2014-05-02

Tom Konrad CFA

Disclosure: I and my clients have long positions in HASI. I
have sold NYLD $40 and $45 calls short.

The secret sauce for bringing residential solar into the
mainstream is the solar lease.  With the simple value
proposition of little or no money down and cost savings from day
one, a homeowner does not have to be an environmentalist or green
to be interested in the green of a solar lease.  He or she
simply needs to live in a state where the combination of annual
sunshine and state incentives provide the economics to make solar
leases profitable for the lender and installer.

Low interest rates and the rapidly falling price of solar panels
have rapidly expanded the number of states where solar leases are
available in recent years, so much so that residential solar lease
pioneer SolarCity (NASD:SCTY)
grabbed 26% of the rapidly growing residential market in 2013.
 Of the top five residential solar installers on GTM
Research’s 2013 U.S. PV
Leaderboard, four offer solar leases.  Commercial
solar leases were pioneered by SunEdison (NASD:SUNE)
a decade ago, but they only began to transform the solar market
place when SolarCity and competitors like SunRun and Vivint Solar
began offering them to homeowners.

Solar Gardens

While the opportunity to take advantage of attractive solar
economics is expanding rapidly to more states, not every home
owner has a suitable unshaded roof.  Those who want to
democratize the solar opportunity usually favor community
solar farms, also known as solar gardens.  These
structures allow community members to each buy a share of a larger
central solar installation, receiving credits on their electric
bill, as well as a proportional share of the tax benefits.
Unfortunately, creating solar gardens requires specific state
legislation or action by the local utility or utility regulatory
commission, and the difficultly of making such rule changes means
that solar gardens are available in far fewer locations and to
fewer individuals than solar leases.

Solar Crowdfunding

Solar
Mosaic is also working to democratize solar investment
through crowdfunding.  The company avoids the complexity of
direct investment in solar farms by making loans to solar
developers backed by a solar farm’s cash flow.  It then
offers pieces of loans to small investors though its crowd funding
portal, taking a small cut of the interest to pay for its
operations.  While individuals can investment as little as
$25, securities laws currently limit this opportunity to
accreditied (i.e. wealthy) investors and residents of California
and New York.

In practice, an even greater limitation has been the lack of
available projects, with only $5.6 million invested in 34MW of
projects since the first investment in late 2012.  That is
approximately as much solar as 5,683 typical 6kW residential solar
systems.

Fortunately, the size and number of Solar Mosaic’s loans has been
increasing.  One particularly intriguing forthcoming project
is the Mosaic
Home Solar Loan in partnership with national installer
RGS Energy (NASD:RSGE).
 I expect this product will appeal to Solar Mosaic’s
investors, since it will finance residential systems.
 Financing solar for a homeowner will likely have more
emotional appeal than financing a commercial installation on a
convention center or school.

Another crowdfunding site, SunFunder,
enables individuals to invest in solar projects bringing power to
the developing world.  It offers interest-paying investments
to accredited investors.  Ordinary investors can participate
with loans that earn repayment of principal as well as interest
credits in the form of “Impact points.”  Impact points cannot
be withdrawn, but they can be re-invested in other projects.

Solar Bonds

It seems likely that it will be some time before Mosaic can get
enough solar loans (residential or otherwise) into its system to
satisfy investor demand.  Until that happens, and until
Mosaic is able to offer investments to ordinary investors
nationwide, many will have to look elsewhere to invest in solar
installations.

One promising option on the horizon is bonds backed by solar
leases.  SolarCity was the first to issue such bonds, with a
$54.4
million offering in November of last year.  That
offering was 71% backed by residential solar leases, with the
balance backed by commercial solar.  They followed this with
a 87%
residential $70 million offering which closed on April 10th.
  Like most green
bond issues in recent months, SolarCity’s bonds were only
available to institutional investors.  SolarCity has little
incentive to offer these bonds to small investors, because demand
from institutional investors greatly exceeded supply.

Another company likely to issue bonds partially backed by solar
leases is Hannon Armstrong Sustainable Infrastructure (NYSE:HASI.)
 This REIT invests in a wide range of sustainable
infrastructure, and then issues Sustainable Yield Bonds (SYBs)
backed by these projects, but also keeps some on its balance
sheet.

Hannon Armstrong’s CEO, Jeffrey Eckel, told me in an interview
that he believes Hannon Armstrong is unique in that it explicitly
measures the climate emissions reduction associated with each
project it invests in.  The first $100
million round of SYBs, issued in December, invested in
projects which reduced greenhouse gas emissions by 0.61 metric
tons per $1,000 investment.   That means a typical US-based
investor with a carbon footprint of 17.6
metric tons per year could offset a year’s worth of
emissions with a $28,852 investment in the first tranche of SYBs.
 While that is far more than the cost of equivalent carbon
offsets, such offsets are a cost, while SYBs are an investment
which also pay a competitive 2.79% interest rate.

