Solar Power: Investing Essentials

There's only one energy source that has the potential to power the world with clean and renewable energy for centuries to come: the sun.

Over the past decade the solar industry has made incredible progress in lowering costs and increasing efficiency so that it can compete with fossil fuels. That progress has led to costs lower than grid parity in many locations around the world -- and with costs falling even further every year, there's an incredibly large opportunity for investors in the solar energy revolution.

Rooftop solar has become one of the biggest growth areas in solar. Source: SunPower.

What is the solar power industry?

The solar power industry contains companies that produce energy from the sun or supply components that make solar power production possible. It includes companies that make raw materials that go into solar panels, inverter manufacturers, solar power plant builders, and companies that own solar projects and sell power to consumers and utilities.

Solar power installations can be found on residential rooftops, commercial rooftops, and massive utility-scale projects that cover acres of desert. To generate revenue, most solar power plants feed into the electric grid through either power purchase agreements with a utility or a form of net metering, which allows customers to only pay for the net energy they use from the grid, essentially paying retail rates for solar power production. 

SolarCity workers install a rooftop solar system. Source: SolarCity.

The solar power industry is currently transitioning from a subsidy-based model where feed-in tariffs or government subsidies drive demand to a cost-based industry where solar companies are competing directly with fossil fuel generation on a cost per kW-hr basis. As this more sustainable model develops, there are a few companies emerging as market leaders.

For example, SolarCity (NASDAQ: SCTY  ) sells power that's below the cost of the grid to residential and commercial companies, garnering the largest market share in rooftop residential solar. SunPower (NASDAQ: SPWR  ) makes the world's most efficient solar panels and builds projects from rooftop-scale to the 579 MW Solar Star project, the largest solar power plant in the world. First Solar (NASDAQ: FSLR  ) makes a thin-film product that has long been a cost leader in the industry, which the company has leveraged to become a leading utility-scale project builder.

How big is the solar power industry?

In 2013, 37 GW of new solar installations were installed, bringing the total installed globally to 136.7 GW. According to analysis from Clean Edge, revenue from solar PV was $158.4 billion in 2013. But for investors looking at solar power, it's growth potential that you should be concerned about.

Ivanpah Solar Electric Generating System, a 377 MW solar thermal power system completed in December 2013. Photo credit: Craig Butz via Wikimedia.

The 37 GW of capacity installed in 2013 accounts for just 0.0007% of the world's electric generation capacity, and in May of 2014 just 0.58% of the U.S.'s electricity came from solar power. Given the fact that $372.2 billion was spent on electricity in the U.S. alone in 2013, the market has a long way to grow before being a significant percentage of the electricity generation market.

How does solar power work?

There are a number of different technologies that can be used to turn the sun's rays into electricity. Solar thermal power plants use mirrors to bounce the sun's rays onto a pipe or power tower that eventually turns a turbine to produce electricity. Thin-film solar panels were also once a large part of the industry, but most thin-film manufacturers have gone bankrupt, and once-promising technologies like CIGS (which Solyndra used) proved to be uncompetitive with other technologies.

Today, a vast majority of solar power plants, large and small, are built using silicon based photovoltaic (PV) solar modules. PV modules are made with solar cells that are connected together to make a module -- or panel -- and installed on rooftops or in fields to make a solar system or project.

Once electricity from solar panels is made, it can be used on-site or sold to a utility through a power purchase agreement or net metering structure. Energy storage is also an increasingly common offering from the solar industry, and will allow solar power producers to control when and how they buy electricity from a utility.

What are the drivers of solar power?

As the solar power industry has evolved there have been two main drivers: cost and innovation. These two factors work together to improve performance of solar power producers, and lower the cost per kW-hr of electricity.

Cost of the components that make up a solar system are a key driver of the industry, and this is where there's been incredible progress -- and an incredible battle among technologies and manufacturers -- over the past decade. Lower installation costs lead to lower costs per kW-hr of energy, so this is key for the industry long-term. Below you can see the installation trends since 2010 for residential, commercial, and utility scale systems. For some longer-term perspective, RGS Energy sold the first retail solar panel for over $100 per watt in 1978; since then, a panel's cost has fallen over 99% to around $0.65 per watt for installers.

Source: SEIA and GTM Research.

There are a number of factors that go into the cost of a system, but one of the most important drivers is panel efficiency. If a solar module can be made more efficient, an installer can pack more power production onto a rooftop or in a field, improving system economics. This is particularly important in residential solar where space is limited. Companies that can improve efficiency while keeping costs down will generate more income for investors long-term.

One under-appreciated driver of solar power is the financing behind projects. Solar power projects act similar to bonds, as they have a large initial cost and then provide consistent cash flow for 20 years or more. So, the lower the borrowing cost, the lower the cost per kW-hr of electricity from a project. New financing structures like solar leases, asset-backed securitization, and equity financing options have helped lower costs for installers over the past decade. 

Investors have a great opportunity in the solar power industry given its nearly limitless market potential. The sun is challenging energy sources that have been entrenched for over a century, and could change everything we know about energy.

 


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