At Canaccord Genuity's very good sustainability dinner in Boston this week, I had an enjoyable conversation with CG's Marc Marano, a leader on their cleantech team.  He told me about some pretty interesting data they'd pulled together on the solar industry.

We're all familiar already with what a down year 2009 was for financings, but perhaps no sector was harder hit than solar panel manufacturers.  Marc's team had pulled together a list of all the financings in the solar sector for the five quarters Q1 2009 through Q1 2010.  And looking over their tally, I see 18 follow-on rounds during that period to solar panel manufacturers or their suppliers.

Twelve of those rounds were insider rounds, often bridge financings.  And two of the remaining ones were led by a corporate investor not an institutional investor.

Basically, during those five quarters almost no VCs were writing big new checks to follow-on rounds.  They were backing their existing solar panel plays, and making small Series A investments.  Marc notes that things have been better since then (including a couple of deals his group helped), but still... 

It's a wonder we haven't seen even more of a shakeout than is already going on in that sector.  I suspect we'll soon start being able to tell eventual winners from losers with a little more clarity... 

... is the sound of China deciding to become a big player in solar project installations, overnight.

It's clear that China is going to be a dominant force in cleantech in the coming decades, starting immediately.  But what that will mean for cleantech VCs remains very much unclear.  What is clear is that cleantech VCs need to start getting smart about that factor, asap.  And thus, so should their LPs.

But should cleantech VCs start investing in China?  It's not apparent that US-based investors do very well investing in China, at least without having a local presence on the ground.  Since most cleantech-specialist VCs don't have that, are they vulnerable to being left out?  There are specialist funds (albeit very few) focused on cleantech in China, are they better-positioned?  Or are the markets themselves so specialized (US firms having trouble selling into China, Chinese firms having trouble selling into the US) that they really are totally separate questions?

It will be fascinating to watch how this dynamic continues to develop.  Solar and coal-related techs will be where it gets felt first.  Every coal-related startup CEO I know is paying a huge amount of attention to China.  Many solar CEOs already are, too.  Wind and LEDs and industrial efficiency techs will also need to pay close attention.

China has the potential to radically change the way we think about cleantech venture capital and private equity.  But I'm not yet smart enough to figure out exactly how...

 

We talked about Q2 numbers a while back, but Ernst & Young's Q2 release this past week is particularly useful to look through because of the depth of data they released -- a great breakdown by stage, category, etc. with historical data.  Inclusive not only of energy, but also other cleantech sectors often ignored.  The E&Y data was worth the wait... The headline which you've probably already seen is that it was a record quarter for U.S. cleantech venture capital, at $962mm, way up from Q1 and the biggest quarter since 2002 (barely beating out Q3 2007). Of course, that's on a dollar basis.  The NUMBER of deals was big, yes, at 41, but that only puts the quarter at the 3rd most active quarter E&Y tracked since 2002.  Not fewer deals, really, but certainly bigger deals. What's driving this?  Two big trends are clear in looking through the data: 1.  Solar continues to bring in the dollars.  $487mm, or more than 50% of the quarterly total.  But only 14 out of 41 deals.  In terms of dollars, this was only the 4th biggest quarter since 2002 for non-solar cleantech deals.  It's all solar, all the time these days. 2.  Overall deal size is up.  Because E&Y very helpfully breaks out deals by stage in their analysis, we can see that "First Round" deals averaged $12mm in size, up from an average of $10mm last year...  But "Second Round" deals averaged $37mm for the second quarter in a row, hugely up from 2007's average size of $23mm.  There's evidence of deal size inflation at all stages, but it's most strongly felt in second round deals. It would be easy to look at the second point above and conclude that valuations are up.  It's only indicative, but generally speaking bigger round sizes will mean a bigger valuation. But it's unclear how much deal size inflation is being felt across the non-solar portions of the sector.  Let's compare to 2007 totals. 1.  The average deal size for a solar deal (note: inclusive of all round stages, unfortunately even E&Y doesn't break out the full crosstabs) was $35mm in Q2.  That's 45% higher than 2007's average solar deal size of $24mm. 2.  The average deal size for a non-solar deal was $17.6mm, 25% higher than 2007's average non-solar deal size of $14mm. 3.  In 1H08, 61% of cleantech deals were "Second Round" or "Later Stage", up from an already high 46% for 2007. So it's hard to argue that deal sizes are up across the rest of the sector.  While non-solar deal sizes are up, it's unclear how much of that is driven by the general shift toward later-stage investing. Solar and later-stage investing are driving the bus right now, and showing no signs of slowing down. What does the data tell us in terms of "what's next"?  Notably, energy efficiency deals and deal sizes are up in a big way.  Other than that, other sectors looked down or flat for the most part.

