Investors love renewable energy. This influx of money, paired with growing market demand for solar energy, has caused rapid market growth. Globally, the International Energy Agency (IEA) estimates that solar energy’s share of energy production will soon account for more than two percent of global energy generation. In the U.S., the value of the solar market was $23 billion in 2016, and has grown by approximately 68 percent every year over the past decade. The market valuation of solar generation assets remains a source of tension between regulators, developers and investors, as these entities struggle to best structure asset appraisals.

Standards vary based on the purpose of the valuation, but the most common valuations will be based upon fair market value (FMV). FMV is calculated any number of ways, but solar valuations are most useful when integrating an approach that draws upon cost, income and market based valuation methods because each reveals relevant information that can be weighted appropriately depending on the situation.

The cost approach considers either the costs to reproduce identical assets, or looks at the replacement cost of the assets. From a valuation perspective, it is often the least reliable calculation of the three. It does, however, provide a relevant data point for estimating FMV. After all, buyers do not want to pay more for existing assets than it would cost to develop something similar. In circumstances where this model provides a higher indication of value than the other two approaches, perhaps due to a below-market power purchase agreement (PPA), the cost approach should be given less weight in a final valuation. Likewise, in situations where the cost approach produces an asset appraisal that’s lower than other methods, this may also justify a heavier reliance on other methods, because a seller may demand the additional value.

An income approach relies on the asset’s expected earnings capacity. This approach is often the most relevant approach for pricing solar assets, as it takes historical financial data, specific contracts and incentives into consideration. It’s most appropriate for solar assets when looking at discounted cash flow (DCF). This method analyzes all relevant factors an investor would typically examine, including economic benefits, risk and the liquidation time horizon. Its biggest weakness is its reliance on examining the estimated useful life of the system. Appraisers will likely still face difficulties determining the unleveraged discount rate or weighted cost of capital, as well as long-term equity and debt weighting. Tax attributes can also be difficult to project. All projections should be determined from the market participant’s perspective so that correct estimates can be reached for tax credits, depreciation, costs, financing rates and debt and equity weighting.

The market approach can be used when a number of comparable assets – stemming from the same geographic region – have recently switched hands in the larger marketplace. In this instance, valuation metrics is not for those transactions can be weighed. This is not always possible, though, and if sufficient comparable assets cannot be identified, the method is not useable.

Every power plant valuation is different, and likely riddled with its own inherent complexities and variables. This is why it’s so important to employ all of the above methods in these assessments, and analyze each data point in relation to its specific value within a given scenario.