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How to Interpret Q1 Greentech VC Numbers

Rob Day: April 20, 2012, 1:42 PM

Over the past couple of weeks, various deal-trackers have come out with their Q1 tallies for cleantech venture capital dealflow, and it's a bit confusing this time around.

The Cleantech Group came out with its totals (see the great slide deck here), showing that Q1 saw an increase in the number of cleantech deals (from 176 in Q4 to 185), even as dollar amounts went down. Interestingly, they talk up a rebound in early stage (Seed + A) investing, as well.

DowJones Venture Source has a pretty different number reported in the overall tally reported today, showing energy deal counts drop from 30 in 1Q11 to 29 in 1Q12, of which 23 were in renewables. This isn't from the helpful special cleantech tally it always does, but that hasn't been seen yet, so it's just an incomplete data point to include for context.

CB Insights also released its tally of deals, and it showed a different picture -- not only did dollars fall, as shown as well by the Cleantech Group, but further, deal counts fell from 69 in Q4 down to 56 in Q1. CB Insights also shows a significant decline in the number of early-stage deals in the sector, with Seed and Series A deals together falling from 40% of the overall count in Q4, to 17% of the overall deal count in Q1.

What's going on?

I always like to think about this kind of disparity in terms of three factors: geographic differences, definitional differences (i.e., inclusiveness), and thoroughness.

Geographically speaking, a closer look at the Cleantech Group numbers is a bit revealing, in that the topline numbers above were global. In its North American tally the deal count actually went slightly down -- 118 to 116 -- from Q4.  Cleantech Group doesn't break down that region from an early stage vs. late stage perspective in this deck, unfortunately. But we can at least start to rationalize between the Cleantech Group perspective and the CB Insights perspective, in that part of the upward trend that the Cleantech Group saw was actually in other regions, like Europe and Israel.

There's still a big difference between the Cleantech Group's 116 total counted deals in North America, and CB Insights' 56 total counted deals in the U.S. And I strongly doubt that's because of Canadian deals. Also, there's still the matter of the CB Insights tally showing a significant decline, while the region-specific Cleantech Group tally was pretty flat.

Definitional differences could play a very large role here.  Looking into the sectoral breakdowns within the Cleantech Group numbers, one trend they describe is the increased activity in non-energy subsectors. The company saw a nice uptick in water sector deals, for example. Meanwhile, the CB Insights presentation suggests the company perhaps has a narrower definition of "greentech," not calling out water for example, albeit with a big catch-all "other" category. And as well, remember that being named the Cleantech Group means that organization has an incentive to cast a wide net and include a lot of venture-backed companies that, within a broader survey covering multiple sectors, might reasonably be put into other tech categories instead. The Cleantech Group might also have definitional differences around a "venture capital" round, as well. It wouldn't be surprising to see the Cleantech Group have a looser definition of what types of financings to include, again, because it's the company's mission to be inclusive.

In terms of thoroughness, it's always impossible without going deal by deal to truly figure out if one of these professional organizations is just flat-out missing deals. But if CB Insights (the lower of the two totals) was really missing a lot of deals that the Cleantech Group was catching, you would expect CB Insights to miss more of the smaller (and thus less-reported) variety. Instead, looking at its tally of dollars ($763M) in greentech venture deals in the quarter, versus the Cleantech Group's $1.3B total for North America, it would have really needed to have completely whiffed on some really big deals if lack of thoroughness was the reason for the deal count difference. Most likely, the differences are due to the methodological differences described above. As for me, I think highly of both groups' efforts, having tracked their processes over the past couple of years.

So: what do we conclude, meshing these perspectives? It looks like the first quarters saw venture capitalists shifting their focus a bit outside of the popular subsectors of cleantech (solar, energy efficiency, energy storage), and into subsectors that haven't gotten as much attention -- and that sometimes aren't even considered "cleantech" by some definitions. And maybe, an expansion of "non-VC" financings, counted by one group but not the other.

If so, those are really healthy shifts, in my opinion.

Unfortunately, we have less clarity around the idea of early stage investments making a rebound. While perhaps the same definitional differences are at work here, it's just too tough to parse that out. And if CB Insights is right and early-stage greentech took another step back, that's not good. Early stage is the lifeblood of the industry, because they are tomorrow's follow-ons, and also it's an indication of investors putting new money into the sector instead of just defending earlier bets.

Here's hoping the Cleantech Group's perspective on this question -- that early stage is rebounding -- is the more representative one.