OK, gross overstatement in the title for this column, admittedly intended to grab attention. But something that's been becoming clear for some time now, and was reinforced for me at yesterday's fun Greentech Media PV vendor showcase, was that the innovation backlog and the overwhelming VC interest in the sector over the past few years have made it a very challenging sector for venture investors now. The market for solar generating systems is big and growing attractively. Much of it looks like semiconductor technology, and there have been some successful IPOs in the sector, so it naturally draws VC interest. A lot of VC interest. The Cleantech Group tallied up around $4.6B $440mm in investments made over the last 3 quarters in thin-film solar alone.  [6/6 update to reflect a clarification I got from a representative of the Cleantech Group] What this has meant is that there are now scores -- if not hundreds -- of startups in this sector, each vying for a piece of that market. No matter how attractively it's growing, the market will have a hard time providing "home run" returns for all those investments. The investments from a few years ago in promising system vendors still haven't turned into exits yet. And as an active investor I see more solar investment opportunities cross my desk all the time. It seems that venture capital solar investment opportunities increasingly fall into one of three categories: 1. The component or incremental improvement developer, with a smart efficiency improvement on an existing technology... but not a dramatic improvement that necessarily lends itself to major differentiation versus other smart incremental improvements being developed, or a component that would end up being a major part of the eventual PV system cost. Thus making it hard to capture significant revenue over time. To try to capture more value, they may attempt to form a full-scale manufacturing effort around these incremental improvements, but with so many competitors out there with a head start and deep pockets, and the capital intensity involved, tough to see the path to world domination, as it were... Thus, it's a challenging bet for an investor to make. 2. The "later stage" solar company that may or may not have some early revenue, but is far enough along and visible enough that the "venture round" they're looking to raise doesn't look much like traditional venture capital -- we've recently heard of several ongoing raises right now with valuations in the hundreds of millions or even over a billion dollars. Some of these startups will undoubtedly turn into winning companies with long-term prospects, but as an investor it's always entirely possible to overpay for a good thing, so these deals are also challenging. 3. The "third generation" solar startup with some exotic ideas in development that sound really promising, but are several years away from commercialization -- and the lessons learned from earlier such efforts suggests that they're even further away from commercialization than these companies themselves expect. That long timeline makes it a challenging type of play for most investors. There absolutely are exceptions to the above over-simplification. As an investor, I definitely haven't written off the potential for finding a promising investment in the sector. But overall, while the solar market is booming, ironically the resulting amount of entrepreneurial and investment effort in the sector right now means that the market is full of niche plays, over-visible plays, and patient-capital plays... Not ideal venture capital plays.

