The Flight of VCs from Cleantech

So I talked with some investors recently about why they’re disbanding like disturbed flies from the cleantech space. Investments in the cleantech space have been steadily declining over the last few years, say new reports from everywhere – Cleantech Group, National Venture Capital Association/Pricewaterhouse Coopers, Bloomberg New Energy Finance. The latest report from NVCA/PWC showed $297 million flowing into 40 venture deals in the third quarter of 2013, a 20% drop from the second quarter and marking the 7th consecutive decline.

The short story is, cleantech is a new space with a lot of risk and investors flew because their tails got lit on fire. They thought cleantech would be like IT and software, with similar timescales and returns. Instead, “a lot of money went into very capital intensive companies that were pursuing commodity markets, with huge time risk,” said Peter Hebert of New York-based venture firm Lux Capital. Cleantech is very different from IT/software/internet – namely, it’s slow and capital intensive, and if you’re betting on producing cheap commodities at the end of all that, boy, can you really outgun the Chinese?

So most of the generalist venture firms have pulled out of the space, and the dedicated firms that remain target capital-light projects aligned with energy efficiency and software solutions. These projects only ask for funding rounds in the tens of millions of dollars, way smaller than the hundreds of millions doled out for capital-intensive projects a few years ago.

But not everyone can be lightweight tech companies. Who can they turn to for money?

“If you have a company that requires significant capital… that is a harder place,” said Sheeraz Haji of the Cleantech Group. It’s like a chicken and egg problem. VCs, the usual early seeders, don’t have enough money, while big banks, the traditional project investors, only want to invest when all’s well and proven.

Though corporates such as GE, ConocoPhillips, and Google are ramping up their involvement with project investments and/or in-house venture arms, they haven’t quite filled the gap. Similar to big banks, they don’t want to invest too early on. But, both they and start-ups are warming up to each other. Corporate investment has increased about 10% annually, according to data from the Cleantech Group. And going forward, one of the best ways of survival/success for a cleantech startup is to partner with strategics.

In all, the answer to the funding question will probably be a mixture of groups. Family firms, for example, are less constrained than traditional venture firms and large banks, and can do anything from early-stage venture capital to large-scale project finance. For areas such as waste management and methods to clean up oil and gas production, which usually don’t register in people’s minds as cleantech, there’s been plenty of support from growth equity firms.

Some investors think the flying VCs will boomerang back. “I’m also sure that these things are just cyclical, they’re going to come around again,” said Josh Green, NVCA chairman. “Capital costs will lower again, which will allow us to make [investments in] these higher capital need companies.”

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