Mergers and Acquisitions (M&A) are a vital component of the solar industry. This series will focus on the major traps in M&A, from a C&I buyer’s perspective.
The solar industry is all grown up. Mergers and Acquisitions (M&A) activity has increased gradually over the past few years, with 2016 highlighted by Tesla’s SolarCity merger. Recent industry acquisitions include module manufacturers, installers, and utilities. On a granular scale, individual projects or portfolios are acquired frequently, typically without the fanfare of larger acquisitions. SCF, a C&I Buyer, specializes in acquiring development assets, or project companies owning them.
SCF works with a fantastic group of developers (Sellers) that understand SCF’s standard processes; this allows for smoother transactions. Both parties must be cognizant of their obligations, disclose all vital information, and maintain updated data. Deals won’t close if one party simply doesn’t understand its role and obligations in the transaction.
Vague acquisition or purchase agreement
SCF acquires project assets via an asset purchase agreement (APA) and project companies via a membership interest purchase agreement (MIPA; SCF’s most commonly used structure). Common contractual shortfalls within a MIPA include indemnity clauses, default provisions, and remedies.
How does a Buyer remain protected? On the topic of indemnity, it’s important to get comfortable with the credit of your counter party. Indemnity sounds great on paper, but oftentimes doesn’t carry weight if there isn’t a balance sheet behind it. With regards to default and remedies, it’s great to have collateral as an option. In SCF’s world, we often acquire several project companies within a transaction. If so, cross-collateralizing the assets and having set-off rights can be very convenient. To assist in these efforts, SCF provides its Sellers with a form MIPA, drafted to protect both the Seller and Buyer, with clear roles and responsibilities.
Incomplete Disclosure Schedule
Disclosure schedules are a Buyer’s best friend in any acquisition. Collecting a disclosure schedule protects the Buyer in the event a Seller has not disclosed vital information pertaining to the project company. The Buyer and Seller should begin populating a disclosure schedule as early as possible in a transaction. If the Seller submits an incomplete disclosure schedule, then the Seller is taking on more risk because they aren’t disclosing details that are pertinent to the transaction (i.e. encumbrances). The Buyer could suffer damages, and then the Buyer must dedicate valuable resources to correct any problems that may arise and legal resources to seek damages from the Seller.
From a Seller’s perspective, this could be a worst case scenario. SCF assists its Sellers, prior to close, with populating the disclosure schedule, based on information the Seller previously shared. Ultimately, the Seller remains liable for an incomplete disclosure schedule; however, SCF will be a proactive partner during the closing process.
No dedicated data room
Without a dedicated data room for both parties (and all of their third party representatives), M&A is dreadful. Disorganized Sellers and Buyers oftentimes have project documents stored in Dropbox, Box, Google Drive, email, etc. Closing can be delayed by days or weeks as both parties attempt to track down previously circulated documents, while third party representatives (legal, accounting, engineering, etc.) only have limited access to documents. SCF has mitigated this trap, by utilizing a data room within the SCF Suite, where all project level data is originated. All documents required for closing are organized and easily accessible. The SCF Suite allows Sellers to auto populate SCF’s closing documents (from SCF’s templates), which reduces the transactional burden tied to each closing. SCF’s due diligence and closing checklists are automatically populated to simplify the closing process with its Sellers.
Making exceptions during diligence as a “favor”
No Buyer wants to admit it, but everyone does it. To maintain a strong relationship with a Seller, the Buyer may waive certain due diligence requirements until a later date, or completely remove the obligation. In isolation, these waivers don’t have a significant impact on the bottom line. However, if a majority of the assets acquired from a Seller have critical diligence requirements waived, then the overall portfolio carries more risk.
The above list merely highlights some of the traps C&I Buyers must avoid during M&A transactions. This is the first entry in a series of posts dedicated to M&A. Have a solar project worth acquiring? Contact us today at email@example.com.
