Being “Finance Aware” from the start of every project sets up developers and EPCs for an easy pivot to efficiently financing a Power Purchase Agreement (PPA) for their project, creating a triple win for themselves, their customer, and the investor. Commercial PPA financing is a critical piece of the puzzle for developers and EPCs who want to broaden their customer base beyond cash deals only. Having the ability to develop and build “investment grade” projects allow for the expansion of a client base to include non-profits, churches, schools, municipalities, and any other business or entity that is not a good fit for cash deals.
Developing a large commercial solar project is a considerable undertaking in and of itself, even without considering project financing. Using best practices that keep financing in mind during project development will foster a good relationship between the project owner and energy off-taker and/or system host as well as ensure a smooth project transaction, laying the groundwork for further shared success.
Key elements of Finance Aware project development touch almost every aspect of the development process from start to finish, including the formation of a project company, off-taker credit, environmental diligence, system design, production estimates, site lease, Interconnection Agreement, EPC Agreement, and PPA. Understanding your finance partner’s project diligence process and underlying technical and legal requirements can drive efficiencies that can make the project sale easy and efficient for both parties.
When to form a project company to hold the project is a question to consider early. On the one hand, forming a project company from the start and having it listed as the counterparty to any contracts, utility paperwork, or purchase orders makes it easy to transfer ownership of the project down the road and so avoids inefficient document assignments. This is particularly helpful if you have any unassignable contracts since you simply assign the project company itself with all of its contracts, permits, and other assets all at once. However, if all documents and other assets can be assigned freely, a project company is not needed. Many project buyers prefer to buy the separate project assets, in part because buying a project company that you did not form carries certain additional risks for the buyer that are avoided by buying assets.
The long-term nature of solar energy projects makes credit decisions a critical part of making sure you have a strong project. Outside of our home mortgages, few of us ever enter into contracts for 20 years. Each party to the project, whether it is an EPC contractor, the buyer of the solar energy or net metering credits, or the project host all must be creditworthy in the eyes of the party financing the project. The eventual project owner is counting on timely payment for the length of the PPA, ensuring the expected return on investment, and will want to dig into the buyer’s financials early in the diligence process, typically in parallel with other legal and technical diligence. The nature of that financing party will determine to some extent the credit requirements. Commercial banks right now can lend money very cheaply, but as a result, they are frequently the most conservative funders of projects. Private equity or other non-bank funding sources can make more aggressive funding decisions, but they charge more for their investment dollars. Three years of the off-taker’s audited financials should be sufficient in most cases to make a credit determination, though other financials that show their ability to make payments can be used instead if audited financials are not available.
An investment-grade project includes a certain level of environmental diligence that goes beyond the standard permitting requirements of the average Authority Having Jurisdiction. These apply mainly to ground-mounted systems and include a Phase 1 environmental site assessment, Level 2 Wetlands Delineation, Phase 1 Cultural Report, and sometimes an ALTA Survey as well. A Title Report will be necessary for all ground and roof-mounted projects in order to be able to get title insurance. Performing this type of site diligence is good practice for any project, financed or not, to identify anything that could make the project site unsafe or legally risky to build on. Given this is best practice, project owners financing any PPA for large projects are going to require this documentation and given they can sometimes have long lead times, it makes sense to do them upfront as opposed to waiting until the diligence phase has started to order them. NOTE: certain requirements that only apply to ground mount systems may apply to roof mount systems if equipment is being installed at an adjacent location, like inverters or switchgear at the edge of a parking lot for example
Unfortunately, the industry hasn’t quite standardized production estimates or installation practices as much as everyone would like and production modeling is still as much an art as it is a science. To ensure your system design and production estimates will qualify as investment grade, you should learn early what your finance partner’s technical requirements are that will be included in the EPC contract. Having a system designer and/or third-party engineering firm designing by the technical specification that will govern the EPC Contract will expedite technical review and save time and money on what would otherwise end up being plan set revisions at best and major changes to construction scope at worst and will also ensure that commissioning goes more smoothly.
For projects that are leasing either land or roof space, using a form of lease agreement provided by a finance partner and delivered to the property owner from the start is the best thing one can do as a developer. The site lease is one of the most important project-related contracts and garners plenty of legal and commercial scrutiny during the diligence phase. The potential need to amend or even renegotiate the terms of a lease can be avoided altogether by using the eventual project owner’s contract form. If that’s not possible, best practice to set expectations with the counterparty is to alert them that the lease is preliminary and may include amendments or changes closer to the start of construction, depending on who will be financing the project.
There usually isn’t much leeway from utilities on negotiating the terms of the interconnection agreements. Project owners usually have no choice but to accept them as is. The earlier you can get the interconnection agreement for review the better so that everyone can see what they will be asked to agree to with the utility. Check, in particular, whether the agreement will need to be assigned later – which depends on who the parties will be – and if so, what the terms are for assigning. If assignment will be difficult, it is best to have the project company sign the interconnection agreement at the outset to avoid uncertainty about assignability.
The EPC agreement is usually the heaviest lift for both developer and project owner on their first transaction together. Getting through the diligence process with a new partner can be challenging for both sides, but the efforts that go into it can pay very real dividends in the efficiency of future transactions. The project owner will likely have a form of EPC agreement that they prefer to use. Negotiating an EPC contract from the perspective that it will be used as a template for all future transactions sets the tone for long-term success. A common expectation of the time and effort that goes into this critical step in the diligence phase, especially on the first transaction, helps kick off the project and relationship on a positive and collaborative tone.
Presenting the energy customer with the eventual project owner’s agreement in executable form from the start, whether a Subscription Agreement, a Power Purchase Agreement, or a Net-Metering Agreement, is the best approach for a seamless financing process. Like the site lease, this will avoid the need to amend or re-negotiate any terms or conditions after they have been negotiated once with the project host. Using a unique or overly customized PPA can create the need for burdensome revisions or amendments that can increase the odds of having uncomfortable conversations with the off-taker later down the road. Similarly, while a simple and short agreement may be easy to get signed initially, financing parties will invariably need more detailed contracts that cover more risks and so time and patience can be lost in the long run. SEIA and NREL both offer PPA templates that are well-known and widely accepted, so any amendments to them needed to finance your project are going to be minor and unlikely to create serious issues.
Financial closings can be a headache, but obstacles can easily be avoided when proper expectations have been set from the start and buyer and seller lay the groundwork for success from the earliest stages. Developing projects with full awareness of your finance partner’s perspective ensures a smooth transfer of project ownership benefiting all parties involved, and ultimately an on-time commercial operation date. The end goal for developers and project finance companies should be repeat business with ever-increasing transactional efficiency as the relationship grows. Finance Aware development can foster this type of mutually successful partnership.
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