solar securitization: the emergence of a new funding structure
TRANSCRIPT
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Presenting a live 90-minute webinar with interactive Q&A
Solar Securitization:
The Emergence of a New Funding Structure Leveraging Alternative Financing Without Jeopardizing Existing Investor Tax Breaks
Today’s faculty features:
1pm Eastern | 12pm Central | 11am Mountain | 10am Pacific
WEDNESDAY, APRIL 13, 2016
Andrew C. Coronios, Partner, Chadbourne & Parke, New York
Eli M. Katz, Partner, Chadbourne & Parke, New York
Gary P. Blitz, Esq., Senior Managing Director, Aon Transaction Solutions, New York
Stephen J. Viscovich, Managing Director, Credit Suisse Securities, New York
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Solar Securitizations: Emergence
of a New Funding Structure
Eli Katz, Chadbourne & Parke LLP
Andrew Coronios, Chadbourne & Parke LLP
Steve Viscovitch, Managing Director, Credit Suisse Securities
Gary Blitz, Senior Managing Directing, AON Transaction Solutions
CPAM: 9290530
Agenda
• Solar Financing Landscape
• Role of Securitization
• Basics of a Securitization
• Securitizations without Tax Equity
• Securitizations with Tax Equity
• Risk Mitigation
• Key Risks
• Future of Solar Securitization
6
General Overview
7
Solar Financing Landscape
• Solar is largely deployed in the US with a third party ownership model
• Tax benefits in solar (30% ITC; accelerated depreciation) require tax
equity structures
• Partnership flips
• Lease Pass-throughs
• Sale-leasebacks
• In the distributed solar sector, systems are increasingly financed through
solar loans
• Borrower uses tax credits
• No third party ownership model necessary
8
Solar Financing Landscape (Cont’d)
• Optimal capital structures in solar financings often involve non-recourse
financing at entity above the tax equity (i.e.,back-leverage)
• Back-leverage does not subordinate tax equity
• Does not risk ITC recapture;
o Transfers
o Entity Foreclosure
• Avoids complex inter-creditor terms and attracts more tax equity sources;
• Back-leverage is non-recourse debt secured by the developer’s cash
equity position in a solar system;
• More expensive than project level debt
• Shorter tenors (7-10 years)
• Still involves negotiation with Tax equity provider
9
The Securitization Markets
• Securitization is a technique to pool assets (usually financial receivables)
into a special purpose vehicle which then issues securities to investors
• Auto loans
• Credit card receivables
• Home mortgage loans
• A securitization vehicle has a number of advantages:
• Cheaper cost of capital
• Risk diversification to investors
• Public rating increases pool of investors
• Tends to work best with assets that have/are:
• Predictable cash flows
• Long and Successful track record
• Easy to administer
• Highly fungible
10
How it works:
basic securitization structure
be
Originator Obligors
True sale of assets
Issuer (SPE)
Contracts creating assets
(e.g., loans)
Issue
$$
Indenture
Trustee ABS Investors
Notes
Notes
Servicing Agreement
Pledge of all assets
Issuer
Lockbox
Obligor
Payments
$$
Cash
Sweep
$$
Issue
$$
P+I Payments
Excess
Cash
Flow
$$
Excess
Cash
Flow
$$
Custodian Delivery of Contracts
Back-up
Servicer Back-up Servicing
Agreement
Issue $$
11
Solar Securitizations
• Securitizations in solar are primarily aimed at leveraging cash flows from
cash equity or customer loans
• Focused on the residential solar market
• Fungible assets
• Standardized documents
• Financing easily fits consumer receivables;
• Solar C&I segment continues to explore use of this financing vehicle
• Can be viewed as a substitute for back-leverage debt
12
Key Deal Terms
• 7 solar securitizations have closed so far
• All transactions have been comprised of all or mostly residential solar
assets
• Over $800MM raised
• Close to 450Mw
• Some transactions have contained both A and B Tranches
• Advance Rates ranging from low 60’s to high 70’s
• Blended yields of low 4’s to low 6’s
• Minimum Fico Scores in underlying contracts well over 700
• Maturity less than 10 years across recent deals.