An Experiment

Rob Day: April 20, 2012, 9:39 AM

Regular readers of this column will know that I often describe non-tech entrepreneurial efforts, like channel disruption and implementation services, as crucial to the next phase of development of the cleantech market. We still need technical innovation, of course, but it's not the limiting factor in this market right now -- actual implementations are. There are now lots of commercially viable, economically sustainable clean technology solutions available for customers, but we need to see buyers start to adopt and implement them. 

Regular readers of this column will also know that I believe VCs have not yet done a great job of tackling this other type of business opportunity, at least in the cleantech sector. "The Next Great Patent" success story is still the typical cleantech venture capitalist's goal, often for good reason, and it's still what most people think about when the term "cleantech" is mentioned. So there's an unmet need to help out the unrecognized entrepreneurs out there who are taking on this big implementation and market shift challenge.

Finally, regular followers of me on Twitter will know that I've been a big supporter of the Cleantech Open, both as a national board member, and as regional chairman of the Northeast program. It's a great accelerator program that every year helps dozens of emerging entrepreneurs get training, perspective, connections and visibility -- and it's also proven to be a great networking platform for more senior members of the cleantech entrepreneurial and investor community as well.

This year, in the northeast region, we're going to try an experiment, tying all of the above together.

We're still going to work with cleantech VCs and the entrepreneurs who want to meet them, of course -- that's been a primary historical aspect of the Open over the years, with Alumni companies having raised over $660M in venture funding to date. Speaking as a VC, it's been a great program to be a part of, quite valuable for the likes of me. For example, this year the national organization has been selected to manage NASA's Night Rover Challenge, and each year we run a Global Ideas Competition, just a couple of examples of how the Cleantech Open has become a great way for technical innovators to help take their ideas to the next level.

But this year, in the Northeast region, we're going to additionally target helping those entrepreneurs who don't see themselves as necessarily being a fit for the venture capital model.

This means that we're going to specifically recruit and highlight the best new "implementation-oriented" business in the region. We're going to change our training program to better suit the needs of these entrepreneurs, too, bringing in additional perspectives and making sure to address the different types of financing these entrepreneurs should be targeting. And we're going to bring in more angels, family office investors and corporate members of the cleantech community here in the Northeast, as mentors and judges.  

There are lots of opportunities out there for engineering students to get advice on how to spin out technical inventions from a university lab and get venture funding. I'm a big fan of all that, and we'll continue to work hard to help those emerging entrepreneurs too, since we've seen great results doing so. But we also haven't seen enough community support, training, connections, visibility, etc. dedicated to helping the other entrepreneurs who are launching businesses that will eventually implement those inventions -- installing solar panels, doing energy efficiency retrofits, building anaerobic digestion projects, launching LED lighting distribution businesses, etc. So this year we're going to build additional features into our program try to start addressing that gap as well. 

If you're an entrepreneur in the Northeast and this sounds like you, and it sounds like we could help, think about applying. This is one of the most effective nonprofits I've ever been involved in, and it's the centerpiece of a vibrant cleantech entrepreneurial community. We'd love to have you join us.

Sovereign Wealth Funds and Large Pension Funds: Stymied by Greentech VC

Rob Day: April 17, 2012, 8:44 AM

Some very, very large check-writers have been getting bigger and more interested in private equity investments. Sovereign wealth funds and large pension funds don't get a lot of attention, but they're huge players in the investment world. And as I've been speaking with several members of that community, two points have come through fairly clearly: 1) many (especially those outside the U.S.) are interested in doing direct investments in the cleantech space, broadly defined; and 2) they feel stymied in trying to do so.

They are interested in investing in cleantech markets for the same reason you are, Gentle Reader: because the macro trends are too obvious on a global scale to not eventually result in massive market shifts and the emergence of significant new profit pools.

But when it comes to cleantech venture investments, they're largely sitting on the sidelines. Why?

First, check size. Talking with these investors, even in their direct investments, they need to write really large checks compared to what most VCs are used to.  A $50M check can be perceived as too small of a bet to bother with. And so that significantly limits the universe of types of "venture" deals they can invest in.

In other sectors, however, they can dabble in very-late-stage deals where the exit path is obvious and near-term (the so-called "venture rounds" into companies like Facebook at super-high valuations, for example). But of course, in the cleantech sector we haven't seen any of these. Sure, there have been some IPOs, but no obvious blockbusters. So their direct venture investments are flowing into sectors other than cleantech right now.