Storage has long been hailed as the holy grail of the renewable energy market, as it allows for a greater integration of technologies like solar PV and wind into the electrical grid. So, a lot of people have asked why energy storage hasn’t taken off in a more substantial fashion and at a more rapid pace. The simple answer is “Bankability”.
Bankability is a term used in the renewable energy world to describe the likelihood that any particular technology or manufacturer will be funded by financiers. If a technology is new and unproven, banks and other financial institutions will be unlikely to fund associated projects until they have developed an industry track record through the performance of such technology, and have gained maturity in the marketplace.
In the case of storage, bankability has two facets. The first is the bankability of the technology itself. While batteries have been around for well over a decade, the number of large scale installations (in relative terms) is still very small. For a technology and ultimately a manufacturer of that technology to be considered bankable by the financial market, companies must have developed and constructed a sufficient number of storage projects, and accumulated enough real world operational data to prove to financiers that their systems will perform or outperform their datasheets.
Additionally, these manufacturers have to show financial stability, and a strong enough balance sheet to prove to financiers that they will be around to support the warranties that they provide with their systems. If manufacturers can meet these minimum criteria, financing groups may consider them “bankable”.
However, bankability does not only apply to the underlying technology and the manufacturers of that technology. Bankability also applies to the financial projections of the actual storage projects themselves. When a financier looks at a storage project within the commercial and industrial market, the following questions arise:
- Based on the revenues and costs of a particular project, what financial return can be earned?
- Are there any extraneous factors that could add additional costs or reduce cash flow to the project, and how can the financier mitigate these risks?
- How much does the financier trust the revenue projections presented to them both from a performance analysis perspective as well as a savings analysis perspective?
In SCF’s opinion, the last of these questions is the primary reason that storage has taken so long to come to market. The question addresses how risk factors are assessed and ultimately how the final agreements for a project are written, and requires some very sophisticated modeling to determine system performance and an analysis of projected savings. There are two primary methodologies used to develop savings for an off taker using battery storage technology:
- Demand Shaving – demand shaving revolves around the idea of shaving off demand spikes using battery storage. Shaving off these spikes lowers demand costs, which can account for nearly 50% of an energy customer’s electrical bills.
- Time-of-Use Bill Management – the idea here is that in areas where electrical rates vary based on the time of day (Time-of-Use tariffs), energy can be drawn from the grid at very low off-peak rates (typically at night when overall usage is at its lowest) to charge the batteries. This energy is then used to offset energy usage during on-peak rate times when energy costs are much higher (typically in the middle of the day when overall usage is at its highest). The difference in these two rates multiplied times the capacity of the battery then become the savings generated.
Out of the two methodologies, Demand Shaving is the more prevalent methodology used in the industry. However, the primary issue with both of these methodologies is that it they are highly dependent on the off taker’s demand load patterns and usage patterns. A customer’s demand load or usage patterns may vary from year to year based on changes in the customer’s business relating to:
- Increases or decreases in labor force
- Building additions
- Addition or subtraction of manufacturing equipment
- Addition of energy efficiency equipment or technology
- Changes in weather patterns
- Or for any other reasons
If such changes occur, the storage modeling a financier relies on to determine project economics may vary substantially from the customer’s real world patterns. This can have a corresponding dramatic effect on potential savings. With this factor looming so large, financiers have looked to third party companies to provide storage modeling software to provide them with their expert analysis so that they may rely on their numbers.
This is no different than the solar PV space. Financiers are not solar PV experts. Financiers rely on industry wide, agreed upon, solar PV modeling platforms which confirm system production with a high degree of accuracy. In this case, most financiers use PVSyst as their model of choice to confirm system production. Additionally, financiers also are not “avoided cost” experts; for this analysis, many financiers have become comfortable using Energy Toolbase as a reliable modeling tool for predicting avoided cost.
