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Energy savings and resource efficiency

Business

Power Purchase Agreement (PPA)

With a power purchase agreement (PPA) you do not own the solar system, you simply host it and buy the energy it produces. The financier is responsible for the operation and maintenance of the system and for ensuring that the system produces the required energy.

The price you pay for the energy produced by the solar system is stipulated in the contract in c/kWh. It may be fixed for the entire term, or may increase over the life of the system. As long as the price remains lower than the grid price and you consume all of the energy produced, you are guaranteed net benefits over the life of the contract. You are under no obligation to buy the solar system at the end of the contract.

Also known as: Power plant agreement, solar lease

Scenario

Below is an illustration of how the cash flows and benefits of how a power purchase agreement could work under a realistic, but hypothetical scenario.

Solar project

Solar system size

30kW

System cost

$46,285

Replacement inverter cost (assume new inverter is required after 15 years)

$9,355

Cost of daytime grid electricity

$0.21 to $0.28 / kWh

Capacity charge

$0.34 / kW / day

Finance conditions

Proportion financed

100%

Term

20 years

Energy tariff

$0.20 / kWh

Residual payment

10%

The chart below illustrates the annual cash flow outcomes based on this scenario.

Power Purchase Agreement cashflow analysis of an example 30kW solar PV sys <p>A key feature of a PPA is that you can expect to be cash flow positive from year 1. However, unless you have a very competitive tariff in your PPA, your benefits grow much slower than other finance options. You are also locked into these rates for a long time, but you also avoid operating and maintenance costs and avoid having to pay for replacing the inverter in year 15. There is also a small balloon payment at the end of the contract to assume ownership of the system in year 20. </p> <p>The overall Net Present Value is the lowest of all options, but is delivered virtually risk free (i.e. assuming grid electricity prices don’t collapse) and is still healthy at around $28,000. Interestingly, the overall investment <a href=Levelised Cost of Electricity works out at 19c/kWh (slightly less than the 20c/kWh of the PPA). This is because the system produces 5 years of almost free electricity once the PPA ends.

 

 

Finance details

Period

Principal

Interest Rate

15 - 20 years

Up to $500k

8 -25c/kWh

Fees, charges and other payments

PPAs may involve an establishment fee, monthly service fees and exit fees. PPAs have no residual. For long leases, i.e. 20 years, you may have the option to buy the system at the end of the contract at a negligible price. You don’t pay anything for operating and maintenance. 

Accounting and tax

The financier owns the solar system and it does not appear on your balance sheet as there is no obligation to buy at the end of the PPA. You may claim tax deductions for all electricity purchased as you would for grid electricity, but may not claim deductions for depreciation of the asset. 

Advantages

  • All performance risk is borne by the financier and they pay for all operation, monitoring and maintenance costs.
  • Zero upfront cost, freeing up cash for other business investments.
  • You are under no obligation to purchase the possibly obsolete system at the end of the PPA.
  • You may have the option to purchase the system quite cheaply at the end of the contract and continue to save on energy bills for the short remaining life of the system.
  • Grid electricity prices may grow faster than the PPA electricity price and increase the benefits.

Disadvantages

  • The market for PPAs is relatively new, deals are customised and complex, so costs may not be competitive compared with traditional forms of finance.
  • Longer contract lengths may result in higher overall costs of finance than financing options with shorter terms or self-funding.
  • Grid electricity prices may grow slower than the PPA electricity price, decreasing benefits or leading to a net loss.

Risks

  • If you don’t use all of the energy generated, you won’t enjoy the full benefits of the PPA.
  • PPA electricity prices may escalate faster over the life of the contract than grid electricity prices.
  • Locking your business into long term contracts may be risky.
  • If you want to buy the system at the end of the PPA, make sure you budget for that payment.
  • Fees and charges will vary between financiers, so make sure you understand them all.

The performance of any solar finance option is highly dependent on how you and your financier structure the agreement. This includes the amount financed, the term of the agreement, the interest rate charged, fees and charges and any balloon payments or residuals.

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Page last updated: 10 December 2015