How PACE can be a single financing solution for solar, storage and more in the commercial market
By Philippe Hartley, principal at Clean Financing
You’ve probably heard about the growth of Property Assessed Clean Financing in the residential solar market (R-PACE). During the last four years or so, R-PACE has reached about $3.5 billion in securitized financing, consisting mostly of California contracts. By contrast, the commercial side of PACE remains below the radar, with a lifetime value of about $400 million, and generating approximately $30 million of growth over the last quarter—peanuts.
It begs the question: Why should the renewable energy industry get excited about commercial PACE financing?
Because it will unquestionably favor renewable energy industry growth by allowing faster deal cycles and opening new markets.
Of the 19 states that have approved a PACE program, 16 opted for commercial PACE (C-PACE) only—that’s 85% of the state programs in the U.S. And of all the new states now discussing adopting PACE, all are considering C-PACE only, according to PACENation. Admittedly, this is mostly a reflection of legislatures’ general caution about consumer financing in the aftermath of the sub-prime fiasco. But states favor C-PACE because they see it as a way to lift the business economy. They are about to find out how just powerful a tool they have created.
I think C-PACE will wow us all by reaching a billion-dollar gross by the end of 2018, and approaching $2 billion by 2020. Two arguments prop up my bravado: C-PACE introduces a capital resource that could revolutionize the management of capital expenditures for building management, and it makes existing ways to finance solar (and other infrastructure upgrades) even better.
The third leg of a stool
Before C-PACE, regular building maintenance and upgrades such as roofing or distributed energy generation required cash or some form of credit (a PPA is a form of credit). Both financing methods use precious resources, critical to the operation, growth and resiliency of the business. Using cash directly impacts the bottom line and credit burdens the balance sheet. For small to medium businesses, neither is good news. When a business needs to make inevitable infrastructure updates, it must choose between depleting cash or credit. Capital may not be available if emergency funds are needed or an investment opportunity arises, which impacts the business’s fate.
C-PACE introduces a new pocket of capital that is neither a company’s cash nor its credit and is fully separated from the business’s balance sheet. Essentially, the property leverages real estate equity to improve the real estate holding via a tax assessment. The business’s credit and cash resources remain unencumbered. Many C-PACE providers offer this financing on a non-recourse basis, which means that the property taxes are the only “recourse” for the fund provider. The entity which accepted the financing has no claim tagged to its operations should it default and lose the building.
For that reason, C-PACE dramatically improves the commercial holdings business. It can be argued that any enterprise that owns its building(s) is in the real estate holdings business, because it is managing an asset. For those entities, as well as for REITs, C-PACE will quickly become a critical part of the capital strategy.
The cherry on top of this comes in the form of fast and light underwriting requirements. Credit-based financing bases a decision to finance a project on a business entity’s anticipated ability to sustain a payment agreement over 20 years or more. C-PACE underwriting decisions involve making sure a building has free and clear equity, and that the holder of the title is unambiguously identified as the entity/individual ordering the improvement. There’s no deep dive into the company’s financials. The paperwork involved and the time to decision is accelerated, meaning deals close faster with far less imposition on the applicant and a more predictable future.
An expansion opportunity for the PPA business
Risk is the fulcrum that holds up the PPA business. Without risk, there is no PPA, says the IRS. With too much risk, there is no tax equity, say cautious investors. What C-PACE does is to anchor the credit risk for PPA investors, so that they need only worry about material risk, such as system failure and other O&M issues.
PPA investors are placing their money into a power plant that is going to be attached to someone else’s property (the host). They’re betting that the host will keep paying for 20 or 25 years. Call it calculated faith. C-PACE allows those investors to defuse that part of their risk by forcing PPA payments through the property tax collection process for that same term. Suddenly, that risk gets close to that of a municipal bond.
This concept of credit security suddenly creates a significant pool of new customers throughout the country, which pretty much guarantees a massive amount of commercial solar business between now and 2020.
A funding source that can broaden your business
Originally, PACE was developed as a solution for solar financing. But legislatures found it useful for all initiatives benefiting energy and water efficiency. That list of eligible improvements has now become long, and includes energy storage, roofing, building envelope, irrigation and nearly 100 other initiatives.
For the renewable energy industry, from manufacturers to contractors, C-PACE brings cross-pollination opportunities in marketing and sales. Given the cost of customer acquisition for installers, the advantage of delivering a single financing solution for solar, storage and other upgrades might make it worth thinking about adding a new trade or two.
So, let’s put the potential of this market in focus. The assessed value of U.S. commercial real estate is about $7 trillion (the NYSE, with 27% of global capitalization, represents $18.5 trillion). If, hypothetically, PACE were to finance upgrades for up to 15% of that value, it would deliver a trillion dollar of credit into the U.S. market. That would impact every aspect of the renewable energy industry, and you. If that’s not enough to get you to pull your socks up early and start making some calls, then you may just want to take up star gazing.
Philippe Hartley provides commercial PACE financing on behalf of a leading U.S. C-PACE funder, and is the founder of CleanFinancing.com. Reach him at firstname.lastname@example.org.