Solar #7: Interim ROI Figures - 1st 6 months

Introduction

In a previous post I reviewed our solar and battery system after 6 months of use and, at that point, I was awaiting bills from Octopus Energy for the whole 6 months & so could not calculate the Return on Investment (ROI)...

 

...I now have the electricity bills covering the period 1st March to the end of September - a net payment to me of £157.84.

 

 July Import and Export estimates from the Octopus App.

Both graphs show £'s, but the vertical scales are different!

Note that the  Import Costs Don't include the Standing charge

(approx £0.5/day or £15 over the month)

 

But what does this mean in terms of an ROI:

• What do I expect the winter ROI to be?
• What was I paying before for electricity?
• What would I have paid for electricity without a solar system?
• Compare this ROI to what?

 

An important point: this post is just my views on investments and is not intended as investment advice.

 

ROI Comparison and Assumptions

For solar systems I often see 'payback period' quoted, eg 'investment of £7,000 paid back in 8 years from savings in electricity bills'. While this is interesting and makes a nice headline it is not very useful. If I have £7,000 am I better off investing my money in a solar system, or should I put it in a high interest savings account or what about an ISA and put the money in stocks and shares?

 

For me the most useful comparison is my pension (a SIPP). I am recently retired and withdrew £16,220 from my SIPP to invest in the solar system. Would I have been better leaving it in an investment fund (eg FTSE250 Tracker Fund or the more 'sporty' S&P 500 Index fund). There are some key differences that I have allowed for to make this comparison:

• I am told that my solar system will last for 25 years. In reality I am sure that it will not suddenly conk at exactly 25 years after installation, but for the model I assume that its value drops to £0 at 25 years. For an investment fund, while 'the value of an investment can go down as well as up', I might anticipate an average return of a few % each year and hope that my capital is intact after 25 years.
• The investment fund will not necessarily rise with inflation. I am now drawing down on my pension pot. My financial advisor modeled this to give me a regular income and the pot of money running out when I reach 99 years old. He modeled 2.5% inflation (ie my annual pension rise) over the period of my retirement - ie the average return of the funds that I am invested in needs to beat 2.5% just to stand still. In the case of the solar system then the return on investment rises as the price of electricity rises. In this model I assume that the price of electricity rises in line with inflation at 2.5% each year. There are more notes on inflation below.
• I paid for an 'in roof' installation for my solar panels. This added £2,573 to the price and gave us the benefit of a new half roof. However, my roof, while it is working well at present (ie it protects us from the Lancashire rain), it is, apparently, at the end of its 50 year design life. For me £2,500 was a necessary part of the solar investment, but you could argue that if I invested the money in a fund then I would be still be paying to replace the roof in the next 25 years. I have modeled with and without the 'in roof' cost.
• Investment fund costs: an investment fund manager (eg Legal and General) and the provider (eg Hargreaves Lansdown) will have charges - I have assumed 0.5% as being pretty typical total charge (ie fund + provider). The solar system has no equivalent charge.
• Inverter and battery replacement. I am told that inverters and batteries have a life of around 10 years. To make the maths easy I have assumed that at year 12 a new inverter & battery must be purchased. I have used current prices for direct replacements (£5,050, based on battery at £3,600 and inverter at £1,450). Of course there will be an installation charge, but I have assumed that this is wrapped up in the £3,600 battery option price that I was charged for the original installation.
• I still don't know how my solar investment will perform from October to March. Clearly much less sunshine. However, the battery lets me buy electricity at around 15p per kWh, that otherwise I would pay about 25p per kWh. So this saves me something like £1 per day (see my post Solar#6: 6 Months Post Install) or £180 for 6 months; on top of this there will be some solar production - even in Lancashire there will be some sunlight. In the end I took winter ROI to be 50% of summer ROI and have also modeled two cases of +£100 and -£100 to test the sensitivity.
• If I had put my £16,220 into an investment fund then I assume that I would have stayed with a regular tariff. I have found it hard to find alternative non-solar tariffs & so I have just used the mid-point tariff that I am charged with Octopus Flux. With no solar system I would also not need to pay for the electricity to power the inverter and battery. I have used our mid-point consumption over a year prior to the solar system being installed (10.18kWh per day). This has been reasonably static over the last 3 years (from 2021, 9.66kWh to 10.69 kWh daily average over a 12 month period). This is probably a little pessimistic for this summer analysis as we use a little less electricity in the summer, but should should come out in the wash over a full year.

 

See also my April 2024 investment case post - this has more on the risks of investment in solar.

