Sun-Powered Investments: Illuminating the Path to Renewable Energy Financing through Solar ABS

Hogan Lovells

Hogan Lovells[co-author: Alia Camilla Baltabey]

Hogan Lovells was an advocate sponsor of the 27th Annual Global ABS 2023 Conference held in Barcelona. Dietmar Helms (Hogan Lovells European Structured Finance and Securitisation Partner) and Dennis Stone (Business Development Director, Intertrust Group), alongside Emre Tezel (Director – 400 Capital Management Europe Ltd), Nicolas Cabrera (Associate Director – S&P Global Ratings), Tom Cochran (Partner – Latham & Watkins LLP) and Laurent Haik (Co-Head Auto and Operating Assets Securitisation – Crédit Agricole CIB), discussed recent developments in the renewable energy financing sector in Europe and the potential of European Solar ABS.

Rays of Progress

The European solar market is currently experiencing a remarkable upsurge, propelled by a confluence of factors, including increasing environmental concerns, rapid technological advancements, supportive government policies, and a notable shift in public sentiment towards sustainable energy sources. As the solar industry gains momentum, the availability and accessibility of financing options play a pivotal role in accelerating its growth.

Demonstrating a steadfast dedication to a sustainable and low-carbon future, the European Union (EU) has set ambitious targets to reduce greenhouse gas emissions, with the aim of achieving climate neutrality by 2050 and a 55% reduction in CO2 emissions on 1990 levels by 2030 (EU has so far cut emissions by 24% from 1990 levels). In line with this vision, the European Commission (EC) introduced the Net-Zero Industry Act (NZIA) as part of the EU Green Deal Industrial Plan in March 2023. Aligned with the US Inflation Reduction Act (IRA) – which further encourages solar investments by increasing and extending the Investment Tax Credit (ITC) for residential solar systems up to 30% for 10 years – and addressing China's dominant position in critical exports, the NZIA serves as a comprehensive response to geopolitical tensions while mitigating Europe’s dependence on external energy sources and critical imports. Its overarching goals encompass enhancing energy security and safeguarding against geopolitical uncertainties, bolstering resilience and competitiveness of Europe’s net-zero industries, and fostering self-sufficiency to minimize potential disruptions, thereby adopting an ethos of “open strategic autonomy”. In addition, the act aims to incentivize investments in clean technologies and renewable energy sources by providing financial support, research funding, and regulatory frameworks that encourage innovation while promoting circular economy principles and responsible resource management throughout the entire value chain, underpinning the EU’s commitment to sustainable practices.

Furthermore, the EC’s REPowerEU plan, introduced in May 2022 in response to energy market disruptions from Russia’s invasion of Ukraine, aims to rapidly reduce dependence on Russian fossil fuels by 2027. It builds upon existing initiatives, including the Recovery and Resilience Facility, and increases the renewable energy target of the proposed Fit for 55 package (launched in 2021) from 40% to 45%. According to the latest European Commission Staff Working Document, capacities of 592 GW of solar photovoltaic (PV) and 510 GW of wind are required by 2030 to achieve the 69% share of renewable electricity modelled by the Commission. This would require average annual additions of 48 GW for solar PV and 36 GW for wind.

However, this excitement must be grounded in a comprehensive understanding of the intricate dynamics among residential solar business models, legal frameworks, and regulations. While Europe has emerged as a global leader in solar PV deployment – with several countries experiencing substantial growth in installed capacity, factors contributing to this expansion include supportive policy framework, declining costs of solar PV technology, and increasing public awareness of the environmental benefits – meeting the capital requirements for solar PV projects remains a critical aspect of sustaining the industry's growth trajectory (especially in terms of costs associated with equipment procurement, installation, grid connection, and maintenance).

Furthermore, the complex and nuanced regulatory landscape exerts a profound influence on the operations of solar installers and the viability of diverse financing models within the European solar market. These intricacies were thoroughly explored and dissected during the panel discussion; key focal points of the discussion included the significant impact of regulatory frameworks, the importance of sustainable practices and the incorporation of environmental, social, and governance (ESG) metrics, the mounting demand for responsible business conduct, the crucial role played by innovative financial instruments, the imperative for standardized metrics and comprehensive reporting frameworks. Notably, European solar financing has witnessed developments that underscore the industry's dynamism.

