruments for financing SMEs, could be a clear message to the market and accelerate the implementation of these initiatives.
Finally, physical PPA contracts can present a certain complexity from the point of view of their financial and accounting treatment. Companies usually prefer to consider the PPA as a normal electricity supply contract, and to account for the energy costs based on the invoices received - executory contract (IAS 37) -. However, aspects such as price formation mechanisms or the participation of the offtaker in the investment vehicle, among others, may involve categorizing the PPA contract as a financial instrument - at fair value in each reporting period - or as a lease (IFRS 16) - resulting in the recognition of the renewable generation assets in the offtaker balance sheet -
The Infrastructure and Capital Projects unit of BDO Financial Advisory Spain and our experts in legal, tax and auditing regularly advise developers, investors and lenders in the structuring and / or Due Diligence of financing in all types of infrastructure, renewable energy and energy efficiency projects. Likewise, in the process of attending auctions and / or public tenders in Spain and internationally, for which we also have our international network in virtually all countries of the world.