 

Model Construction

My aim is to find what annual percentage growth I should look for in an investment fund to give an income that is equivalent to the electricity bill savings from my solar investment:

• Step #1: solar ROI over 12 months:
• Analyse my bills with solar Vs what I would have been paying with a regular tariff and no solar system - this gives a return on investment of £353.45 in Q2 and £328.39 in Q3 (Octopus change their rates each quarter, so the bills have neat cut offs at the start and end of each quarter). The total for 1st April to 30th September is £680.84.
• I added 50% to this for the winter to give me a complete year return on investment estimate of £1,021.
• Step #2: model equivalent hypothetical investment fund:
• Investment £16,220
• Each year:
• I take out £1,021 as income (eg to pay the higher electricity bills without solar power)
• And the fund grows by x%
• 25 rows in an Excel spreadsheet gives me the remaining capital after 25 years
• By trial and error I set "x"% (the annual growth rate) so that the remaining capital is £0 at 25 years (as per my assumed value of the solar system)
• Step #3: account for inflation and investment fund charges
• Once I have "x" (the equivalent annual growth), I then add:
• 0.5% to cover charges for the investment fund
• 2.5% to cover inflation
• Step #3: Test some variants of this model:
• At year 12 add £5,050 into the fund - what I would have paid to replace the battery and inverter mid-way through the life of the solar system
• Invest only £13,647 at the start, ie no re-roofing - 'on roof' solar system.
• Add and subtract £100 to the annual return on investment (ie test out £1,121 and £921 income each year) - the aim here is to test the sensitivity to differences in performance (eg errors in my winter estimates).

 

Results

My view is that the base case is the on-roof installation (ie £13,647 initial investment) and replacing the inverter and battery after 12 years. This gives an equivalent fund growth of 6.4%.

 

If I take the higher investment then the equivalent investment fund only needs to return 4.9%.

If my inverter and battery lasts the whole 25 years, with the initial investment of £13,647) and nothing added to the fund at year 12 then the fund would have to grow at 8.5% to match the solar system ROI.

If the annual return from the solar system is +/-£100 from my estimates (based on the 1st 6 months) then this adjusts the equivalent investment fund ROI by about +/-1.1%.

 

Discussion

This model includes a large number of assumptions. For some of these I have modeled the sensitivity and this gives a range of 3.8% to 9.6%. Others I have not modeled, eg removing inflation takes out 2.5% from the equivalent fund return, but it might also be reasonable to take 5% as an inflation rate for electricity (see below).

 

In the end 6.4% seems like a reasonable mid-point between the range of assumptions. I guess that for what is, I hope, a low risk investment, then perhaps this is OK.

 

I would also point out that, based on my experience, the extra work that comes with the battery (see post "6 Months Post Install" is far more than comes with a typical SIPP investment. Potentially a solar only installation, with no battery, would compare better for the work required.

 

In my April 2024 investment case post I used an annual return of £605 based on a solar system price of £7,000 based on figures from the Energy Savings Trust. Given that I invested £13,647, then I might expect a pro rata increase in return, ie £1,175 each year. I feel a post is need in April 2025, with 12 months figures to see if I am being overly pessimistic with my annual return estimate or over optimistic with my April 2024 estimates.

 

Notes on Inflation

Taking the last 25 years (1999 to 2024) then the average UK inflation rate has been 3.2% (ie £10,000 had the purchasing power of £21,719 in today's prices) - see https://www.officialdata.org/UK-inflation.

 

Why have I used 2.5%? It just happens to be the rate that my pension advisor use for modelling my income from my pension pot. So if the last 25 years is a good guide to the next 25 years then perhaps we should add 0.7% to the equivalent pension fund return needed to match the solar system return

 

But what about electricity price rises? If electricity prices rise at a slower rate then my future £ savings will be lower, conversely steep rises in electricity prices will mean that my investment in a solar system is getting a bigger return. Our new government (2024) is promising big investments in renewable energy and so reductions in domestic energy bills. However, over the last 25 years electricity prices have risen much faster than inflation, at 5.4% per year on average (See the report on "Domestic energy prices" from the House of Commons Library: "In April 2024 prices for gas were 270% above their January 2000 level in cash terms, and electricity prices were 350% higher").

 

My view is that inflation is all in the risks of investing in solar power - upside and downside (see Solar#2:Solar Panels Investment Case) & I will stick with 2.5% as the mid-point for inflation, and accept that it could go either way. The really good news is that the risks are very different to my more traditional pension investments and that having a range of different risks, for different pension investments, is often said to be good (see book "How to Fund The Life You Want" by Robin Powell and Jonathan Hollow).