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37. Solar Economics

Learning objectives

  • Calculate the metrics customers actually decide on.
  • Build degradation, escalation, and incentives into the model.

37.1 The metrics that close deals

Customers buy on financial return, expressed a few standard ways:

  • Installed cost: total price, often quoted as $/watt (system price ÷ DC watts).
  • Annual savings: energy offset × electricity rate, rising over time as utility rates escalate.
  • Payback period: net cost ÷ annual savings; the headline number for most residential buyers.
  • ROI / IRR: return over the system’s life.
  • LCOE (Levelized Cost of Energy): lifetime cost ÷ lifetime energy produced ($/kWh); the standard for comparing generation options and the metric utility/commercial buyers favor. The full form used in utility and commercial modeling is:
LCOE (Levelized Cost of Energy): the all-in cost of a power project divided by its lifetime energy output, expressed in $/kWh or $/MWh. It puts solar, wind, gas, and other sources on a common $/kWh basis so they can be compared directly.

LCOE = (FCR × CAPEX + FixedO&M) / (CF × 8760) + VarO&M + Fuel − PTC

where FCR is the fixed charge rate (itself derived from the capital recovery factor CRF = WACC / [1 − (1 + WACC)^−n]), CF is capacity factor, 8760 is hours per year, and PTC is any production tax credit ($/kWh).

FCR (Fixed Charge Rate): the annual carrying cost of capital expressed as a fraction of the total investment. It is derived from the capital recovery factor (CRF), which spreads the upfront cost over the project life using the weighted-average cost of capital (WACC).
WACC (Weighted-Average Cost of Capital): the blended rate a project must earn to satisfy both debt and equity investors, weighted by their share of total financing. It is the discount rate inside the CRF formula.
  • NPV: net present value of the lifetime cash flows.
NPV (Net Present Value): the sum of all future cash flows (savings minus costs) discounted back to today's dollars. A positive NPV means the project earns more than the cost of capital over its life.

LCOE waterfall in dollars per MWh: capital plus financing plus O and M reaching an unsubsidized 60, minus tax credit to a net 41. Figure 37.2: LCOE waterfall ($/MWh), utility-scale PV (illustrative; tracks LBNL $60 to $41). Original figure.

37.2 Modeling reality

A credible model includes module degradation (Ch 5.5: production declines slightly each year), utility-rate escalation (savings grow), and the incentives of Chapter 38 and net-metering/export rules of Chapter 10 (which set the value of each kWh). ⚠️ Leaving degradation or realistic derate (Ch 14/19) out of a savings projection inflates it. That is an ethics issue as much as an accuracy one (Ch 39).

37.3 Worked example: simple payback

A residential system: 8.4 kW at $2.80/W installed = $23,520. It produces 11,500 kWh/yr; the utility rate is $0.18/kWh. Assume (post-25D, cash purchase) no federal credit but a $1,000 state rebate.

  • Net cost = 23,520 − 1,000 = $22,520.
  • Year-1 savings = 11,500 × $0.18 = $2,070.
  • Simple payback = 22,520 ÷ 2,070 ≈ 10.9 years.
  • With ~3%/yr rate escalation, real payback is shorter (savings grow each year); with ~0.4%/yr degradation, slightly offsetting. A full model (Ch 19/37.2) nets these out, but the simple figure already frames the decision. ⚠️ Quote payback honestly: leaving out degradation or using an inflated production number shortens the apparent payback and burns the customer later.

Cumulative cash-flow payback curve over 25 years, negative at year 0, crossing zero near year 8, climbing to a positive lifetime net benefit. Figure 37.1: Cumulative cash flow (payback curve), illustrative residential system. Original figure.

Tools such as SAM (System Advisor Model) automate this multi-year cash-flow calculation. A performance model (weather + system specs) feeds an hourly energy output to a financial model that applies incentives, depreciation, and financing terms to produce LCOE, NPV, payback, and IRR in a single run.

SAM (System Advisor Model): a free NREL tool that combines a detailed performance simulation with a financial model to produce LCOE, NPV, payback, and IRR for solar, wind, and other renewable projects.

Block diagram of the System Advisor Model: inputs to performance model to financial model to outputs such as LCOE, NPV, and payback. Figure 37.3: SAM model structure: performance model to financial model to cash flow. Original figure.

Chapter 37 summary

Quote installed cost in $/W; sell on payback, ROI, and (for larger buyers) LCOE/NPV. Build degradation, rate escalation, incentives, and realistic production into every projection. Overstating savings is both wrong and unethical.

  • Installed cost ($/W): total system price divided by DC nameplate watts; the standard unit for comparing solar quotes.
  • Payback period: net system cost divided by year-1 annual savings; the headline metric for most residential buyers.
  • LCOE (Levelized Cost of Energy): lifetime project cost divided by lifetime energy output ($/kWh); the standard for utility and commercial comparisons.
  • FCR (Fixed Charge Rate): annual carrying cost of capital as a fraction of total investment, derived from the CRF formula.
  • WACC (Weighted-Average Cost of Capital): blended cost of debt and equity used as the discount rate in financial models.
  • NPV (Net Present Value): lifetime cash flows discounted to today’s dollars; a positive value means the project earns above the cost of capital.
  • Degradation: gradual annual decline in module output (typically ~0.4%/yr); must be included in honest projections.
  • Rate escalation: the assumed annual rise in utility electricity prices; raises future savings and shortens real payback.
  • SAM (System Advisor Model): NREL’s free tool combining performance simulation and financial modeling into a single run.

Full definitions: Appendix A (glossary).

Practice Problems: Chapter 37

  1. A 7 kW system costs $2.90/W installed. What’s the total price?
  2. It produces 9,800 kWh/yr at a $0.16/kWh rate. What are the year-1 savings?
  3. With no incentives, what’s the simple payback (use Q1 and Q2)?
  4. Why does real payback come in shorter than the simple figure when utility rates escalate?
  5. Name two things a dishonest proposal might omit to make payback look better, and who pays for it.

Solutions: Chapter 37

  1. 7,000 × $2.90 = $20,300.
  2. 9,800 × $0.16 = $1,568/yr.
  3. 20,300 ÷ 1,568 ≈ 12.9 years.
  4. Rising rates increase annual savings over time, so cumulative savings reach the cost sooner than a flat-rate assumption implies.
  5. Omitting module degradation and/or using an inflated production estimate (unrealistic derate, ignored shading); the customer pays via underdelivered savings.