Rob Day, pioneering renewable energy VC investor, blogger and all-around good guy is on vacation in much sunnier climes this week and has given me the honor of filling in for him. My name is Eric Wesoff and I’m a senior analyst at Greentech Media and the author of the Venture Power Report. Here’s this week’s Cleantech Investing blog, now with slightly higher snark. Stealth Solar Stealthy solar firm Solexel is listed on Technology Partner’s website and on KP’s website but information is scant. They do have some job listings for epitaxial silicon engineers and MEMS engineers and the MEMS aspect is intriguing. Their write-up claims that they develop, “disruptive, high efficiency, cost-reduced energy conversion products for the solar energy market.� Which is much less than informative. Apparently they already have a CFO, unusual for a company this small. The Ira has not responded to inquiries. There is No Such Thing as Clean Coal The DOE is trying to resurrect and restructure the battered FutureGen project - issuing a quick-turnaround RFI [PDF link] for projects to equip clean coal commercial power plants with carbon capture and storage (CCS) technology. If you have some ideas on “less dirty coal� - the deadline is March 3. Solar Umbrellas? SKYshades (caution: crappy soundtrack), co-founded by the Great White Shark, has inked an MOU with VC-money-oxidizer, Konarka, in order to issue press releases abut organic PV umbrellas. Konarka supposedly builds flexible solar devices on plastic substrates and has raised at least five funding rounds (not really a good sign). Konarka has been raising VC money, issuing dubious press releases, and switching CEOs since 2001. Cellulosic Ethanol Funding with Political Connections PE Week Wire breaks the news on Mascoma’s $50M C Round, a combination of debt and equity. The Cambridge, Mass.-based start-up is working on cellulosic biomass-to-ethanol development and production. Funding came from General Catalyst Partners, Khosla Ventures, Atlas Venture, Flagship Ventures, Kleiner Perkins, Pinnacle Ventures, and VantagePoint Venture Partners. Mascoma had previously raised ~$40M in VC funding. Former senator Tom Daschle, an Obama supporter, is on the firm’s board. Former president, and soon-to-be-failed first husband, Bill Clinton is involved with Cilion, another VC-funded ethanol start-up. SoCalGas – An Enlightened Utility with a VC Investment Arm I had a great conversation with the venture arm of Southern California Gas recently and will report in detail in the next Venture Power. But here are some quick notes and observations – their venture arm is considered part of their research program and they are actively making venture investments in technologies and companies that “have a strategic fit with their charter or their customer’s needs.� Their hot buttons include:

• Energy efficiency
• Smart grid technologies
• Solar thermal systems – In their opinion, “the technology to beat is horizontal trough systems.â€? More on SoCalGas soon.

Exploding Windmill The exploding Danish windmill video deserves repeating. Windpower is a great thing and this type of braking failure is an exception to windpower’s safety and effectiveness as a renewable energy source. Harnessing Big Wave Power at Half Moon Bay California's Mavericks. Rob Day returns next week unless he goes native.

Almost all VCs will say that they look to invest in "disruptive" technologies -- new products or systems where the value proposition is so markedly better in comparison to the incumbent choices that the market will have little choice but to go with the new option. Venture capital, needing to see rapid growth potential, naturally needs to see such opportunities, so it's easy for VCs to say that they're looking for Disruptive Technologies. But VCs mean different things when they say this. And in cleantech, the differences between what I'll call Compatible Disruptive Technologies and Incompatible Disruptive Technologies are, perhaps, even more stark than in other sectors. Compatible Disruptive Technologies (let's create an acronym and use "CDTs") are those that offer significant economic disruption, but without necessarily disrupting value chain relationships (at least at first). They are the solutions that dramatically reduce costs versus the status quo, but still go to market through the same channels, and could fit nicely into customers' facilities/ habits/ lives without too much of a mental or behavioral shift. They offer such a cost or other economic advantage, however, that they are still "disruptive" versus incumbent approaches within their targeted portion of the value chain. And often, the hope is that once they get into the market in a traditional way, they will further disrupt the rest of the value chain in some fundamental way. Incompatible Disruptive Technologies (okay, okay, "IDTs"...) are those that blow up value chains. To be successful, they must have compelling economic value propositions as well, or no one would go through all the trouble. But to be successful, they also require some pretty fundamental shifts in value chains. Some examples might help break through all the ex-consultant lingo... The differences between these two kinds of disruptive technologies can be found in most cleantech sectors.

• Hybrid vehicles are CDTs -- you're still filling up at the gas station. Fuel cell powered vehicles are IDTs -- you're filling up with hydrogen from some as-yet unknown retailer or home option.
• LED-based lightbulbs with edison screws are CDTs -- you can screw them into your existing sockets. Lighting fixtures designed around LEDs, with the diodes integrated into the fixture itself, and other LED-only features (like specialized lighting controls) built in, are IDTs -- no more sockets, you'll throw out the entire light fixture before the bulb ever burns out.
• Thin-film solar panels in traditional format are CDTs -- still a roof or ground-mounted panel, even if it's cheaper. Building-integrated PV could be IDTs -- when roofers or general contractors can just slap products in place, who needs solar installers?