Investors interested in funding solar leases should be interested
in Hannon Armstrong’s future SYB rounds, since the company just
signed two deals to fund solar leases.  On April 16th, the
company announced
a deal to jointly originate and fund up to $100 million
financing for distributed solar projects with Sol Systems.
 This followed the April 3rd announcement that the company
had provided $42 million in debt to fund SunPower Corporation’s
(NASD:SPWR)
residential solar lease program.

According to Eckel, solar leases tend to have a lower climate
impact per dollar invested than most of it other investments, but
the impact will be positive for both these investments.

Solar Lease Stocks 

With bonds backed by solar leases mostly being sold to
institutional investors, stocks are probably the easiest way for
individual investors to gain exposure to solar leases.  Both
SolarCity and Hannon Armstrong are retaining a portion of their
solar leases on their own balance sheets.  By far the purest
exposure to solar leases will come from industry leader SolarCity,
while Hannon Armstrong’s exposure to renewable energy projects
will always remain below 25%, since this is a requirement of its
REIT status.

SolarCity had deployed approximately 380 MW of solar through the
end of March.  With a market capitalization of $5.28 billion,
that means each $14 dollars invested in SCTY was backed by 1 watt
of a solar lease.  In other words, if you’re thinking of
investing in SolarCity stock as an alternative to putting solar on
your roof, you’re essentially paying $14 a watt.  That is far
more expensive than any installation SolarCity has installed.
 The typical cost per
watt for a residential solar system in California was $5.75
in the fourth quarter of 2013.

While Hannon Armstrong has funded far fewer solar systems, the
two deals for $142 million described above should account for
about 15% to 20% of its future market capitalization.  If the
$42 million for SunPower comes in at $6 per watt, and the $100
million of distributed commercial systems cost $4 per watt, that
will amount to a total of 32 MW of solar.  As of the end of
2013, Hannon Armstrong had invested 32% of its capital (or $202
million) in clean energy projects, some of which would have been
solar.  If 20% of this was solar at $5 per watt, that would
amount to another 40MW of solar.   Putting this together, my
best estimate is that each $10 to $20 invested in HASI will
include funding for 1 watt of solar, as well as 5 or more watts of
wind and geothermal projects and yet more energy efficiency.
 Unlike SolarCity, Hannon Armstrong is currently profitable
and pays a 6.6% dividend yield at the current $13.34 stock price.

Another yield-focused stock with some investments in solar leases
is NRG Yield (NYSE:NYLD.)
 This company has a dividend yield of 3.1% at the current
stock price of $42.50.  The company owns a mix of thermal and
renewable generation, with 34% of its generation from renewables
in 2013.  It owns 313 MW of mostly utility scale solar, and
101 MW of wind farms, and has a $2.09 billion market
capitalization.  Hence each $6.67 invested in NRG Yield funds
1 watt of utility scale solar and 1/3 of a watt of wind.

Conclusion

If you always wanted to own a solar system, but lack a suitable
roof, a large and rapidly growing number of investments are now
available.  If your primary goal is attractive financial
returns, the best investments are Solar Mosaic (4.4% to 7% yield)
and Hannon Armstrong (6.6%.)

Solar Mosaic investments have a number of downsides, such as the
limited number of available projects, restriction to accredited
investors and residents of New York and California, and the
requirement that you hold your investments to maturity.
 While most of the money invested in Hannon Armstrong goes to
fund types of sustainable infrastructure other than solar, each
dollar funds approximately as much solar as a dollar invested in
SolarCity, but also includes much larger investments in other
types of clean energy and in energy efficiency.

At $6.67 per solar watt, NRG Yield is the cheapest way to fund
solar with a stock market investment, but this company includes
considerable fossil generation and has a much lower yield (3.1%)
than Hannon Armstrong.

While none of these investments is perfect in its ability to
replicate the economics and climate impact of putting solar on
your home, the number of options is rapidly increasing.  If
you live in one
of seven states (MA,CO, ME, RI, VT, WA,DE, OH) you may be
able to invest in a solar garden.  Until then, my top pick
combining high climate impact with high yield and ease of
investment is Hannon Armstrong Sustainable infrastructure.

This article was first

published on the author's Forbes.com blog, Green Stocks
on April 21st.

DISCLAIMER: Past performance is
not a guarantee or a reliable indicator of future results. 
This article contains the current opinions of the author and
such opinions are subject to change without notice.  This
article has been distributed for informational purposes only.
Forecasts, estimates, and certain information contained herein
should not be considered as investment advice or a
recommendation of any particular security, strategy or
investment product.  Information contained herein has been
obtained from sources believed to be reliable, but not
guaranteed.

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