13
Securitizations to Date
Issue Interest Rate Tenor Rating Pricing
Date
Structure %
Resi
SolarCity LMC I
$54,425,000
4.800% 13 Years S&P BBB+ 11/13/13
Directly owned 71%
SolarCity LMC II
$70,200,000
4.590% 8 Years
ARD
S&P BBB+ 04/03/14
Directly owned 87%
SolarCity III
$201,500,000
4.026% (A) / 5.45% (B)
8 Years
ARD
S&P BBB+ /BB 07/25/14
Inverted lease 100%
SunRun
$111,000,000
4.400% (A) / 5.38% (B) 9 Years
ARD
KBRA A/BBB 07/01/15
Inverted lease
100%
SolarCity IV
$123,500,000
4.180% (A) / 5.58% (B)
6.5 Years
ARD
KBRA A/BBB 08/07/15
Partnership flip 100%
AES/MS
$100,000,000
[TBA]%(A) /
[TBA]%(B) [TBA]
10 Years
ARD
KBRA BBB/B 30%
SolarCity FTE 1
$185,000,000
4.80% (A) / 6.85% (B) 6.25 Years
ARD
S&P BBB+ / NR
KBRA BBB / BB
01/13/16 Customer loans 100%
SolarCity LMC V
$57,450,000
5.25% (A) / 7.50% (B) 6 Years
ARD
S&P BBB+ / BB
KBRA BBB+ / BB+
02/29/16 Inverted lease /
directly owned
100%
14
Solar Securitization Basics
15
Key Requirements
• Consistency of assets
• Similarities in credit quality, term, documentation
• Critical mass of assets
• Securitization require sufficient pool size to justify transaction costs
• Overcollateralization
• Repeatable and scalable
• Servicing and O&M Requirements
• Structure Requirements
• See prior slide regarding SPE status and security/control over cash flow
• Inspecting Engineer’s Report
• Reporting
• Servicer reports covering not only financial performance of the assets, but also
defaults, restructurings, casualty, inverter replacement, other repairs, panel
performance etc.
• Company infrastructure
• Institutional commitment to build the whole company to support securitization
16
Basic Terms
• Minimum FICO ratings for individual residential customers and investment
grade or equivalent ratings for non-residential customers originated in
compliance with consumer finance regulations
• O&M provider to cover production and performance guarantees and
equipment replacement
• Reserves
o Liquidity reserve
o Inverter replacement reserve
• Debt service coverage ratio
o First trigger traps excess cash flow in DSCR reserve
o Second trigger at lower DSCR causes early amortization event – all excess cash flow
applied to pay down principal
17
Basic Terms cont.
• Advance rates from 60’s to 70’s as % of discounted cash flows
• Ratings limitations - because of limited operating history S&P expects
ratings to be constrained to low investment-grade for the near future
18
Securitization Without Tax Equity
19
How it works:
solar securitization - no tax equity
Developer Host
Customers
true sale of contracts and PV Systems
Issuer
(SPE)
Install PV Systems
Contracts
(20 years)
Issue
$$
Indenture
Trustee ABS Investors
Notes
Notes
Management Agreement
Pledge of all assets
Issuer
Lockbox
Host
Customer
Payments
$$
Cash Sweep
$$
Issue
$$
P+I Payments
Excess
Cash
Flow
$$
Excess
Cash
Flow
$$ Custodian Delivery of Contracts
Transition
Manager Manager Transition Agreement
Issue $$
20
Securitization With Tax Equity
21
Interplay with Tax Equity
• Early deals were done with cash grants avoiding issues with tax equity
• Securitizations are not a replacement for tax equity
• Tax equity will generally require (i) some cash flow; (ii) ITC recapture
protection; (iii) Sponsor protection on tax basis
• Contractual interplay with tax equity is similar to back-leverage lender
• Cash flow sweeps
• Indemnities
• Securitization with certain tax equity structures such as inverted leases can be
structured to avoid issues with tax equity with consent of tax equity (LMC III &
LMC V; SunRun)
• Securitizations with other tax equity structures such as partnership flips can be
structured to accommodate existing tax equity requirements (LMC V)
22
Original
Lessor
Host
Customers true sale of lease and
lessor rights in contracts and PV Systems
Issuer (SPE)
Install PV Systems
Contracts
Issue
$$
Indenture
Trustee
ABS Investors
Notes
Notes
Management Agreement
Pledge of all assets
Lessee
Host
Customer
Payments
$$
Rent
$$
Issue
$$
P+I Payments
Excess
Cash
Flow
$$
Excess
Cash
Flow
$$ Custodian Delivery of Contracts
Transition
Manager Manager Transition Agreement
Issue $$
Lease
Lockbox
Developer
Lease /
Assgt of
Contracts
Maintenance Services Agreement
Lessee
Security
Agmt
100% equity
23
How it works:
solar securitization with tax equity –
inverted lease
How it works:
solar securitization with tax equity –
partnership flip
Developer
Issuer
(SPE)
True Sale (Class A Membership Interests of each Managing Member
Indenture Trustee P+I Payments
Notes
Issue $$
Transition
Manager
Custodian
Manager Transition Agreement
Custodial Agreement
Issue $$
Notes
Managing
Member No. 1
ABS
Investors
Tax Equity
Investor No. 1
Financing Fund
No. 1
Host Customers
Managing Member
Distributions $$
Managing
Member
Distributions
$$
Managing
Member No. 3 Managing
Member No. 2
Tax Equity
Investor No. 2
Host Customer
Payments
Financing Fund
No. 2 Financing Fund
No. 3
Financing Fund
No. 4
Host Customers Host Customers Host Customers
Issue $$
100% Class A Member
100% Class A Member 100% Class
A Member
100% Class A Member
100% Class B Member
100% Class B Member 100% Class
B Member
100% Class B Member
Excess
Cash
Flow $$
Excess Cash Flow $$
Managing
Member
Distributions
$$
Managing
Member
Distributions
$$
Managing
Member
Distributions
$$
Host Customer
Payments Host Customer
Payments
Host Customer
Payments
Tax Equity
Investor No. 3
Managing
Member No. 4
Tax Equity
Investor No. 4
Sole Member
24
Risk Mitigation
25
Tax insurance
What is tax insurance?
