Risk management is critical to the growth of the solar industry.
NAVIGATING THE NUANCES OF SOLAR RISK MANAGEMENT WAS THE FOCUS OF A WORKSHOP, “SOLAR RISK MANAGEMENT: WHAT IS IT AND WHY IT MATTERS TO INVESTORS, SPONSORS & ASSET MANAGERS,” AT THE RECENT SOLAR ASSET MANAGEMENT NORTH AMERICA (SAMNA) CONFERENCE IN SAN FRANCISCO.
Kicking off the panel discussion, Jason Kaminsky, Chief Operating Officer of kWh Analytics, provided a basic definition of risk management, drawing from a recent report co-authored by kWh Analytics and the Solar Energy Industries Association (SEIA).
A panel discussion on solar risk management at SAMNA featured (left to right) Jon Previtali of Wells Fargo, Jason Kaminsky of kWh Analytics, and Jonathan Roumel of Spruce Financial. (Photo courtesy of Solarplaza)
“The responsibility of the risk manager is to identify items that may lead to the financial deterioration of an investment, and proactively work to resolve these situations,” Kaminsky said.
Representing banks, solar developers, and risk management firms, the speakers provided insights into the evolving field of solar risk management and the challenges ahead. Discussion varied from the many functions and stakeholders involved in solar risk management, to how banks — key stakeholders in solar projects — assess project risk and performance
Key takeaways are discussed below.
1. RISK MANAGEMENT BEGINS AT ORIGINATION AND CONTINUES THROUGHOUT THE LIFE OF THE PROJECT.
While origination — that is, lining up prospective investors — is sometimes viewed as separate from risk management, the panelists stressed that market leaders take a comprehensive and more holistic view of the two. At the end of the day, risk management is about making sure the institution doesn’t lose money, and that begins with matching a project with the right investors.
“There are two steps to risk management,” said Jonathan Roumel, Vice President of Operations at Spruce Finance, a firm working in solar and energy investments. “Step 1 is to invest in a quality asset to avoid or minimize risks up front. Step 2 is to efficiently manage that investment throughout the life of the asset and effectively mitigate risks which do arise.”
Jon Previtali, Director of Technology and Technical Services for Renewable Energy & Environmental Finance at Wells Fargo, also stressed how banks may approach underwriting technical performance risk in-house. He discussed the value of high-quality technical due diligence, particularly in situations where warranties may not be actionable. Accelerated lifetime testing of solar modules may also be conducted to reduce the risk of latent defects.
The panelists also agreed that risk management should not be viewed solely as a back-office function. Investors, sponsors and owners will all benefit from the understanding that risk management continues beyond the initial phase of investing in a solar asset.
2. BANK COMPLIANCE IS A TEAM EFFORT.
Simply put, compliance is about ensuring that a bank’s internal processes are in line and operating within investment requirements. Teams — and often, teams of teams — must coordinate with each other to succeed in meeting various compliance requirements. According to Lan Sasa, Assistant Director of Project Management in Renewable Energy at U.S. Bank, banks interface with numerous internal and external stakeholders. The list includes internal asset management and performance teams, internal tax and accounting teams, internal credit committees, internal and external auditing groups, internal senior executives, and regulators.
Lan Sasa of U.S. Bank at SAMNA. (Photo courtesy of Solarplaza)
Furthermore, these various teams serve respective purposes and may have different areas of focus. For instance, while a bank’s origination team may be chiefly concerned with their developer relationships, a bank’s risk management team will likely be chiefly concerned with the financial health of the solar project. The group leader for renewable energy investments is responsible for making decisions amidst such competing considerations, and continuously requires high quality information to react quickly.
3. PROBLEMS WILL OCCUR; SURPRISES SHOULD NOT.
Bank auditors are an inescapable fact of life for anyone working at a bank, including the teams responsible for solar investments. Given that an entire team is tasked with monitoring the fiscal health of these complex financial organizations, data transparency is a critical building block for any risk management strategy. If all of the data related to an asset or investment is not centrally located, latent problems can evolve into serious issues that can, in turn, lead to increased scrutiny.
Previtali of Wells Fargo noted that generally in bank contexts, “surprises are not well received.” But, one audience member asked, how do financial institutions respond to the occasional, but unavoidable surprise, such as the recent Sonoma wildfires.
Kaminsky from kWh Analytics reported that U.S. Bank recently used his company’s risk management software to get same-day information on how its investments were affected by the disaster. Without such a database of record, senior management at the bank would have waited days or weeks until all the developers were able to collect the required information and report back to the bank. Such situations again underline the need for high-quality data.
4. “THOSE WHO HOLD THE RISK SHOULD UNDERSTAND IT BEST.”
This project finance maxim continues to hold true and, during the workshop, was cited to explain the complex structure of solar finance deals. While banks have considerable experience and know-how about solar power plants, they still tend to structure their investments to limit their risks to those that they understand best.
Previtali noted that Wells Fargo, as a tax equity investor, is naturally exposed to risks pertaining to the tax credit. “Tax attorneys are our high priests,” he said. “We don’t do anything without their blessing.”
Risk related to the potential for underproduction, once foisted on lenders, is now increasingly held by insurers that back the Solar Revenue Put, a product that guarantees a certain level of revenue for a project, even if it underperforms. Firms that have a competitive advantage to assume specific risks are said to be its “natural owners.” Insurers are increasingly confident in their actuarial understanding of solar production risk, enabling them to be the natural owners of the risk.
5. DATA STANDARDS ARE BEING DEVELOPED TO SUPPORT RISK MANAGEMENT, REDUCE MARKET INEFFICIENCIES, AND LOWER COSTS FOR CONSUMERS.
Clearly, in the increasingly complex field of solar investment and risk management, stakeholders and teams across the field need real-time access to accurate, consistent data. Until recently, however, a lack of data standards in the sector had created inefficiencies and increased risk.
SEPA’s Aaron Smallwood provides an update on the Orange Button Initiative. (Photo courtesy of Solarplaza)
Aaron Smallwood, Senior Director of Technical Services for the Smart Electric Power Alliance (SEPA), updated the workshop audience on the Orange Button Initiative, a standard for solar project data that has the backing of the U.S. Department of Energy’s SunShot Initiative. Calling the initiative “an opportunity to help our industry mature,” Smallwood reported that Orange Button is now widely supported by leading solar industry groups, including SEPA, SEIA and the SunSpec Alliance.
Essentially, Orange Button provides a standard taxonomy — that is, a set of categories and classifications — for defining the standards to be used to measure a project’s production and other key operational metrics. The standardized data can reduce time, cost, and inefficiencies, said Previtali of Wells Fargo.
“We have some of the best and brightest people in the industry working for us,” he said. “But we’re asking them to spend a substantial amount of time cutting and pasting data from monthly operating reports into our system. We should change that. That is one of the reasons why I am a huge fan of using Orange Button.”
As with Orange Button, the development of increasingly sophisticated risk management tools and best practices is a sign of the solar industry’s maturation. As solar investments grow, so will compliance requirements and risk management needs. It is a matter of scale and size. As an investment grows, so does the magnitude of its potential downside.
Every asset class goes through this process. Bolstered by consistent data standards, solar risk management will be critical to helping our industry scale.