The challenge with the storage market is due to a lack of universal bankable software modeling tools. Financiers who wish to purchase or finance projects are currently looking for software platforms that provide reliable, repeatable, and accurate predictions for storage (or more often, solar plus storage) from a performance standpoint, as well as from a projected savings perspective. There have been limited options in the past for this type of modeling software, with most of this modeling being done in-house by several of the larger battery storage providers. However, there is a lot of activity in this space, and we are beginning to see the roll out of some solid candidates for platforms that the industry may soon embrace. Here are two of the top contenders:
ESyst: ESyst was recently launched by Growth Energy Labs, Inc. (GELI), and is an online platform that performs analysis and design of investment grade storage projects. It is an all-in-one package that provides site analysis, system selection, and robust financial projections for storage applications.
Homer Pro: Homer Pro is a micro-grid software modeling platform that was originally developed by NREL labs and has continued its evolution within the Homer Energy Corporation. This is a powerful modeling platform that allows users to model hybrid power systems that include storage plus solar, wind, generators and other technologies.
As the industry has time to digest these and other platforms, we believe a clear winner will emerge that will allow the investment community to embrace storage in a much broader fashion and will allow this segment of the market, which is so necessary to the continued growth of renewables as an industry, to finally thrive.
Corporate Social Responsibility (“CSR”) has been a hot topic for the past few years, with numerous Fortune 500 companies announcing aggressive goals relating to their clean energy usage. To many of these companies, transitioning their energy usage into renewable energy sources plays an integral part in their sustainability goals. Offsetting energy costs through increased use of renewables is not only cost-effective, but such practices allow for CSR success which has a profound impact on consumers.
Companies have acknowledged that to stay competitive in the market and to increase consumer trust, they must look to what consumers value in a brand. According to a 2015 study conducted by Cone Communication/Ebiquity, “91% of global consumers expect companies to do more than make a profit,” such as “operate responsibly to address social and environmental issues.” The study notes that companies that support social and environmental issues maintain large numbers of consumers that perceive said companies in a positive light (93%), self-identify as loyal to the company (88%), and generally trust the company and its purposes (90%). These are powerful means to grow and solidify a brand, and generate goodwill among consumers.
While the rapid expansion into renewables as a means of CSR can be easily explained by the positive tangible benefits it brings to local communities (like clean air and water), it also doesn’t hurt that often times wind and solar energy represents a cost savings to the business by avoiding more expensive utility-fed power. This is without accounting for the environmental costs savings, such as carbon abatement and water cleanup, which generally occur with greater renewable use. With companies such as Amazon, MGM, Apple, and Salesforce all announcing aggressive sustainability and renewable energy goals, we’re seeing a growing shift away from private sector fossil fuel usage as CSR goals are increasingly prioritized.
Last month, Salesforce made headlines for achieving its net-zero carbon emissions’ goal decades before the goal date of 2050. For years, Salesforce has worked on increasing the energy efficiency of its infrastructure, servers, and buildings to help it obtain the net-zero emissions title. The company was finally able to complete this task by purchasing power through various wind farms in Texas and West Virginia. Salesforce is now striving for a 100% renewable energy goal globally. While they’re headed in the right direction, this will surely prove a greater challenge (and reward) for the cloud-based software company.
Asics, the popular footwear company, announced this week they were expanding upon their sustainability goals by installing a 1MW solar system at its primary distribution center in Mississippi. This system will be the largest privately-owned solar array in the state, and will power 20% of the energy usage at the location.
MGM Resorts International now boasts the largest rooftop array in the United States, with 8.3 MW spanning over 23 acres atop its Mandalay Bay location. At full production, the system will account for 25% of the hotels total energy usage. Not only did the resort install the largest rooftop system, it also paid 87 million dollars to stop purchasing electricity from NV Power, a cost they believe will be recouped within 7 years.
While many companies have reaped the economic benefits of “going green,” a rare few have had the misfortune of their sustainability efforts being scapegoated by critics for plummeting stock prices. NRG is a well-known example of this. David Crane, the former CEO, had high hopes of transforming the company, only to be fired before his vision could be fully implemented. The company claims it will continue to invest in renewable energy, but will stay away from emerging technologies. However, for each cautionary tale, there are many more successful ones of transitions into renewable energies.
