One of the most important stories to come out of the solar industry in 2015, was the Dubai Electricity and Water Authority’s (DEWA) announcement that it was awarding the development of a 200 megawatt (MW) photovoltaic project at a recording-breaking tariff of US$0.058 per kilowatt-hour. The project attracted attention for the fact that the tariff was, at the time, the lowest ever seen in a subsidy-free environment, anywhere in the world.
As is usually the case with a game-changer, other markets were quick to try and benchmark their prices against it. While there’s no harm in benchmarking prices, a certain degree of caution - shaped by a comprehensive understanding of all influencing factors - needs to be exercised. To understand why caution is critical, one needs to understand an important concept: the Levelized Cost of Electricity (LCOE).
In the simplest of terms, the LCOE of a power plant is calculated by dividing the total costs by the total expected energy produced over the lifetime of the plant.
Broadly speaking, the cost of a solar power plant can be divided into five aspects: the PV modules; Balance of Systems (BoS) which includes all the physical components of a plant apart from the modules; equity and debt finance; operating expenses such as Operations and Maintenance (O&M) and insurance; and development costs, such as permitting and licensing. While the PV module and BoS, together, account for just over half of the total cost, the single largest component is the cost of finance, which can account for as much as a third of the total cost of a PV power plant.
The cost of the PV modules depends on a variety of factors ranging from an energy yield advantage in actual operating conditions to the logistics of shipping them to a particular location, and even the inclusion of provisions to recycle them at the end of their operating lives. Additionally, manufacturers that don’t have the advantage of a strong balance sheet, usually need to provide for insurance to cover warranty claims, which adds to the cost. Similarly, the BoS cost of a project can be influenced by, among other things, the availability of locally-based suppliers and manufacturers capable of delivering high quality equipment such as steel posts, mounting systems and wiring, along with access to competitively priced labor.
The cost of finance also varies as equity investors and lenders factor in their risks – political, economic and technological – when defining their involvement in a project. In other words, a project using bankable technology, planned in a politically stable market with a track record of strong economic growth, will attract competitively priced financing when compared to a project in a market that presents a higher risk profile.
Significantly, a powerplant backed by a long-term, bankable Power Purchase Agreement (PPA) will also have a lower LCOE. This is because its developer can secure better financing terms from debt and equity providers attracted by well-defined cash flow for the duration of the PPA. However, while the PPA represents a guaranteed revenue stream for the project, when it ends the asset owner will be exposed to the risks of a merchant market, for which electricity prices are difficult to precisely forecast. In other words, all things being equal, the longer the PPA period, the more stable the cash flows generated by the plant in the future and, consequently, the lower the LCOE.
In this context, there can be no doubt that a project’s LCOE is inherently sensitive to local conditions.
Source: First Solar.
Now, let us go back to the record-breaking LCOE of the Mohammed bin Rashid Al Maktoum Solar Park, which was achieved by the consortium led by Saudi Arabia’s ACWA Power and Spain’s TSK, using First Solar’s thin film PV modules.
Simply put, it was the result of a combination of several factors: the strong track record and financial standing of the consortium and the strength of DEWA, as the energy off-taker and majority shareholder, would have reduced the risk profile of the project. The project’s IRR was calculated on a 25-year basis and matched by a 25-year PPA, which translated into a zero-years of uncontracted operations.
The use of high performance modules allowed the developers to factor in an energy yield that was over five percent higher from the same amount of installed capacity, than if they’d used conventional polysilicon panels, while also reassuring lenders about the project’s financial viability. The availability of competitively priced labor and BoS components was also a given, judging by our own experience building the 13MW first phase of the Park.
Based on the assumption that the LCOE of a project is sensitive to local conditions I would argue that the project’s location in the United Arab Emirates played a significant role in achieving the tariff in more ways than its high irradiance levels. In fact, the country’s political stability and its strong economic track record would have reassured commercial lenders, as would a tariff paid in US Dollars.
To conclude, while a PV power plant in the UAE, Jordan, Egypt, Australia or the US Southwest will be built to similar technical specifications, the LCOE will vary due to its sensitivity to local conditions and this vital fact needs to be understood by regulators, utilities, developers and investors. And while Dubai’s 200MW project set the cost benchmark, it should not be taken for granted that it can be easily replicated in other markets in the Middle East, or beyond.
Ahmed S. Nada is the Vice President and Region Executive for First Solar in the Middle East. With over 10GW of installed capacity around the world, First Solar is a leading global provider of solar energy solutions.