46 January/February 2012 | Renewable Energy Focus

About: Paul Frankel is managing director of the California Clean Energy Fund (CalCEF). Before joining CalCEF in 2008, he was co-founder and managing partner of Ecosa Capital, providing expansion fi nancing to growth stage companies in the clean energy, green building and sustainable agriculture markets.

Online: renewableenergyfocus.com

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A helping handPart one: could a new type of insurance help cutting edge renewable energy companies cross the valley of death?

LAUNCHING AN early-stage technology from

a pilot test to widespread deployment requires

large amounts of capital. But generally, debt

fi nanciers are hesitant to invest in projects

employing technologies at that stage because of

risks that can’t be quantifi ed, and also because projects are

too costly to be funded by venture capital alone.

These factors create what those in the industry call a

valley of death for clean energy companies that need fur-

ther funding i.e. they fi nd themselves in a scenario where

they have technology that has been successfully developed

and demonstrated – but has not yet been built at com-

mercial scale.

Insurance on the other hand can be used to both

reduce the cost and increase the availability of fi nancing

for projects employing emerging clean energy technolo-

gies. Project fi nanciers and developers use insurance

to transfer and allocate risks, such as those related to

property damage or bodily injury.

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47January/February 2012 | Renewable Energy Focus

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But developers of leading edge

technologies have also expressed an

interest in using insurance to transfer

specifi c performance and technology

risks. So, for example, if an insurance

product were able to limit signifi cantly

the exposure of lenders and other

fi nanciers to technology risk, other,

lower-cost types of fi nancing would

become available to project developers.

Theoretically, this could reduce

total project costs in leading edge

energy technology deployments by as

much as 10-20 percent.

So could this be enough to take

companies across the valley of death at

a crucial stage of their development?

Market needs and historical precedent

The ability to obtain fi nancing for

the deployment of emerging technolo-

gies at commercial scale can make or

break a company’s fate, regardless of

the technology’s effi cacy or potential

environmental benefi t.

Many promising emerging tech-

nologies remain in a stage perceived

as higher risk, not because of a lack

of commercial viability or market

opportunity, but because of a lack of

fi nancing to prove it at scale. These

technologies have gone through labo-

ratory and pilot-stage testing, but are

only just beginning to be deployed in

commercial projects.

Some examples of currently

emerging technologies that may face

fi nancing struggles include:

• Innovations in windpower genera-tion, like larger turbines or off shore

locations that present new chal-

lenges and additional risks relative to

the technology that is already widely

deployed in operating wind farms;

• Grid-scale energy storage, and

batteries for electric vehicles;• Second-generation biofuels, such

as cellulosic ethanol – that have

limited or no commercial scale

plants yet in operation; and

• A range of new, lower-emission

waste-to-energy technologies that

are progressing from testing to

commercial operations.

In general, emerging technologies

like these are vulnerable to technol-

ogy performance risk i.e. the risk

that a project utilising the technology

will not perform as expected.

This can manifest itself in vari-

ous ways, including an inability to

complete a project on time due to

technical hurdles; initial produc-

tion shortfalls; faster-than-expected

degradation of production levels over

time; and excessive operations and

maintenance (O&M) costs.

Navigating the Valley of Death – from demonstration project to scale up: Could an innovative type of insurance that would transfer specifi c performance and technology risks help companies through the so-called “valley of death”? (Image shows Death Valley National Park in California).

The ability to obtain fi nancing for the deployment of emerging technologies at commercial scale can make or break a company’s fate, regardless of its technology’s

effi cacy or potential environmental benefi t

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48 January/February 2012 | Renewable Energy Focus

Under (and non-) performance

problems may be caused by one or

more factors, ranging from a manu-

facturing defect in a key piece of

equipment to substandard perfor-

mance by the operator.

