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At a midsize solar photovoltaic project located in the heat of the desert, the owner worries about who will pay when the installation is not able to generate the energy that both the owner and project investors banked on. There is a problem with a few solar modules, the project’s energy production drops and a once-reliable revenue stream is threatened.

The manufacturer claims it is a problem with the installation; the installer says it is a problem with the equipment. There are frenzied calls and circular discussions with the vendors and financing partners regarding performance guarantees, warranties and insurance coverage. Days go by, with no resolution in sight.

Such scenarios are all too common. Despite additional protections now available for commercial-scale solar PV projects that reduce risk and protect cashflows, problems can occur. Solar technologies are still evolving, as are the respective coverages that are needed. At the same time, the number of lenders and investors interested in financing solar installations has increased significantly.

Banks provide the financial resources necessary to fund solar energy systems. Such loans are based on a project’s unique risk profile and projected future cashflows, which are needed to ensure repayment to the lending institution. For many commercial-scale solar developments, revenue is generated through power purchase agreements (PPAs) with utilities.

Meanwhile, equity investors seek to maximize their returns and take advantage of available tax credits. Both parties seek long-term contracts that ensure predictability and sustainable revenue streams. They rely on guarantees, long-term PPAs and other warranties to ensure the long-term viability of a project and secure their investment.

Banks’ and investors’ low risk appetites are increasing the demand for such assurances on solar developments to cover a project’s energy production, protection against the possible loss of government tax credits and states’ renewable energy credits, vendor bankruptcies and even cloudy days, among other things.

 

Guarantee basics

Performance guarantees, product warranties and insurance offerings are vital in building confidence among owners, lenders and investors about the long-term viability of the industry.

Generally, each can help reduce the financial and operating risks of midsize solar installations. It is critical that solar market participants understand the benefits and differences among these concepts.

Product warranties are written agreements issued by original equipment manufacturers (OEMs) directly to the purchaser. Warranties provide protection against financial and operational risks due to defects in manufacturing, materials, design and workmanship in order to ensure product performance under normal conditions.

The warranties are applicable for a specified period of time under the terms and conditions of the agreement, which includes the manufacturer’s responsibility to replace, repair or refund a defective product or its parts.

Warranties also include performance guarantees, a manufacturer’s promises that its products meet the purchaser’s expectations and will continue to perform well over a stated period of time. If the product fails to do so, the guarantee requires that the manufacturer repair or replace the product or compensate the purchaser.

An example of a performance guarantee is a solar module manufacturer’s promising a 90% expected minimum peak power output for its solar panels during the first 10 years and 80% for the remaining term of its product warranty (another 15 to 20 years).

Performance guarantees also are sought for project operations, including project availability and energy production. These guarantees can help facilitate financing.

Insurance is a contract through which another company assumes risk for the project. The insurer receives premiums to provide coverage and pays the insured in the event of a loss.

The most common insurance offerings for solar projects are general liability and property insurance. These policies protect against risks not covered under the manufacturer’s warranty, such as equipment accidents, physical damage from natural perils, theft, and liability exposures associated with owning and operating a solar array.

 

Additional options

Aside from property and liability insurance, other project insurance and guarantees available include the following:

Contractor insurance. Professional liability or errors and omissions coverage protects project owners, investors and contractors in the event of losses caused by poor workmanship, negligence or errors related to the engineering, design and/or installation of a solar project. Often mandatory for contractors working on federal and state government projects, contractor insurance is becoming increasingly popular in the solar market because it specifically addresses the issue of solar equipment installation workmanship or design errors that may cause modules to perform below requirements, resulting in lost production.

 

 

Tax credit insurance. Funding for many commercial-scale solar farms and arrays would dry up without the additional funding that can be realized from government tax credits and accelerated depreciation.

If the project does not maintain production throughout the period anticipated by the investment tax credit, it may be subject to clawback. Project financers look to transfer the potential risk of changes in tax treatment of their investment and reduce uncertainty.

Delays in start-up insurance. This coverage provides protection to owners and investors, safeguarding them against the potential loss of revenue caused by setbacks in flipping the switch and taking a project online, to the extent precipitated by a natural peril (an occurrence) or equipment failure (an accident).

Business interruption insurance. This policy replaces business income in the event that there is a disruption to a solar project’s ability to produce energy due to a covered peril or accident during the operations phase of the project.

OEM warranties. Typically, each of the components in a solar installation - solar panels, combiner boxes, power inverters and tracking equipment - comes with a guarantee against manufacturer defects in product materials, design and workmanship.

Exclusions typically include equipment failure caused by poor maintenance of the equipment, improper installation, natural disasters and terrorism. In addition, it is the OEM that determines whether a warranty holder’s claim is valid based on the terms and conditions outlined in the warranty agreement.

Claims processing can become even more complicated if the OEM is located overseas, where other laws and regulations may apply. Further, the warranty may not be enforceable if transferred from the original owner to another party.

Market consolidation and bankruptcies among suppliers have shaken investor and developer confidence in warranties. Once a company dissolves, it may be impossible to make a claim that is honored, rendering the warranties worthless.

To reduce the uncertainty about the fiscal health of industry suppliers, insurance companies and underwriters began to offer warranty backstops.

These programs transfer the fiscal responsibility for the warranties from the manufacturer to the insurance company (but the manufacturer still must determine if the warranty claim is valid).

Performance ratio guarantee. Increasingly, lenders are seeking guarantees on an installation’s energy production. Such guarantees, typical in the engineering, procurement and construction (EPC) agreement for large fossil-fuel-fired generation facilities, are designed to protect project cashflows by ensuring the facility produces at the level proposed by the EPC (may be referred to as a contractor wrap).

In theory, these different types of coverage come together and provide comprehensive protection to shield solar projects from a wide array of perils, hazards and risks.

In practice, however, the multiple contracts, agreements, terms and conditions in place often create complexity and confusion.

What market participants believe to be covered often is not, in fact, covered. Ambiguous language in everything from project requests for proposals to guarantee terms can lead to great contention among all parties involved.

In addition, protection available - whether in the form of warranties, performance guarantees or insurance coverage - can vary significantly project to project.

They can also differ across individual project components from manufacturer to manufacturer, as well as from installer to installer.

As market forces reduce lenders’ and investors’ risk appetite, it is critical to consider the guarantees, warranties and insurance coverages available on solar project developments.

Developers and their partners are encouraged to consider everything that can go wrong in the worst-case scenario. Plan for potential risks up front and minimize frustration later.

Ask what financers will wonder: Are you covered? What happens if one of your vendors goes bankrupt and your contract is unenforceable? Are there options available to ensure protection throughout your project’s lifecycle without delays sorting through who might cover what?

Solar project owners, developers, lenders and investors have a significant stake in ensuring a project’s success. Asking questions about protections in place on a solar development project is critical to reduce uncertainty, protect cashflows, increase revenue predictability and ensure a bright tomorrow. S

 

David Schroeder is vice president of operations and industry relations at Assurant Inc. He can be contacted at (615) 264-6282. Erin Cullen is an underwriter at GCube Insurance Services Inc. She can be contacted at (212) 863-2237.