In the end, these companies are achieving their sustainability goals in large part due to solar power. This can largely be attributed to solar being one of the cheapest and easiest forms of renewable energy available. A 200kW solar array can offset carbon emissions by roughly 250 tons per year: the equivalent of taking 47 passenger vehicles off the road for one year, or not burning 120 tons of coal. While these figures may seem like a drop in a very large bucket, the reality is every positive action taken, whether it be installing solar or increasing energy efficiency, leads us to a more sustainable, energy secure future that does not rely on carbon–emitting fossil fuels to power our companies and economy.
The asset-backed securities (ABS) market has provided a viable means of financing to several asset classes for decades. In the solar industry, residential players like Solar City, Sunnova, Mosaic, Spruce, and Sunrun have utilized the ABS market for several years.
Residential securitizations have exceeded $500mm thus far this year, highlighted by Sunnova’s debut securitization, with several additional financings rumored to be on the horizon for the residential market.
With year-over-year solar market growth exceeding 90% in 2016, the apparent demise of YieldCos, and new institutional capital entering the solar market, it’s likely we will see solar securitization growth in 2017 and beyond. Yet, aside from a few whispers, the C&I market has been absent from a presence in ABS.
Why is C&I late to the game?
Looking at the published assigned ratings from Kroll for each of the residential solar and efficiency financings, and the criteria established by Kroll’s General Rating Methodology for ABS, it was clear that a few boxes need to be checked when looking to the ABS markets:
- Volume & Historical Performance
- Standardized transaction documentation
- Investment Grade off-taker credit rating – utilizing an industry accepted rating scale
Other criteria is certainly considered (resume of sponsor, technology, etc.), however, when comparing residential to C&I based on this criteria, one can see why C&I falls short.
Volume & Historical Performance
The maturity of the residential asset class has led to several large players and billions of tax equity dollars dedicated to a programmatic financing approach, and a high volume of cash-flowing assets, to-date. Relatively higher residential utility rates have allowed for a larger national geographic footprint compared to C&I, providing a long runway for the asset class to mature. Nearly a decade in which developers, investors and energy companies have thrown resources at the industry and fine-tuned their development, construction and operating efforts has led to a high volume of performing assets.
The C&I sector is challenged by a smaller geographic footprint, and is scattered with small to mid-sized developers. These developers, compared to their residential counterparts, are relatively new to the industry, and a large portion develop to sell,not to own. This dilution of assets among a smattering of C&I players, is partially responsible for a lack of aggregated portfolios and thus, volume. Like any other capital intensive industry with long term income potential, the market of institutional investors is impacted by the supply of mature alternative investment opportunities. As new institutional and strategic investors join the solar industry, developers will strengthen their balance sheets and be able to produce a larger volume of cash-flowing assets. That critical mass should be reached soon.
There’s no doubt residential players care deeply about customer acquisition cost. Without a programmatic, inflexible approach, residential solar wouldn’t exist. Utilizing a standardized document set, transaction process and asset management platform not only reduces transaction and operating costs, but it allows for legal and administrative risk mitigation when evaluating asset financings.
With so many small to mid-sized developers having a market presence in C&I, standardization has been absent, based on each developer’s unique circumstances. As an example, a C&I developer may rely upon a regional bank to provide construction and permanent debt on assets developed within the geographic footprint of the bank. The bank’s requirements might be quite different than those in other geographies, or might be less stringent than a larger nationwide bank, especially on topics involving credit and real estate. This variance can find its way into counter party agreements and ultimately prevent documents from being standardized. Another example lies in developers who develop to sell and not to own. A developer who’s looking to offload its projects, may not object to an off-taker having buyout provisions added to a solar services agreement, while those who take a long-term view may very well object. As the challenge for volume production is met by means of new capital invested into C&I, it’s conceivable to believe that larger developers will/can adopt a programmatic approach and standardize documents, process and risk analysis and can look to ABS for financing.