The remarkable growth in renewable energy investment underscores its increasing significance in Europe’s energy landscape. Recent threats to energy security, driven by the scarcity and escalating prices of gas, have accelerated the development of a future European electricity system characterized by a predominant reliance on renewable energy sources. This imperative shift aligns with the EU’s commitment to sustainability and highlights the importance of diversifying the energy mix to mitigate vulnerabilities. Although specific future growth numbers may vary, it is expected that Germany will continue to expand its solar PV capacity in the coming years. The German government’s commitment to renewable energy and the “Energiewende”, coupled with favorable policies and incentives, suggests a positive outlook for solar PV growth in the country.

Solar Policy Navigation

The interplay between regulatory frameworks, solar installers, and financing options in the European solar market unveils a complex landscape that influences the industry’s trajectory. Germany, as a frontrunner in the European solar market, has adopted a proactive approach by implementing regulations that incentivize and, in certain regions, even mandate private households to adopt solar panels. This strategic move has yielded remarkable results, bolstering solar system sales throughout the country and positioning Germany as a prominent player in the renewable energy revolution. At the heart of these incentives is the feed-in tariff (FIT) scheme, also recognized as the Renewable Energy Sources Act (EEG). This scheme guarantees solar photovoltaic (PV) system owners a fixed payment for the electricity they generate and supply to the grid. Tailored FIT rates, contingent upon the size and type of installation, are assigned, providing a steady and predictable income stream for solar system owners over a predetermined period, typically 20 years. Such stability and predictability make the FIT scheme an enticing proposition, encouraging investments in solar energy.

In addition to the FIT scheme, Germany has implemented a noteworthy incentive known as net metering. This policy empowers solar PV system owners to offset their grid electricity consumption by utilizing the electricity generated by their own solar systems. Through this arrangement, surplus electricity produced by the solar system is fed back into the grid, and the system owner receives credits for this contribution. These credits can be applied towards future electricity consumption, effectively reducing electricity bills. By incentivizing the installation of solar systems and providing tangible benefits to system owners, net metering further accelerates the adoption of solar energy.

However, the impact of regulatory frameworks extends beyond installation incentives, encompassing the financing options available to consumers. Solar installers, in their pursuit of providing accessible financing solutions, are bound by regulatory constrains that dictate the scope of financial services they can offer without acquiring specific licenses. To navigate these limitations and provide accessible financing options, many installers have turned to rental models, enticed by their license-free nature and ease of implementation.

Nevertheless, despite the accessibility and popularity of rental models, their viability for securitization purposes is compromised by legal constraints. The contractual nature of rental agreements introduces intricate complications that impede the clean transfer of ownership and associated rights, rendering the resulting receivables unsuitable for sale as true sales. A key challenge stems from the ongoing obligations and responsibilities related to maintenance, equipment ownership, and potential liabilities. The transferability of ownership becomes a nuanced matter, as potential disputes and ambiguities surrounding maintenance, ownership, and liability for damages arise.

In addition, the treatment of subsidies emerges as a crucial layer, as ongoing discussions in Germany revolve around the design of subsidy programs that harmoniously integrate with various financing offerings, cultivating a level playing field and ensuring accessibility for individuals seeking financial assistance. The seamless integration of subsidies with financing solutions assumes paramount importance, as it serves as a catalyst for enhancing the affordability and accessibility of solar energy solutions (as a response to the EC which has introduced the Temporary Crisis and Transition Framework (TCTF), allowing member states to promote the production of climate technologies).

Enpal, a prominent player in the European solar market and Germany's fastest growing renewable energy company, occupies a position of distinction for its pivotal role in the launch of Solar Asset-Backed Securities (ABS) as a novel European asset class, securing € 356 Million Debt Commitments from Citi and M&G Investments for the first German residential solar securitization and ultimately financing more than 12,500 PV systems. Enpal’s approach to financing solutions lies in its utilization of installment purchase contracts – the seller concludes these contracts with its customers, while the issuer acquires the receivables under these contracts, together with the ancillary rights and the related security (including the title to the solar systems). The receivables originated under these contracts can be securitized in the same way as consumer loans. As a seller of the solar panels and relating equipment such as batteries and wall-box Enpal does not require a banking license. This customer-centric ethos underlying Enpal’s approach enables Enpal to offer financing options beyond traditional leasing models, that align harmoniously with the prevailing regulatory framework whilst affording customers the flexibility to finance their solar systems through structured installment payments.

