As we see the rapid increase in energy costs, especially fossil fuels and electricity, across Europe, with the strongest increase in the inflation rate in decades, we are reminded that renewable energy is not a matter of the distant future, but a necessity today. A key factor in limiting carbon emissions and contributing to a Europe that is independent of energy supplies from countries outside Europe is the development and significant increase of renewable energy sources. Solar energy will play a significant role in this development. The European Solar Strategy, which was republished in early 2022, calls for 20 gigawatts of annual solar generation capacity by 2025 and 600 gigawatts by 2030. Much of that renewable energy will come from rooftop solar panels, many of which are installed on residential homes. However, this potential – as of today – is not adequately represented through financing the purchase of such solar panels.
What’s happening across the pond? Experience with solar ABS and renewable energy financing in the United States
To get an idea of future developments in Europe, we have to look at the United States.
Since the first solar loan transaction in 2013, the market has grown rapidly. Starting with a $50 million transaction in 2013, the market has grown to a size of $15 billion. This development was also driven by legal and regulatory considerations. Over the past few years, solar panels have been subject to investment tax, which has allowed households to reduce their income tax liabilities. Furthermore, California passed a law requiring all newly constructed residential homes to have solar panels. As of today, this growing residential market in the United States is highly concentrated in the hands of a small number of very large and powerful originators who focus exclusively on the installation and associated financing of solar panels. This results in very concentrated portfolios of a size where a portfolio-based approach to financing makes a lot of sense and adds structural protection to investors.
With much greater volume of these funds comes the need and potential for commercial-scale solar financing, and as a result, we are likely to see more and more commercial solar financing alongside consumer solar financing.
European solar ABS
In Europe we see a growing market for renewable energy and solar panels. Some countries are already requiring new buildings to be equipped with solar panels, which will trigger a market to help private households finance the equipment. The European Union has adopted a directive that allows member states to reduce VAT on solar panels on and in private apartments and residential buildings. In addition, in some countries, such as Germany, subsidy schemes have been introduced to facilitate the installation of solar panels and guaranteed long-term tariffs for private households that sell energy from their panels to the grid.
However, the situation is very different from that in the United States. Although there is a strong concentration of market share in the hands of only a few manufacturers in the United States, the situation in Europe is much more diverse: here we see a much more fragmented market. One reason is the diversity of jurisdictions. While the difference between a consumer loan in California and such a loan in Florida is not significant, the differences in such loans in European countries are much greater. This results in smaller portfolios and therefore makes securitization much more difficult. It is therefore much more likely that we will see the development of “national champions” within each European region. These national champions are dedicated entrepreneurs whose sole focus is solar installation and related financing. The greater market share these initiators take from commercial banks, which are an alternative in terms of lending, the greater the probability that we will reach the critical mass required for securitization.
Challenges to Solar ABS Adoption
In this context, there are a number of challenges for solar loan securitization in Europe:
- Fragmentation: A large part of the European market is covered by small installers with little standardization of access and data among themselves, making it difficult to obtain a standardized set of data for the large number of installers required for ABS.
Changing consumer approach: Prepayment for the installation of solar panels on the roofs of residential buildings is widespread in many European countries. A key challenge for new OEMs will be to bring the long-term nature of the solar loan or leasing product to the end consumer and demonstrate the potential for savings to the consumer, especially in the context of rising energy prices and high inflation.
Legal uncertainty: Although the specifics of legal and regulatory requirements vary from jurisdiction to jurisdiction in Europe, typical questions that arise in this regard are: Does the solar panel become part of the property – and as such will be covered by the mortgage as insurance – or can it be financed separately? Can you take out separate insurance for solar panels? Can the investor remotely deactivate the panel if there is a default in the portfolio? Can you redistribute electricity sales and recover sales revenue? Can the investor intervene if the property is sold? Many of these issues are still not definitively determined, creating legal uncertainty for both consumers and financing parties.
Long financing periods: Unlike other asset classes, solar panels require a longer financing period, typically 15 to 20 years of financing. It is much longer than other asset classes and requires special skills and an investor base, which is just developing. In a small portfolio environment, funding such long-dated assets is particularly challenging in multi-currency scenarios, such as a pool of assets spread across different European countries.
Adequate regulatory support: The development of the private financing market will also depend on the government’s approach to subsidizing solar panel installations. We’ve seen some extensive subsidy schemes in Europe, where consumers could recoup the entire cost of installing solar panels up front if they renovate their homes in a specific way. Such extensive government support minimizes the need for private financing and the potential for ABS.
Driven by rising energy costs and high inflation rates, the demand for cleaner and cheaper renewable energy produced on your roof top is growing across Europe. This is highlighted in the European Solar Strategy, which aims to meet the climate and energy targets of the European Green Deal.
At the same time, we are already seeing an increased demand for sustainable and ESG-compliant financing and a growing appetite from the investor side for the creation of ESG-compliant ABS. The EU Commission has issued a proposal for European green bond standards, which is currently in the legislative process. Although there is not yet a final EU directive on European green bond standards, solar loans will certainly fall into that category, creating the potential for future securitizations.
The key question, however, will be which originator will have a portfolio large enough to securitize. In Germany, for example, there is on the one hand the state bank KfW, which is very active in solar lending, but will not securitize its portfolio, and on the other hand a number of local savings banks that only have small portfolios. That being said, we believe the driver of securitization will come from solar installation companies building large enough portfolios for securitization. One means of mitigating fragmentation could be European regulation that could help standardize data, a necessary step for ABS. The UK could lead the way in this regard: all solar panels there should be certified under a microgeneration certification scheme, which could help provide a standardized set of data across the many installers.
We believe we are likely to see private securitizations in the not-too-distant future, leading the way for public securitization transactions further down the line.
After all, we could be on the verge of a golden era for solar power in Europe: for consumers, the wedge between opportunity cost and the capacity to produce cleaner, cheaper energy on their rooftops is growing faster than in other markets at the moment. Growing demand for renewable energy against the backdrop of climate change and rapidly rising fossil fuel and energy costs could accelerate the transition to a green economy. While the benefits to the consumer are obvious, securitization could play a key role in accelerating this transformation.