As with all jargon-y business concepts, readers are free to dismiss the distinction as non-existent, or to dismiss the specific examples above... But regular readers of this column will easily be able to point to recent cleantech VC deals that fall into one or the other category. Anyway, charging ahead: The markets that cleantech is targeting are huge, and resistant to change. So in this investment sector perhaps more than any other, the investment choices between backing CDTs and IDTs are clearer. And so you get very divergent investment strategies, where two very smart VCs may take entirely different approaches to how they invest in this sector. Those VCs backing CDTs argue that it's tough enough to break into the market with new tech in energy, water, etc. markets even when you're offering little disruption and a compelling value proposition. They point to the failure of previous "big idea" IDTs. For example: in the late 1990s, it was pretty much an accepted given by many observers and investors that by about 2008 or so we would be living in a "DG world", where microturbines and other distributed generation technologies, in a deregulated electricity market, would have dramatically changed the way utilities ran their businesses and their wires. Well, that hasn't really played out yet, and being early looks an awful lot like being wrong, as they say. So CDTs are seen as the way to go, because revolutionary changes in the market aren't necessary in order to get initial market traction. There's an installed base of OEMs and channel partners who can integrate the new tech in easily to their existing businesses, and/or an installed base of systems out in the field where the new products can simply possibly be slotted in. And earlier market traction means an earlier track record, more opportunities to demonstrate low remaining technology risk, and thus a more rapid path to broad commercialization and exit. To grossly over-generalize, in comparison to IDTs, CDT plays can drive to earlier cashflow breakeven, they can therefore be more capital efficient, and still offer very big upside returns if the innovation catches on quickly. Investors backing IDTs, on the other hand, say things like "if you're hunting elephants, you need to bring an elephant gun." They argue that if you really want to end up backing the huge success stories in cleantech, you need to back the plays that will revolutionize entire markets. That's the way to not only back big-growth market opportunities, but also importantly to CAPTURE the market opportunities. When you're the one who organizes the coup d'etat, in other words, you're usually the one who ends up in the president's mansion. Sure, it's riskier. Significant capital will need to be deployed not only to develop the technology, but also to educate and proselytize the market, and to build momentum even ahead of market entry (ie: PR, key market and policymaker relationships, etc.). But with greater risk comes greater rewards. And besides, if we're going to move quickly enough to change the world in the timeframe necessary to adequately address climate change, etc., we're going to need to move beyond what's easy. No one knows which strategy will produce higher returns. It might be possible to succeed wildly with either approach. It's certainly possible to fail with either approach. Really smart investors are lining up behind both strategies, and some are trying to build portfolios with a balance of both. But it's an important distinction to have in mind when reading about the latest deal -- pay attention to who was involved, and how the deal was structured, and the patterns will emerge. Here's another pundit's take on the same general topic. Speaking of the latest deals:

• Stirling engine/ solar concentrator startup Infinia has raised a $50mm Series B, after raising a $9.5mm Series A last year. New investors GLG Partners and Wexford Capital participated in this latest round of financing, alongside existing investors Vulcan Capital, Khosla Ventures, EQUUS Total Return, Idealab, and Power Play Energy LLC.

• Dan Primack at PE Week Wire had two scoops on Friday: Battery developer Lion Cells has apparently raised a $12mm Series B with participation from return backers Battery Ventures and Nth Power, following on their 2006 Series A. And in the green building materials space, Apex Construction Systems has brought in $16mm of a $22.3mm Series B, with backers including DJF Element, Nth Power and Emerald Technology Ventures.

• Pythagoras Solar has raised a $10mm Series A, led by Israel Cleantech Ventures, and including participation by Pitango Venture Capital and Evergreen Venture Partners. More from Israel Cleantech Ventures on the deal here.

