The last day for a solar developer to submit an application for the Treasury's 1603 grant program was September 30th, and only for grandfathered solar projects which broke ground before the end of 2011.
Solar panel prices have continued to drop this year, but solar project development remains a capital-intensive business. The 1603 program allowed solar developers to monetize the solar investment tax credit (ITC) much more quickly than they could otherwise, and this essentially reduced their cost of capital. As the rush of projects begun before the end of 2011 are completed, developers are looking for new ways to finance their next projects, especially since traditional forms of financing have been harder to come by since the financial crisis.
Jan Schalkwijk, CFA, a portfolio manager with a focus on sustainable investments at JPS Global Investments based in San Diego, CA says, “Any solution that further improves financing of solar projects should be of interest to investors; especially if returns come in the form of dividends, from financial structures that are collateralized.”
The Solar REIT
Currently, the only way a small investor can invest in solar is by buying stock in solar manufacturers. I have long argued that solar manufacturers are unattractive as an asset class because of the fiercely competitive nature of the solar industry. The massive decline of solar stocks over the last several years has convinced most investors of the danger of investing in solar manufacturers, even when solar installations are skyrocketing. Since inception in April of 2008, the Guggenheim Solar ETF (NYSE:TAN) has fallen 93%, while solar installations have risen six-fold with rapidly falling costs.
While those rapidly falling costs destroy solar manufacturer margins, they improve the opportunities for profitable solar farms. Yet stock market investors find themselves shut out of this opportunity. The two layers of taxation for public companies make common stocks a less than ideal investment medium for solar farms, unlike the private equity investments and LLCs used by large investors.
What sort of structures might be attractive? Master Limited Partnerships, or MLPs come immediately to mind, since they combine the tax structure of a limited partnership with the liquidity of public exchanges. MLPs allow the investor to avoid the two layers of taxation by passing their tax liabilities (and benefits) through to their limited partners (shareholders), which leads to a level of tax complexity most small investors are unaccustomed to.
In addition, MLPs are limited by law to specific businesses, mostly fossil energy extraction and transport. While extending MLPs to solar and other renewable energy has a certain appeal on the basis of fairness, such an extension would require an act of Congress.
Senator Chris Coons (D) of Delaware introduced The Master Limited Partnership Parity Act to allow MLPs to invest in renewable energy on June 7th, and Representative Ted Poe (R) of Texas introduced identical legislation in the House September 19th. Unfortunately, the chances of these bills becoming law seems low. Govtrak.us puts their chances at only 4%.
A second appealing structure is the Real Estate Investment Trust (REIT). Like MLPs, REITs avoid the double taxation of traditional corporate structures, and are limited to investing in certain asset classes, which in the case of REITs means real property. REITs pass through their income, rather than their tax liability to investors: REIT dividends are treated as ordinary income to the investor.
As Jim Hansen, a financial consultant at Ravenna Capital Management in Lake Forest Park, Washington and publisher of the Master Resource Report notes, “for retail investors the REIT would be the simplest and could be used in IRA’s which MLP in many cases cannot” because a certain portion of MLP income may be taxable, even if the MLP is held in an IRA. Indeed, Congress first enacted the REIT model in the 1960s to enable small investors to “secure advantages normally available only to those with large resources.”
“Making PV [photovoltaic solar] a REIT eligible asset class will give investors access to what is currently the best value in solar, the annuity of electric power sales agreements. Currently investors can mainly invest in panel manufacturers (and to some degree BOS [balance of system] providers such as converter manufacturers), which is not these days the most profitable way to play solar. Buying a piece or pieces of solar PV projects on the other hand is profitable right now but is currently the province of private equity investors. Utility scale solar on a project basis is very attractive because, unlike a coal or other fossil-fuels based plants, once the solar plant is running it produces electricity which can then be sold essentially indefinitely without risk of the price of its fuel increasing (or indeed ever costing anything at all), with very low risk of plant failure (and if it does fail, it’s likely only offline for a short time, no risk of explosion), and relatively low overhead in terms of maintenance.