I've been having a lot of conversations with cleantech investors lately, and it's clear there's an emerging "consensus" (as much as you can ever get true alignment in such an industry) that the traditional venture capital model applied to cleantech isn't working -- at least in how it's been applied to date.
To recap, we have seen billions of dollars this decade put into venture capital and "venture capital" deals in energy tech in particular, but not only have there been relatively few exits, many VC-backed cleantech companies have been way behind in their promises regarding commercialization and adoption. Cleantech VCs have been more effective at making headlines than at making returns. And there continue to be clear capital gaps at crucial development stages, including seed stage and "first commercial-scale project" financings.
In talking with a wide range of investors over the past few months, it's clear that there is still lots of optimism that there will be strong returns from venture-type investments in this sector. After all, these are phenomenally huge markets, and they have phenomenally huge unmet needs. Significant change is expected, and VCs are supposed to profit from significant change. Exits have clearly been held back at least in part by the overall macroeconomic situation, which nipped several IPOs in the bud through no fault of the companies or their investors. And there's clear long-term govermental support putting wind into the sails of the industry.
All of which is great, but in talking with these investors they also acknowledge that no one's yet proven out a successful investment model for the sector. And so, in true hive fashion (everyone thinks they've arrived at the thought independently, but we all are influenced by each other's thinking), I keep hearing that the model is "broken" and solutions need to be found.
Okay. But what solutions?
Some say that the problem isn't with either cleantech or with the traditional venture capital model, but instead that they don't overlap as often as VCs would like to think. So, they say, applying IT investment models to IT approaches in cleantech (automated building energy management, carbon accounting SaaS offerings, etc.) is the way to go, not putting hundreds of millions of dollars into capital-intensive renewable energy generation. Limiting the scope of cleantech venture investing, in other words, to just a subset of the overall energy, water and materials market. I've argued for this approach at times myself. However, it does beg the question: Then how DO we expect to see these renewable energy technologies get to market? Are the investors putting money into those sectors wrong? Perhaps VCs are unintentionally, as some have said, simply taking pension fund money and investing in these capital-intensive technologies for society's benefit, but without good overall likelihood of venture-type returns? Or perhaps not, the exits just haven't happened yet but they will? But that's not an answer to the question, that's just a diagnosis and another set of questions.
Some say that the key is, given long gestation periods, being late-stage investors and coming in after significant technology and commercialization risk is taken out of the company. Which is a very smart approach except: a) Everyone else is having the same idea, driving up prices for late-stage investments; b) Being only late-stage in capital-intensive development efforts starts to look more and more like some kind of project finance, not venture capital; c) We're seeing ample evidence that there's still plenty of execution, scale-up, and market risk even at these later stages; and d) If everyone's investing late-stage, who provides the funding to bring the companies to that stage of development?
Some, albeit fewer, argue that the way to play cleantech is instead to go quite early and really swing for the fences. Acknowleding the long gestation period of truly breakthrough ideas in the sector, the idea is to adopt a longer investment horizon, but to raise the bar in terms of the returns potential an investment might have: So to paraphrase, don't go for the traditional 10x in 5 years, go for 20x in 10 years. But it's unclear how LPs will react to such an approach, and if you think accountability is low on investments done with 5 year horizons... Furthermore, what about the other 99% of good cleantech innovations that don't qualify as having such dramatic potential? Not everything can be "the next Google", after all.
Some investors are implicitly pursuing a momentum approach -- backing high-profile startups in high-profile sectors, putting a lot of effort into P.R. activities to further raise the profile of the startup, using that to bring in corporate partnerships and government support, and thus creating seemingly unstoppable momentum toward an exit. It's almost (note: I'm clearly using hyperbole here) as if the underlying startup's technology and economics don't really matter. One big challenge for this approach is the ephemeral nature of P.R. and momentum-building, it's easy for journalists, pundits, etc. to get very skeptical very quickly and turn against a company that has been over-hyped. And more damaging, in the pursuit of visible evidence of rapid progress, these investors often encourage the companies to take on a high cash-burn model. Which, when (not if) things go a bit sideways at some point, can be deadly.
I'm also seeing some efforts to create more overt "hybrid" approaches, combining (or at least setting up in parallel) VC, project finance, and middle-market buyout strategies. But these are as yet mostly ill-defined, and it's unclear at the end of the day what's different from what's already de facto being done today by big VC funds, aside from the additional clarity of returns and risk expectation.
And of course a lot of other intriguing new ideas as well, there is some innovative thinking being developed out there, sometimes in places you wouldn't expect.
But despite all the ideas, so far, few proven answers.