However, the feasibility of expanding such approaches is contingent upon the unique regulatory frameworks that govern each country. Given the diverse array of legal landscapes across European markets, meticulous evaluation and adaptability, taking into account the specific nuances and requirements, become imperative. This may entail obtaining licenses tailored to the respective market or establishing strategic partnerships with established banks to offer customized financial assistance or white label solutions to customers. In conclusion, variations in legal frameworks across European countries pose inherent challenges that limit the scalability of solar financing options, underscoring the necessity for comprehensive evaluation and strategic adaptation.

Looking beyond Europe…

… the American solar market provides valuable insights into successful solar financing models. The US solar ABS market emerged in 2013 when SolarCity (now part of Tesla), a leading rooftop solar company, issued a US$54 million securitization offering. Since then, the public new issue market for solar ABS in the US has experienced substantial growth, reaching approximately US$3.3 billion per year. In addition to public issuances, private placement deals have also contributed to the expansion of the market.

One key driver behind the remarkable growth of the US solar ABS market, setting it apart from the European counterpart, is the Property Assessed Clean Energy (PACE) program. PACE has emerged as a catalyst, enabling homeowners and businesses to finance solar installations through property tax assessments and subsequently repay loans via the property tax system. This federal program has facilitated the widespread adoption of solar installations by offering accessible and attractive financing options to a broader range of consumers. In contrast, Europe lacks an equivalent program to PACE, limiting the availability of a standardized and government-backed financing mechanism for solar projects. Consequently, European solar securitization efforts have sought to emulate the private sector financing models adopted by industry leaders in the US. Solar installation companies have developed business models based on solar leases and power purchase agreements (PPAs), allowing homeowners and businesses to access solar energy without incurring upfront costs. However, this raises the question of the potential implications in the event of, inter alia, a voluntary default, which is more prevalent in solar leases or PPAs, as long as homeowners continue making payments as long as cost savings compared to regular utility bills are maintained.

These financing models generate cash flow streams suitable for securitization by offering long-term contracts and assuming responsibility for equipment installation and maintenance. Nevertheless, the utilization of these models as prevalent solar financing methods in Europe encounters significant challenges, including the absence of extensive historical data, which hampers the accurate assessment of long-term maintenance requirements and associated costs, as well as the complexities of maintenance responsibilities, legal title intricacies, and potential financial strain on consmuers. The fragmented nature of the solar industry in Europe and the absence of large asset pools have hindered the securitization process.

However, the emergence of national champions in Europe, such as Perfecta Energia in Spain or Enpal in Germany, is gradually transforming the landscape. These market leaders are consolidating portfolios of solar contracts, enabling the aggregation of assets, and thus signaling confidence in the solar ABS sector in Europe – setting a precedent for future transactions, providing a blueprint for other solar companies and encouraging further development.

Energizing a Greener Tomorrow

To accelerate the transition towards sustainable energy, governments across Europe have introduced a range of subsidies and incentives to support the deployment of renewable energy technologies, including solar power. These subsidies provide financial support, such as feed-in tariffs, tax credits, grants, and favorable regulatory frameworks, to make renewable energy projects more economically viable and attractive for investors.

The development of European solar ABS brings to light the importance of a robust legal framework to support the growth and stability of the market, as one of the key challenges in European solar ABS arises from the legal and regulatory complexities, e.g. surrounding the contractual nature of solar agreements and issues relating to any defaults.

Through a combination of financial incentives, supportive regulatory frameworks, research and development investments, we aim to drive the growth of sustainable energy, mitigate climate change, enhance energy security, and stimulate economic growth – paving the way for a brighter, cleaner, and more sustainable future for all.

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DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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