The solar value proposition remains very attractive to homeowners and facility managers across the United States. However, the industry sells itself with one arm tied behind its back…
From a consumer’s perspective, there are two key pieces of energy demand—capacity and cumulative usage. Many utility bills are comprised by 1) a demand charge, set by measuring the customer’s most energy intensive hour within a given billing period, and 2) marginal energy use, which is simply the per kWh rate with which the solar crowd is fairly familiar. While solar can predictably reduce overall energy drawn from the traditional utility over a given period, it remains more difficult to predict and quantify its reduction in peak demand for consumers. In short, solar has yet to add capacity to its appeal in predictable, scalable forms. However, capacity can be added to solar’s arsenal through a combination of technological and financial innovations.
Rate Structures and Solar
Since the 1980’s, utilities have worked to restructure rates from simple kWh charges to better capture the dynamic values of energy production, transmission, and delivery. Many rate structure adjustments actually tend to benefit solar owners and users—for example, time of delivery rates, which are highest during peak times, tend to occur in the afternoon hours during which solar arrays generate the most energy. However, demand charges are tougher to tame for solar. Because peak demand for most consumers occurs during hot summer afternoons, it follows that solar should also reduce demand charges by eating into demand from traditional power sources at peak hours.
However, solar’s tendency to reduce demand charges is not entirely predictable or universal, making it difficult to incorporate into the value proposition for the asset. For example, a facility’s peak usage could occur on a cloudy day or in the early morning, in which case solar would not have as much of the desired impact on demand charges. Project owners and developers have not been willing or able to monetize solar’s typical demand charge reductions at scale. At the residential level, the mechanics and finance behind demand charges are so complicated that they could dilute the tried and true part of the solar pitch—the reduction in kWh rates.
Evidence of solar’s inability to cash in on demand charge reduction lies in the absence of solar presence in markets in which demand charges make up higher portions of utility bills. For example, while residential solar in Colorado is healthy, the commercial market has struggled since a large portion of the state’s commercial energy charges are related to demand. In Arizona, Tucson has seen more activity in its commercial solar market partially because the local utility, TEP, does not employ demand charges, making its kWh rate easier to beat. Value of Solar Tariffs may offer some valuation of solar’s benefits to grid capacity, but may struggle to dial in on accurate estimates.
Valuing Solar’s Capacity
So where does this leave us? Monetizing demand charge reductions will likely stem from improvements in storage technology and financial products. Demand charge reduction may actually be the edge on which storage and batteries enter the solar space. Batteries could more predictably reduce demand charges by discharging during peak usage periods. However, those reductions would not cover the costs of storage at current battery prices. More affordable storage options will be necessary to help solar monetize its capacity benefits.
As storage costs come down, new financial products may surface in the renewables space to finance such ancillary services. As mentioned, solar tends to bring down demand charges overall (and solar plus storage can do so more reliably), but the amount can vary project to project and month to month. With a broad enough pool of projects to spread risk, an investor could come out ahead for guaranteeing a certain level of demand charge reduction. However, such a product has yet to be introduced—most likely for two related reasons. First, spreading risk would likely have to occur across multiple markets, since a single day of high demand and low insolation could be localized and therefore costly to an investor with minimal geographic diversification. Second, demand charge structures vary market to market, and can be highly complex and difficult to analyze. That said, diversification would require a combination of broad knowledge of multiple markets and regulatory frameworks, financial wherewithal to cover multiple years, and additional insurance, such as weather derivatives.
Technological and financial innovations have paved the way to solar’s enormous strides. Once storage and risk pooling can give solar more certain capacity contributions, the industry will have yet another arrow in its quiver.
About Sol Systems
Sol Systems is a renewable energy finance firm that provides secure, sustainable investment opportunities to investor clients, and sophisticated project financing solutions to developers. Founded in 2008, Sol Systems focuses on meeting the industry’s most critical solar financing needs, including tax structured investments, capital placement, debt financing, and SREC portfolio management. To date, the company has facilitated financing for thousands of distributed generation solar projects and hundreds of millions in investment on behalf of Fortune 100 corporations, utilities, banks, family offices, and individuals. For more information, please visit www.solsystemscompany.com.