Monday, July 25, 2011

The Value of Solar Renewable Energy Certificates (SRECs)

Solar Renewable Energy Certificates, SRECs, are not real, they are environmental “commodities” created by regulation that was born in New Jersey in 2004-2005 as a way to encourage and support the growth of solar energy within the states that utilize them. SRECs are not physical entities, but merely a credit for having made power. Like most consumer solar arrays I use all the power produced by the panels in my own home, nonetheless, my system generates 10 SRECs a year. Because SRECs are not physical items their value depends entirely on regulation which can change over time and that is the inherent risk in making financial decisions based on regulations. There was always a risk that some (or all) SRECs could become worthless at any time if regulations change. Some SRECs were actually designed in a way that would decrease in value over time and state legislatures have stepped in to prevent that.

SRECs are created by state regulations. In order for SRECs to have any value, the states must have a mandated Renewable Portfolio Standard, RPS, the SRECs must be tradable and there must be a punitive financial penalty for not meeting a solar carve out portion of the RPS. A renewable portfolio standard (RPS) is a state legislative requirement for utilities to generate or sell a certain percentage of their electricity from renewable energy sources. The percentage requirements under RPS programs vary widely from state to state, but for SRECs to have any real value there must be a solar carve out and be tradable.

In some states with solar grant or rebate programs the utility company owns the SRECs so that the homeowner can not sell them. This has worked in states like California where electricity rates are high and tiered and the solar installation market has become is more competitive and utility payments effectively fund solar rebates. As of September 20, 2010, 36 states plus the District of Columbia and Puerto Rico have enacted an RPS or a renewable portfolio goal (RPG). Of these states, only New Jersey, Maryland, Washington DC, Delaware, Ohio, Pennsylvania, and Massachusetts have assigned a multiplier to Solar RECs and created a separate SREC market where the homeowner or facility owner maintains ownership of the SRECs.

The legislation creating SRECs and RPS in various markets is always in flux. In the District of Columbia, the RPS market has requirements of about 7.6 megawatts of installations for next year, but there are over 45.7 megawatts of solar photovoltaic systems currently registered and certified in DC that are eligible for the DC SREC market. Only 1.2 MW of the 45.7 megawatts are actually located within the District. In Pennsylvania the RPS requirement for next year is 44 megawatts and there are 104.8 megawatts of solar photovoltaic systems currently registered and certified in that state with only 36.3 are actually located in Pennsylvania.

Even in a market created by regulation, the relationship between supply and demand creates the price. A market that cannot attract the supply to meet the mandated demand will have above market SREC prices until the supply increases this is effectively what happened in New Jersey’s closed market with aggressive RPS requirements. An open market that attracts too much supply too quickly would face a collapse in SREC pricing. Virtually all states have more SRECs available for sale than mandated RPS at this time. Price collapse has occurred in the states with open markets and small RPS requirements. This situation creates the dynamics for legislatures to limit access to these open markets in the future to protect in-state generators or conversely to slow the development of solar projects in the eligible adjacent states. That is the problem in markets dependent on regulation for their existence a state legislature will determine the ultimate return I get on my investment in solar photovoltaic panels.

New Jersey, Maryland, Delaware and Massachusetts have SREC markets closed to out of state facilities. Ohio, Pennsylvania and Washington DC allow sale of SRECs of facilities in adjacent states. New Jersey and Massachusetts have additional mechanisms to protect the market SREC value and the instate market from significant oversupplies like those seen in Pennsylvania and DC. New Jersey pioneered the SREC program in their 2004 and launched in 2005. In the early years, in addition to closing its borders to out-of-state facilities, New Jersey placed a cap on the size of project eligible for the SREC market to protect the small generator. There is also a protection to the SREC value in the Solar Alternative Compliance Payment that is the punitive fee for failing to meet the solar carve out. Massachusetts has made a 10 year commitment to their program setting a floor price of $300.

Virginia where my solar panels are located does not have a mandated RPS, it is voluntary. In addition, Virginia does not have a solar carve out in their voluntary standard. All REC are priced the same in Virginia at about $15 a megawatt as I would be competing against the landfill gas generators such as the Prince William County landfill. In addition, my electric cooperative sells power at a very low cost (about 11.5 cents per kilowatt over 300). I am eligible to sell my SRECs in Pennsylvania and Washington DC. Currently both of these markets have and oversupply of SRECs and the price has collapsed. Two factors have created this dynamic; there is no cap on the size of eligible projects and the recent SREC prices, state rebates in several states and federal tax credits that had effectively reduced the cost of solar installations increasing both the return on investment and thus the supply of solar installations and SRECs. Large projects and small consumer projects responded to these incentives and anticipated SREC payments to overbuild solar installations. The time lag inherent in SREC generation feeds the market inefficiency.

This delay has created the price collapse in the market. Too much supply of SRECs entered the market over the past 18 months before SREC prices were able to indicate to the market that it needs to slow growth. At this point, one of two things is likely to happen, either growth of solar projects will slow in the markets where the SREC price has collapsed (Washington DC and Pennsylvania) or the states will incorporate a price support feature into their market. That price support could either come in the form of a floor price akin to that seen in the Massachusetts market, or a mechanism that triggers a requirement increase in the event of a price collapse. Often these price supports are accompanied by closing the market to avoid paying out of state generators with local rate payer money. On the other hand if more states create open SREC markets, the price support could come in the form of shifting supply from one state market to the next. If each facility is eligible in several states, the market becomes more diverse and subsequently more secure. However, regulators tend to choose to protect their own and their faith in open markets is not something I would bet on. At this point it appears that my investment in solar panels will return will be less than I hoped.

The total installation cost was $58,540. I obtained the Virginia Renewable Energy Rebate of $12,000 and the 30% tax credit of $13,962 and my total out of pocket cost for my solar system after the first year is $32,578. A rough estimate using the DOE model of my savings on electricity is $1,400 per year. This past year I earned $1,045.94 in SREC income for the partial year that my panels were installed. That is slightly over a 7.5% return on my investment last year. Now my future returns do not look as bright. My husband, an experienced investor, has reacted well to this lowering of anticipated return on investment reminding me that our own power generation savings is worth more than 4% each year at the current cost of electricity.

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