Utility-Scale Solar Leases: Rent

In a series of posts week to week, we will discuss key issues in negotiating utility-scale solar leases from the perspective of typical developers and landowners.?

One of the most frequently negotiated and key provisions of solar leases is rent. Rent is generally paid per acre per year. However, rent amounts depend on the stage of the process: the development term, the construction term, or the operating term. Rent in the development term, for example, may be stated as a fixed fee. The rent is higher in the operating term because the solar project is actually producing revenue that can be paid to the landowner. There may also be extended terms during development as well as extensions of the construction term.

Rent usually increases with these extensions. An “escalator” is frequently provided in the lease agreement. The rent increases at a fixed percentage on an annual basis, so the rent “escalates” every year. The escalator may be negotiated as much as the rent.

Developer View:?Rent impacts the economics of the project for both the developer and the landowner. Solar developers generally develop rent based on the estimated revenue of the project, interest payments, returns to their sponsor and equity investors, and then profit for the developer. In negotiating with landowners, the developer should provide clear information and explanation as to how much rent can be paid to make the project meet its investment hurdles and be willing to state its limits in rent payments.

Escalators based on the Consumer Price Index (CPI) are challenging for a developer as it cannot predict the future rents, making it difficult to estimate returns and debt coverage and payments to tax equity or sponsor equity investors or lenders. Developers oftentimes try to avoid the CPI as a rent escalator.

Landowner View:?Landowners want to maximize economic returns as well. Rent is the main (if not the only) source of revenue. Knowledge of the “market rent” tends to be a fairly difficult issue to analyze and can often depend on location in terms of a state or areas within a state, particularly large states such as Texas where solar insolation varies from east to west and north to south.

A variety of other factors such as interest rates and land value—land is more expensive the closer it is to larger cities—affect rent rates. Landowners frequently discuss rent with their neighbors, so there may be an understanding of what the same developer is offering other landowners if multiple tracts are being leased for a single project, or what other developers have offered landowners in the same county or other nearby counties.

Landowners frequently ask to increase the rent payment during the development term to include an increase each year of development.? This can become a contentious issue if the developer does not want to pay additional rent every year or increase the rent every year during the development term.

Landowners typically insist upon an escalator. Use of the CPI is a preferred approach as it better reflects annual inflation and, from an economic perspective, ensures that the landowner is being paid the “same” amount for rent if inflation is considered.? An agreement by a developer, however, to insert the CPI as part of a rent escalator is fairly rare, because the solar developer cannot establish the future predictable revenue as discussed above.

Royalties (more common in wind leases) are rare in solar leases.? Landowners who have also leased land for utility-scale wind projects may be surprised that solar leases rarely include royalties but rather provide for fixed annual rent with an escalator.