These large investors also have a hard time getting involved in cleantech venture capital as LPs for largely the same reason. You'd think venture firms would love a $50M allocation from an LP, but many of these LPs have restrictions about being more than 10% to 20% of a fund, as well as about participating in the first close of a fund. Which means, therefore, that they need to be targeting funds that will be several hundred million dollars in size and get to a sizeable first close without them. But that's hard to find among cleantech specialist VCs right now.  And as well, it's not like the existing returns from cleantech GPs have been very impressive to date. So rather than desperately finding ways to squeeze an allocation into a cleantech specialist VC's newest, smallish fund, interested SWFs and large pension funds are instead settling for the cleantech activities of the generalist VCs (those with really big brand names) they've backed. 

One other path would be for these funds to get into project finance investments. Some are, but that's also not easy. First of all, it's likely a different team and different mandate within that investor's organization. Second, there aren't a lot of large-scale cleantech-specialist project finance firms out there, either. So the same problem with cleantech venture capital presents itself: back lesser-branded developers' projects, or go with the traditional energy project finance firms that aren't making renewables central to their activities? And third and perhaps most important, the types of cleantech sectors they can get into through these activities are very limited, usually consisting only of large-scale powergen and production facilities. There remain very few large-scale ways to play energy efficiency project finance, or green agriculture project finance, or even water-related project finance. 

What all this means is that, as frustrating as it might be for entrepreneurs and specialist VCs, there are some really deep pools of capital that are interested in playing the cleantech investment thesis, but that are currently sitting on the sidelines. Which says there will be a threshold effect. We started to see what this might mean in the 2007-2008 timeframe when some of the higher-profile cleantech sectors got frothy and started getting some of these dollars. The cycle's down right now, but it will come back. And when that threshold gets breached, the capital inflows into this sector will explode. 

It's not an 'if' -- but the 'when' remains very much unknown.

A Greentech VC Bridge Too Far?

Rob Day: April 6, 2012, 9:00 AM

I've been talking with a lot of fellow cleantech investors lately, and we all commiserate about how busy we have been so far this year.

I think this is tied to a couple of things. First, as of the beginning of the year, it seems like just about every startup hit the fundraising trail. And secondly, the sector is maturing, and so a much greater percentage of these startups are investable as compared to in the past: strong management teams, good revenue prospects, attractive markets, etc. So it's a really good problem to have as an investor, to be overwhelmed with intriguing dealflow. It's a good sign for the sector, and a sign that it's a great time to have capital to deploy as an investor.

But what's curious is that a lot of investors I speak with have been more busy with existing portfolios than with incoming dealflow. It's interesting, because it feels like cleantech markets and startups are on an upswing. So it's not like the spring of 2009, when cleantech investors were more focused on their portfolios than on new deals out of necessity, since the world had basically come to a crashing halt. That was damage control and triage time.

Instead, I think the universe of cleantech investors is seeing a lot of progress in its portfolios, which is good. But because of the lean times over the past couple of years, their portfolio companies also need an infusion of capital to keep growing. 

And right now, new outside lead investors are still hard to come by. We're seeing progress among cleantech VCs in terms of their own fundraising and fund closings, which bodes well for later on. But for now, there remain few investors with significant new capital, and thus few doing many new investments in the sector, and meanwhile, LPs remain highly skeptical. 

So cleantech VCs see promising signs out of portfolio companies, but they lack outside lead investors because few are available. And so they feel like they should continue to support their startups themselves. Why stop backing a company that's making progress?

The problem is, many of these investors are themselves out of capital. And even for those with dry powder, there's a healthy reticence to do internal-only fundraisings where no outsider prices are around. So they do a smaller-than-needed bridge round instead, kicking the can down the road, putting a convertible note into a company in the expectation of a new, larger round of financing in the second half of the year. It's a pretty standard and appropriate decision for such circumstances, where the company needs more financing, has made progress since the last round, but would have trouble pricing a round at the current moment. A textbook decision, if such textbooks existed.

But unfortunately, I just see a whole lot of these bridges going on right now. So while each one is an appropriate decision under the specific circumstances of each company, I do fear that in the aggregate there won't be nearly enough new lead investors in 2H12 to support so many bridges. Will these be bridges to nowhere? And what happens to these companies if the bridge doesn't lead to a new outside-led equity round?

Entrepreneurs that have taken in bridges in the first quarter should be looking at their existing investors and developing backup plans. Figure out which existing investors have dry powder and think about what an insider-led round should look like as a Plan B. Still, outside pitches lead in 2H12 as Plan A, but be prepared for it to be a crowded market chasing few outside leads. And plan ahead, in tight coordination with those inside investors who aren't themselves tight on capital.

And for companies and investors still thinking about doing a bridge financing intended to lead into a new outside-led financing in the second half of the year -- be careful. It's looking like the second half of the year will be better than the first half of the year, so hope for the best. But there's a possible capital supply and demand imbalance looming as well, so plan for the worst.