Capitalizing on the growing demand for solar rents under solar projects
The growing demand for renewable energy has resulted in an increase in solar energy projects across the United States. These projects require a significant amount of land and often, that land is owned by private individuals or companies. In many cases, these landowners may not have the resources to develop the land themselves and will lease their land to a solar developer. These leases include long term income streams for the landowners, known as a solar rent.
The cash flow streams from solar rent can be purchased by investors looking to participate indirectly in solar projects. Oftentimes, the investors are looking for stable investments while also supporting climate positive initiatives. Identifying these projects as early as possible is key for solar rent investors.
In this article, we’ll examine how industry-specific technology is changing the front lines of generating solar rent deals, and explore ways to actively identify future potential solar sites long before construction begins. Want to learn more about buying and selling solar rents? Watch our webinar recap below:
What are Solar Rents?
Rent is a payment made by a tenant or lessee to the owner of a property for the use of that property. In the context of solar energy projects, rents are payments made to the landowner for the use of their land for the solar project. Other resource industries, wind projects being one example, may include a royalty payment, allowing the landowner to participate in the success of the project. However, solar lease agreements are usually rent-based, since the project is more predictable from the perspective of the developer. Rent-based lease agreements are also easier to understand by the landowner and require less regulatory oversight to ensure the developer is accurately reporting revenues.
The typical lease agreement process begins with an option period, allowing the developer to run an initial assessment of the viability of the project, followed by the lease being executed. The lease option or lease will include a fixed dollar per acre per year amount followed by a small percentage escalator intended to keep the cash flows inline with standard inflation rates.
The lease itself, or the land with the lease, can be sold at any time, whether the lease is in the option stage, lease stage, or operational stage. The purchase price may vary depending on the stage of the project. As the project advances, risks associated with the project decrease. These assets are highly valued by industry buyers and investors.
Convincing Sellers to Sell Solar Rents
Like any cash flowing asset, the owner must determine if receiving the cash flow over time is more beneficial than receiving a lump sum of the cash upfront at a discounted rate. One way to illustrate this is with the lottery games that states use to generate money for schools and other public services. Most lottery winners choose to receive their winnings upfront rather than being paid out over time, even if the upfront payment is ultimately a lesser amount. A similar principle applies to the sale of solar rents.
Many landowners are motivated by the immediate need for cash up front. This situation commonly occurs when the solar rent owner has a significant life change and finds themselves in a position of needing to sell an asset to meet their immediate financial obligations.
While needing quick cash is one contributing factor, another is the reality that the rent owner may have another investment opportunity with a better rate of return. To put it in practical terms, if a rent owner is being offered a discount rate of PV8 (present value discounted at 8%) for their solar rents, while at the same time the owner has an investment opportunity that returns 12% annually, the 12% investment is a better opportunity yielding an additional 4% rate of return, all other considerations aside. Sellers can utilize the 1031 exchange to sell the solar rents and place the cash in another investment to possibly avoid any taxes on the transaction.
Lastly, there can be tax benefits to selling solar rents. Sellers can claim the solar rent sale as capital gains, currently being taxed at 15-20%. Retaining the solar rent income means paying income tax at a much higher rate. LandGate advises our clients to consult with a tax attorney to better understand tax strategies before selling solar rent payments.
Why Are Solar Rents Attractive Assets to Purchase?
From the perspective of the buyer, solar rents streams are attractive investments for the following reasons:
Solar rental income provides a long-term revenue stream. Solar lease agreements often range from 10-30 years, so the asset provides a long-term dependable cash flow stream that the investor can depend on.
Solar rental income is lower risk. Other real estate investments can carry market risks, whereas solar rental income is a fixed amount. These fixed cash flow streams can be easily modeled financially making them a dependable low-risk asset class.
Environmental benefits. Many investors are seeking to participate in climate change initiatives. Solar rent income streams allow investors to, at least indirectly, participate in renewable energy projects.
One strategy that buyers often deploy is aggregating several solar rent projects together to create a sizable enough package for a pension fund or insurance group to purchase. These strategies can be funded by Private Equity firms backing specific teams to acquire multiple projects. Once enough cash flow is bundled together from multiple solar projects, the package can be worth potentially hundreds of millions of dollars.
What Are Typical Purchase Prices for Solar Rent Deals?
Solar rent buyers must consider their cost of capital. Buyers will often utilize investors, banks, or other capital providers to purchase solar rent assets. As an example, if the buyer is buying solar rents at PV6 and their cost of capital is 5% annually, they will realize a 1% return leaving them with thin margins. At those rates, there are better investment opportunities available.
As a result, whenever interest rates increase, the discount rate applied to the long-term solar rental income must also increase. In other words, buyers cannot pay as much for solar rent assets when interest rates go up. The result is a changing market driven by the cost of capital.
Based on LandGate’s data and market intelligence, the market for solar rent transactions in 2020-21, when interest rates were low, was in the PV5 to PV8 range. Today’s market in 2023, the purchase prices are in the PV8 to PV12 range. Those ranges assume the solar farm is operational and producing. Higher discount rates are applied to future potential projects.
Identifying Projects and Rent Owners
LandGate deploys unique strategies for sourcing solar rent deals. First, landowners are provided with a marketplace where they can easily find information about their property and use that data to make decisions about selling their solar rental income or land.
LandGate’s PowerLeads solution allows solar rent buyers to connect directly with solar rent sellers. The landowner posts their deal and the buyer contacts the seller directly, with no fees for either party, other than a subscription fee that buyers pay to access the deals. LandGate averages at least one renewable rent or royalty project every week and has closed over $100 million dollars worth of rent and royalty transactions.
Another technology solution that LandGate offers buyers is called PowerCRM. Power CRM is a parcel search software that allows buyers to locate parcels under potential or producing solar farms. Once the search is performed, the user can export ownership information including mailing address, phone numbers or email address. The buyer can then reach out to thousands of solar rent owners through their own internal marketing campaigns. These two approaches allow for buyers to contact ready-sellers, or choose to directly market to targeted solar rent owners.
Purchasing Early Stage Projects
The earlier a buyer can identify a project, the more likely it is that the seller hasn’t already been contacted by a competing buyer. LandGate identifies queued projects and then maps these project outlines to properly identify the solar rent landowners.
While it may be riskier to purchase early stage projects prior to COD (Commercial Operation Date), the risk can be applied to the purchase price allowing for additional upside for the buyer. Most buyers deploying this strategy will try to understand the reliability of the developer and do their best to verify the project's likelihood of success oftentimes by building relationships with project developers to gain insight on which projects will be constructed.
Using Tech to Bring Solar Rent Buyers and Sellers Together
LandGate’s platform is designed to help sellers and buyers transact through a trusted third-party marketplace. Buyers can purchase solar rents at various stages of development by either purchase from sellers ready to close or by deploying unique strategies in identifying early stage queued projects.
If you are a solar rent buyer and would like to speak with someone on our Energy Markets team, please contact us today.