Insurance companies see clean

energy as a growing market, and

many seek to better address the

market’s specifi c needs and to diff er-

entiate themselves while doing so. But

while the interest level from insurers

is high, developing insurance products

that cater to non-traditional expo-

sures, such as technology performance

risks, is challenging – especially for

nascent technologies.

The necessary coverage could be

characterised as effi cacy insurance, a

broad category that can be defi ned for

such purposes as “any insurance that

provides fi nancial protection against

the failure of a product or system to

perform its intended function and to

the degree expected”.

Other risk management examples,

such as launch insurance for com-

mercial satellites, off er precedents.

In many cases, joint public-private

approaches address risk exposures

that are challenging for private

insurers to manage on their own,

such as terrorism and nuclear

energy.

Governments participate in insur-

ance markets for a variety of reasons,

including fi lling a gap when private

insurers leave a market, off ering cover-

age at more aff ordable prices in the

hope of advancing a policy objective,

or responding to political pressure. In

the past, insurance buyers have banded

together to create new mutual insurers

to increase the availability of cover-

age when dissatisfi ed with existing

off erings.

As we will detail in the second

installment of this series, a combination

of an industry-funded captive or mutual

insurer with Government support could

align commercial and policy objectives.

Current clean energy insurance products

A handful of speciality insurance

products currently aid clean energy

developers, however, they do not

address the risk transfer needs for

fi rst- and early commercial technolo-

gies. Among the most notable prod-

ucts available today are warranty insurance and performance/installa-tion warranty insurance.

Warranty insurance is purchased

by the solar photovoltaic (PV) industry

to protect a manufacturer against the

fi nancial impact of warranty claims,

which often arise from defi ciencies in

the manufacturing processes. Cur-

rently, many manufacturers off er a

25-year power output warranty on

modules, and insurance can be struc-

tured to cover a portion, or the entire

term of the manufacturer’s warranty.

Because these products require

insurers to assess the soundness of

manufacturing processes and provide

a fi nancial safety net to a manufac-

turer, this willingness to assume the

warranty risk may assure fi nanciers

of the viability of a supplier and its

processes.

Warranty insurance can also be

structured for developers and fi nan-

ciers when a project company is the

direct benefi ciary of the policy. Certain

insurers also off er warranty coverage

for components within a solar instal-

lation. The existence of warranty

insurance products for established

solar technologies suggests that similar

coverage can be developed for other

modular and individually-testable

technologies – as they mature and

accrue an operating track record.

Another speciality product devel-

oped for the clean energy industry

is installation warranty insurance.

Its coverage is tailored to technolo-

gies with a substantial installation

track record, and for contractors with

signifi cant installation experience. It

provides a fi nancial backstop to con-

tractors, and ensures project owners

of revenue replacement or debt service

payments until the system can be

remedied or the coverage term expires.

While it addresses risk associated with

the quality of a contractor’s workman-

ship, it may also cover component

failures.

Neither warranty insurance nor

installation warranty insurance are

broadly available for emerging tech-

nologies, nor do they assure fi nanciers’

investment recovery in the event

of uncured shortfalls in production.

These gaps point to clear needs within

insurance markets.

Insurance product extension for emerging clean energy technologies

The insurance industry is develop-

ing new products for clean energy

technology customers, and the war-

ranty insurance products off ered

today are attracting interest from

manufacturers. However, potential

buyers note several opportunities to

improve existing off erings by evolving

key features:

• Comprehensive duration of cover-age: Currently, some policies either

limit the coverage term to a period

shorter than the manufacturer’s

warranty or exclude any coverage

related to warranty claims that

occur in the initial years of the

warranty term;

• Strengthening protections for end customers in the event of manufacturer insolvency: Certain

customers require the ability to

make a claim against the insur-

ance policy directly if the manu-

facturer is not able to honour

…if an insurance product were able to limit signifi cantly the exposure of lenders and other fi nanciers to technology

risk, other, lower-cost types of fi nancing would become available to project developers

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49January/February 2012 | Renewable Energy Focus

Feature article

its warranty obligation due to

insolvency;

• Extended scope of coverage: Most

current policies cover only replace-

ment or repair of the defect itself,

or monetary compensation equal

to the equipment cost, consistent

with the manufacturer’s warranty;

in some circumstances, it would

also be benefi cial to include cover-

age for lost revenue and liquidated

damages resulting from a defect, if

not addressed by other insurance

policies.

