Where there’s smoke, there’s fire

So what happens when a venture capital fund is given a few billion dollars by the U.S. government to invest in greentech?

I ask this question because it is clearly being discussed pretty seriously right now.  I’ve heard rumors for some time now that Kleiner in particular has pitched the administration on the idea, but pundits like Thomas Friedman have also been throwing it out there (in a couple of op-eds here and here), and it dovetails with a proposal Obama made during the presidential campaign for a government greentech venture fund.

Where there’s smoke, there’s fire, so I’m therefore assuming it’s being discussed at a high level.

So what would it likely look like, and what would be the effect?

I can’t see this being a “Government as LP” process, where existing VC funds (note: funds, not firms) add on a couple of billion dollars of LP commitments from the DOE.  That would mess up existing fund structures and upset existing LPs.

There may be some small component that could be done as government-managed seed grants/ loans, similar to the SEED Program here in Massachusetts ($500k convertible loans into early stage companies with good prospects for growth and subsequent venture rounds).  But hard to see that adding up to anywhere close to the billions of dollars being talked about.

So the specific approach would likely be either a pool of capital allocated out for co-investments, and/or a pool of capital allocated to special purpose funds directly managed by VCs. In the former case, funds like Kleiner’s Green Growth Fund (for example) would make an investment, the Government Co-Investment Fund would make an investment into the same round under the same terms, and then Kleiner’s team would manage both, in exchange for some fees and some carry.  In the latter case, Kleiner (for example) would establish the “US Greentech Future” fund and simply run it as a traditional standalone fund, but with a single LP (the government).

I could see either path being chosen.  Regardless of which one, here are some inevitable outcomes:

1. It would have to be done by RFP, and the RFP process would be brutal.  Every firm out there would put in a proposal for some portion of whatever pool was available.  Massive amounts of lobbying (some of which is already going on, clearly).  Cutthroat competition to see what firms could claim jobs creation and wealth creation track records, which firms would be willing to charge less fees and carry, etc.  Every firm touting their own strategy over all others’.  My sympathies to the poor government staffers in charge of that process…
2. Unclear what government body would manage it.  If it’s energy tech only, probably the DOE, but it would likely be a broader program than just energy tech.  So there’s the possibility of a big mess of government bodies getting involved in a huge cross-departmental exercise.  Thus slowing down the actual decisions pretty significantly.
3. Much of it would go into later-stage investments.  Simply put, at the level of billions of dollars you either need huge staffs to manage scores of investments, or you need to put really big checks to work, which means larger rounds and thus later stage investments.  Those who read this column regularly will know that later-stage investing is already dominant in cleantech.  To put massive additional capital into that end of the market… Wow.  And it does call into question the match of the goal (fostering innovation and jobs growth) with the process.

I’m already seeing some VCs come out strongly against these ideas (a couple of examples here and here).  They argue that there’s already plenty of money in the venture capital sector, and that any effort to pour massive additional amounts of capital into startups through that kind of financial asset class would end up with skewed results.  Indeed, only about 2% of all startups get their initial capital from venture capital firms, so it’s unclear that this would be the most efficacious pathway to get startups launched and hiring.

There’s always a perception gap about what the role of venture capital is—politicians seem to believe that the role of venture capital is to promote jobs growth and innovation, but most VCs promise their LPs that it’s all about the financial returns and nothing else.  The great thing about venture capital is how often all those goals overlap.  But they don’t always…

I personally would like to see government figure out a good way to step into the seed stage gap in cleantech:  With technologies that would take a longer time to develop than most VCs would be able to stomach, government seed grants/ loans to help get the companies to a fundable point.  You wouldn’t want to, or even have to, put massive amounts of money into each company.  At $500k per startup, you could get 2,000 startups off the ground with a $1B commitment.  I see great companies all the time that are too early even for my early-stage venture firm, and that really only need a small investment to get themselves to the next level.  Later-stage investing now has everyone across the venture and private equity landscape looking to put money at play.  It’s unclear that pouring billions of additional dollars into that stage would achieve the hoped-for goals.  But seed stage funding remains a relatively unaddressed gap.

If you want to promote green innovation and jobs growth, there are a number of different ways to go about doing it.  The government venture fund is the current one being discussed, and clearly is getting pushed pretty hard right now.  I just hope that whatever happens, we take care to specifically address the seed stage pre-VC funding gap.  Otherwise all those later-stage dollars eventually won’t have anywhere to go.

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