Tax liability or tax opinion insurance can help a company reduce or eliminate
an unwanted or contingent liability arising from a successful challenge by the
I.R.S. or a foreign or state and local tax authority of a company’s tax
treatment of a current, pending or historical transaction or investment.
What is covered?
• Failure of the insured to achieve the expected tax treatment in a
transaction (M&A, lease, partnership or financing transaction) or an
existing/ongoing corporate tax issue
• U.S., state, local or foreign taxes
• Retroactive change in law
• Tax, contest costs, interest, penalties and gross-up
26
ABS Transaction – Mitigate Cash Sweep
Project
Co
Tax Equity
Investor Issuer
Normal Cash Flow Normal Cash Flow
Securitization
Investor
65% 35%
Note: Percentages are illustrative
Scenario 1 – Normal cash flow - basis is respected by IRS
27
ABS Transaction – Mitigate Cash Sweep
Scenario 2 – Same as Scenario 1 except Basis is not respected by IRS
(Final Adjudication); Issuer indemnifies Tax Equity Investor
Project
Co
Tax Equity
Investor Issuer
`
Normal Cash Flow Normal Cash Flow
Securitization
Investor
65% 35%
28
ABS Transaction – Mitigate Cash Sweep
Scenario 3 – Same as Scenario 2 , except Issuer fails to indemnify
Tax Equity Investor
Project
Co
Tax Equity
Investor Issuer
Increased Cash Flow Decreased Cash Flow due to
Cash Sweep
Securitization
Investor
Less than 65% Greater than 35%
29
ABS Transaction – Mitigate Cash Sweep
Scenario 4 – Same as Scenario 3 except Tax Insurance replacing the
“Cash Sweep”
Project
Co
Tax Equity
Investor Issuer
Increased Cash
Flow
Decreased Cash Flow to Issuer;
insurance proceeds to securitization
investor
Securitization
Investor
Insurance Policy
Proceeds
Greater than
35%
Less than 65%
30
Key Risks
31
Solar Asset Risks
• Limited historical data
• Customer default and recovery rates
• O&M performance
o Variability of costs over tenor of transaction
o Production and performance guarantees
o Panel, inverter and other equipment warranties
o Inverter replacement
o On-going system maintenance
o O&M provider default: back-up or transition servicing
• Contract rate renegotiation risks
o Prevailing utility rates compared to contract escalation provisions
o Net metering (excess electricity sold into the grid)
o Competitors’ solar contract rates
• Technological
• Casualty risk
32
Structure Risks • Learning curve for investors
• Concentration risks
• Residential - market
• C&I – obligor and market
• Tax Equity – Inverted Lease
• Liens on assets
• Investors more easily understand lessee risks (e.g., bankruptcy of lessee)
• Subordination of tax basis adjustment risk to securitization (SolarCity III and
SunRun)
• Tax Equity – Partnership Flips
• No liens on assets – structural subordination
• Bankruptcy risks of partnership and managing member
• Obligations between tax equity investor and developer managing member
• Tax basis adjustment risk - mitigated through tax loss insurance policy
• Flip dates / option to purchase tax equity investor’s interest
• Liquidity risks
33
Pros/Cons - Securitization
• Lower advance rate than back-leverage debt
• Credit standards are tighter
• Lower cost of capital
• More flexibility to spread risk through tranching mechanics
• Larger pool of investors
• Priming pump for when ITC expires.
34
The Future of Solar Securitization
• Will the product expand beyond residential solar?
• Solar C&I
• Document standardization
• Credit rating of offtakers
• Can the product co-exist in the long term with tax equity?
• Is there a need for the product while back-leverage terms remain
hospitable?
35
Thank You
Eli Katz, Chadbourne & Parke LLP
Andrew Coronios, Chadbourne & Parke LLP
Steve Viscovitch, Managing Director, Credit Suisse Securities
Gary Blitz, Senior Managing Directing, AON Transaction Solutions
36