These extensions would provide

valuable coverage and fl exibility for

component suppliers and project

developers, but each may increase

the cost of a policy and may not

provide the coverage features neces-

sary for the majority of customer

scenarios.

Current warranty insurance pricing

is perceived to be high already; this may

refl ect actual risk-appropriate pricing

or the scarcity of pertinent under-

writing data and warranty insurance

market providers.

System performance insurance (SPI)

Insurance products that address

total system performance risks,

rather than isolating the performance

of a single component, are currently

limited in terms of eligible technolo-

gies and scope of coverage. Therefore,

system performance insurance could

be contemplated as an entirely new

product rather than an extension of

what is currently off ered.

The market needs an enhancement

of contractor performance guarantees,

where not only system integration,

but also revenue production is assured

through an extended performance

testing period.

Certain solar thermal systems may

be a good example where SPI would be

benefi cial, especially since individual

product warranties may not be ade-

quate to provide suffi cient assurances

to project owners. The specifi cs of SPI

policies would necessarily vary case-by-

case, and in the second installment of

this series, we propose a set of terms

that would enable such a policy to

improve access to lower-cost fi nancing

for early commercial technologies.

Costs and benefi ts of insurance for emerging technologies

Both component warranty and

system performance insurance, if

applied to fi rst- and early-commercial

technologies, would be novel and

subject to uncertain and potentially

large payouts. As a result, premiums

will need to be high relative to policy

limits and project size.

While such pricing levels would

be challenging to absorb, the benefi ts

of insurance are also signifi cant, so

such new insurance products may be

attractive even at high price points.

The primary benefi t of an SPI

policy is the ability to access lower cost

fi nancing, estimated to reduce total

project cost by as much as 10 to 20 per-

cent. The benefi ts of lower cost fi nanc-

ing are substantial: the potential to use

debt in the capital structure from the

start of construction, and the ability

to secure tax equity participation early

in the project – both of which would

allow developers to raise capital in

signifi cant volume from a wide variety

of providers.

These savings, net of the cost

of insurance, would enable more

competitive output pricing or higher

returns to developers and equity

investors, in either case allowing more

projects to be economically viable.

This would allow a greater number of

the many promising energy technolo-

gies to reach commercial scale and

potentially deploy more widely. Growth

in the number of projects developed

correlates positively to other positive

macroeconomic and environmental

impacts, such as job creation, tax rev-

enue and GHG reduction.

Ultimately, the most cost-eff ective

answer will vary project-to-project,

and may or may not involve system

performance insurance, but the sig-

nifi cant fi nancing cost savings poten-

tial that insurance promises suggests

that such insurance could be a valu-

able part of some developments.

Delving into this topic further,

the second installment of this series

will present CalCEF’s recommen-

dations for expanding the capital

base, together with product off erings

within the clean energy insurance

market.

A handful of speciality insurance products currently aid clean energy developers, however, they do not address the risk transfer needs for fi rst- and early commercial technologies

Clean energy insurance

demystifi ed by CalCEF

In its latest white paper, the

California Clean Energy Fund (CaLCEF), which creates fi nan-

cial products for the clean energy

economy, proposes a new solution

– system performance insurance

– to help early stage technologies

achieve mass adoption.

This article presents the fi rst

portion of the white paper, by

outlining the market need, and

explaining how current clean

energy insurance off erings are

limited. The second installment (out soon) will discuss CalCEF’s

recommended insurance mecha-

nisms and public policy ele-

ments, and will map out steps for

expanding the capital base and

product off erings of the clean

energy insurance market.

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