Is "going solar" a good investment?

Durward P. Jackson

                                      Updated November, 2011

How do you evaluate the economics of generating your own electricity from photovoltaic (PV) panels?

To determine if solar is a worthwhile investment, you need to estimate the total installed cost of your solar PV system and your expected returns in the form of electric bill savings.  Then compare the rate of return to that of investments such as bonds and certificates of deposit (CDs).  Only by making such a comparison can you determine if your money is better spent on solar or some other investment.

How do you make the comparison?  Fortunately, the annual percentage return (APR) and the slightly more accurate annual percentage yield (APY) are readily available for various alternative investments.  This web site contains the Solar Investment Model (SIM), an Excel® spreadsheet that calculates the internal rate of return (IRR) from a few simple inputs.  The IRR is equivalent to the APY and provides the means to compare the return on a solar PV system directly to the APYs of alternative investments.

Because most people have never heard of the IRR, the solar industry ignores this metric and uses the less useful payback period to sell its products.  Don't be intimidated by the academic sounding IRR.  You do not need to know how to calculate it if you use the spreadsheet calculator found here.

SIM is open source and fully transparent.  All formulas and the driving macro are visible and can be changed if you do not agree with them.  It can be modified and/or used in any way for any purpose (including commercial use) at no cost.

The "Frequently used links" on the sidebar provide access to the model, how to use it and examples of the results.

WHY PAYBACK IS NOT THE BEST METRIC FOR INVESTMENT DECISIONS

Payback is a weak metric for deciding whether to install a solar PV system.  It is, however, widely used by solar salespeople to promote their products.  It is also used loosely by detractors of the solar revolution to make the exaggerated claim that it would take a homeowner 25, 50 or even 100 years to recover the cost of a solar PV system.  Neither is focusing on the real issues, and both are distorting the facts to make their points.

One positive aspect of payback is that it does provide some general sense of risk.  The longer it takes to recover an investment, the riskier that investment.  That is why banks  pay more interest on longer-term certificates of deposit (CDs) and the government usually pays more interest on 30-year bonds than 6-month T-Bills.

Many potential buyers of a solar PV system are uneasy about parting with a large sum of money when the liquidity of the investment is tied to that of the home.  What if they need the money before the system pays for itself?  What if a better investment comes along and their money is tied up?  What about inflation or deflation?  These are legitimate questions about any long-term investment and are reasons why most people instinctively like to invest short-term.  However, with short-term rates currently close to zero, some investors are willing to risk going to longer maturities.

One way to ease the pain of separation from your money is to finance the system.  By borrowing part or all of the costs, you eliminate or lessen the amount of upfront money.  As you pay back the loan, you are building equity, most of which is paid for by lower utility bills.  The internal rate of return (IRR) will actually be be higher in later holding periods because of the leverage gained from the small amount of equity in the earlier years.  Of course, this strategy does increase the risk.

Given that solar PV, like your home, is a long-term investment, what is the usefulness of the payback period?  As stated above, it does provide some measure of risk, but it does not permit easy comparison to other investments, particularly those with differing maturities.  Also, it does not take into account the returns after payback occurs or the increase  or decrease in the system's resale value.  For this you need the IRR.

The Solar Investment Model (SIM) provides the IRRs for 30 holding periods, but it also provides the payback and discounted payback periods.  For a comprehensive analysis of investment worth and risk, you need to consider the IRR along with the payback metric.  To learn more, click Case studies and Model Inputs.