• Ed Gunther has a post up describing how Cool Earth Solar, which had previously been bringing in bridge funding, is now going to be announcing an "initial closing" on a $21mm Series A round of financing. It's unclear how much of that round is actually signed on at this point.  [2/19 update:  Jonathan Shieber at VentureWire is reporting that the company has actually raised a total of $21mm to date, and may take in a total of $26mm for the round.  He reports they're also looking to bring in $10-20mm in debt.]

• Impax Asset Management has invested GBP 4mm into waste treatment startup New Earth Solutions.

• Efficient lighting vendor Lumenergi has raised a two-tranched $7.5mm round of financing, from Low Carbon Accelerator and Noventi. The first $3mm tranche appears to be at an $11mm post-money valuation, and the second $4.5mm tranche appears to be at a $25mm post-money step-up.

• VentureBeat revealed that hybrid drivetrain startup Adura Systems has raised an undisclosed round of strategic financing from wind farm developer New Frontier Renewable Energy. Very interesting to see a wind developer investment in a hybrid vehicle technology startup described as a "strategic round".

Other news and notes: Planktos, we hardly knew ye... Cree's acquisition of LED Lighting Fixtures will probably bring even more investor interest to the solid state lighting space, since $103mm is a pretty nice exit valuation on a company that probably had something like $2-4mm in ttm revenues... Richard Branson wants an "environmental war room"... Solar continues to be white-hot -- besides the new deals mentioned above, Moser Baer has announced they're putting $1.5B into thin-film manufacturing capacity, India's $7B Fab City is switching its focus to solar, and here's a WSJ online column on the topic... A nice interview with Mr. Oz Cleantech, Ivor Frischknecht... Finally, recently stumbled upon a fascinating Los Alamos presentation on the possibility of underground nuclear power parks -- enjoy! (note: link opens pdf)

We've discussed before the important role that angels have to play in the cleantech investment sector. The biggest reason is because there can be longer gestation periods for cleantech startups (hard to release an early beta version into the market, as you sometimes can with other tech plays).  Thus, in this sector more than others, angels with more patient approaches than institutional investors can play an important role in bridging the gap between invention and commercialization. So it's very interesting to see mention of this analysis from the Kauffman Foundation which looked broadly at angel investment patterns across all sectors and estimated that overall, angels are earning comparable returns to those of institutional venture capital firms. Even more interesting was their conclusion that, when VCs follow onto angel investments, the results tend to be very binary -- either very good or very bad. Whereas angel-only startups tend to achieve a similar average, but more consistent, return. (Which highlights what I often tell entrepreneurs:  That they need to be very judicious when deciding whether or not to take in venture capital.  When it works, it works well for everyone.  But it certainly isn't the right fit for every good business idea.) So angels should take heart from this analysis and be encouraged to continue to play a more active role in the cleantech sector. Deals from the past few days:

• Expansion Capital Partners has done a follow-on $450k PIPE into portfolio company Biorem.

• Forestry biotech company CellFor has taken in a $24.5mm Series D from "late stage financial investors" and existing investors, bringing the total financing into the loblolly pine optimization company up to $100mm.

• It's project finance, not VC, but it's nevertheless well worth noting this $500mm effort to fund waste heat capture projects, by Denham Capital Management.

Cleantech investors in the news:  Russell Read of CalPERS is big on energy tech...  And Marty Lagod is big on water. Other news and notes:  An update on VCs and green chemistry...  An update on solar rooftop potential...  China's $3B carbon-related fund...  As we've discussed before, the amount of venture investment going into solar is eyebrow-raising...  Amen, Dan -- and for any skeptics out there, inform yourself...  For those tracking the 2008 presidential race with an eye toward potential impacts on environmental policy, here's a very handy chart (note: pdf)...  One wicked fast electric motorcyle (using A123 batteries)...  Finally, I'm still enjoying telling colleagues that the guy who probably could have been the next President has instead decided that he would prefer to have our job -- on that topic, someone needs to explain the concept of "carry" to the AP.