When it comes to credit ratings, the residential market utilizes the most accessible and widely used credit rating scale for consumers; the FICO Score. These scores have been synonymous with mapped default ratings and have been utilized by the ABS market for decades. Most solar securitizations boast average FICO scores of 720-750+.
For C&I a comparable rating scale for unrated entities has not yet been widely accepted by the industry. There are certainly benchmarks that exist that have mitigated risks in the eyes of current equity investors, but none have been universally accepted.
When financing projects with bank debt, most unrated off-takers are subjected to a bank’s corporate credit analysis. Some banks will sign off on the use of a third party’s rating scale (i.e. Moody’s Risk-Calc or shadow ratings), but will still utilize balance sheet & income statement ratio checks.
Is there a scale that can be adopted by the industry?
If there’s anyone that should be answering that question, it’s the rating agency that has assigned ratings to each of the major solar securitizations in recent years; Kroll Bond Rating Agency.
While evaluating credit risk for solar off-takers, Kroll will either a) utilize a public rating or b) conduct a credit analysis in determining probability of default for unrated entities. Each entity’s rating is weighted based on the discounted income attributed to the overall portfolio, and a Monte Carlo simulation is performed in order to forecast defaults.
In evaluating the near ABS miss of AES in 2015, it was clear that a lack of an industry accepted credit benchmarks led to underwriters wanting a higher bond spread than what was offered. In other words, credit risk wasn’t mitigated to a point where the offered spreads were reasonable.
Due to scattered ownership for C&I an absence of data exists to support the accuracy of any particular credit rating benchmark. However, as volume increases, data will exist to serve as a basis for projecting defaults on a go forward basis.
The C&I sector has a few years to answer these questions, before the ITC is stepped down, thus requiring a lower cost of capital. With new capital coming to the marketplace and developers growing their balance sheets & assets under management, we’re nearing the critical mass needed for C&I and ABS to converge.
The 4th annual Suncode Solar Hackathon, taking place in Oakland, CA on April 8th, 2017, saw a great turnout with fierce competition. The event, sponsored by Sunrun and DSM, and hosted by solar incubator and accelerator company Powerhouse, drew over 150 attendees, forming 23 teams for the competition. The teams were created Friday night, with each team consisting of a few developers and at least one solar industry professional, as suggested by Powerhouse.
The hacking began Friday night with the goal of launching an energy startup aimed at creating a solution to help advance solar industry growth. The teams were given suggested challenge questions to solve, but could solve alternative solar issues identified by their teams. The Sunrun sponsored challenge question that most groups aimed to solve was the following:
“Reimagine the Solar Homeowner Experience. What are customers interested in knowing about? How do they want to interact with the system? How do we maximize value for both the customer and the solar company? At what point in the process do they want a portal? Create a demonstration portal.”
The pitches began at 6:30 and continued into the late evening. Overall, the turnout of the event was great, with only standing room left by the end of the night.
My personal favorite pitch, which ended up being voted the people’s choice award, was REC Chain. The concept was to use Blockchain to validate and facilitate fair trading of Renewable Energy Certificates. The pitch seemed so complex that after the two-minute presentation, one judge asked if they had worked on this project before the Hackathon! The answer was of course no, as all participants were required to only work on their concept the day of the event. Instead, their work highlighted the advances that can be achieved over the course of a day when the bright minds of the California solar industry are gathered together.
While there were a variety of submissions, common themes that came up during the event were optimizing battery storage, qualifying marketing leads, and developing software optimization applications. There were a few that went off the beaten path, such as Independence American Media, which aims to alleviate the partisan nature of our clean tech news. The Energy Escort team also had an interesting app that simplified the process for customers to determine if they are using too much energy in real time. The app screen turns red for electrical overuse at high rate times, yellow if you should slow down on energy use, and green if it made sense to continue consuming energy.
Overall, the event embodied the entrepreneurial startup spirit that I had hoped for, and presented innovative ideas and concepts that addressed top solar industry issues. It will be interesting to follow how the teams that formed during the event develop, as this event has been the breeding grounds of numerous notable solar companies including Utility API, Powerhive, and Sunswarm.