Smart Investors, Not VCs, Are Funding Growth-Stage Cleantech Startups

A couple of weeks ago, I wrote up an analysis of early-stage cleantech venture rounds so far this year. I came away with the conclusion that very little was happening, except for in cases where a startup could perhaps be considered "cleantech" but was actually funded for entirely different reasons. Basically, that there are very, very few early-stage cleantech venture funders right now.

So I wanted to look at growth-stage financings in the sector (North America only) to do a similar "analysis" (read: lots of SWAGs and judgment calls, so treat accordingly) to see if the picture looks any different.

It does look different, and in some interesting ways. But the picture is only a little bit happier than it is for early-stage funding, it turns out. Basically, U.S. venture capital firms have taken their aversion to the cleantech sector to completely irrational levels, so that while there are definitely growth-stage financings happening (because there are strong, fast-growing companies in the sector), they're not being done by VCs.

But I overgeneralize. Let's look at some specific trends.

1. Yes, there are growth-stage financings to be found in the sector

After knocking a few deals out of the dataset I was using because of a lack of fit (e.g., due to stage, size, sector, or the deal just being a final closing on a 2013 financing round), I was left with 55 transactions. Fifteen of those were just pure insider rounds with no new money identified, so we'll subtract those from the tally. But even still, that's 40 or so cleantech startups that were able to attract significant investment from new investors so far this year.

If you can build a strong company with demonstrated growth and solid forward market potential, smart investors don't care if you're "cleantech." They just like viable growth investments, period.

2. It's all about the corporate dollars

Somewhat impressively, eighteen of the funding rounds I identified had some significant new corporate investors as the primary new money in a deal. In a fair number of these cases, the corporate investors were even listed as the lead investor.

That's unusual, because corporates and their affiliated VC groups typically have not wanted to play the role of lead financial investor in a round. In many cases, the corporate entity has strategic reasons to invest at almost any price, so they prefer to leave the actual pricing and structuring of the round to the VCs coming in alongside them. They also may be restricted internally in their ability to take on board seats, etc. So to see so many corporate investors playing a lead role right now is quite notable.

And the overall proportion of deals including significant new money from corporates is fascinating as well. It's high, and it speaks to the clear market opportunities here. Large corporations see cleantech (using the term broadly; in most cases, they would define their specific interest more narrowly) as a huge market opportunity that is strategically important to them to be involved in. They want exposure to the fast-growing startups in the sector. This is a huge validation point for the market overall.

So to see so many growth-stage deals where corporates are the ones having to step up to lead, knowing that's not their comfort zone, is quite an indictment of the venture community. It means they're giving up on the VCs. 

Furthermore, in many of the other deals where corporates didn't lead but were significant new investors, it looks like they were the only new investor. So there appears to be a pattern right now of insider VCs setting terms on new financing rounds to enable non-lead corporate VCs to make an investment. Again, this isn't the typical path for how "venture investing is done."

I've seen a fair amount of this dynamic anecdotally -- in some specific cases, corporate investors have decided they really want to put money into a startup and actively pester VCs in their network to put in a term sheet so that they can do so. Distressingly, even that sometimes seems to fall on deaf ears, and so the insider VCs must step up themselves to make it happen. 

3. No real clear pattern of sector preferences

I didn't really see any striking pattern of some sectors being clearly more in favor than others. The investments ran the full gamut of cleantech subsectors. Perhaps there was a slight emphasis on electricity storage, but for the most part, what seems to be attracting investment is a strongly positioned startup, rather than what subsector it's in. Per the point above, corporate partnerships obviously are important, in addition to (or in some cases, it seemed, as a proxy for) revenue growth, but that was hard to quantify.

4. Investors from "outside the box"

In cases where it wasn't a corporate investor leading the round, it wasn't a cleantech VC, either. I only counted four deals out of that entire dataset where a cleantech VC was an outside lead in the round.

Instead, the leads came from the family-office and high-net-worth-individual communities. Or they were more mainstream private equity players with no particular cleantech or VC activity focus. Or, interestingly, they were PE firms from overseas -- four of the deals were led or co-led by China-based PE firms or corporations, for instance.

That's right -- so far in 2014, you're as likely to get a term sheet for your U.S.-based cleantech growth round from a China-based investor as you are to get it from a U.S.-based cleantech venture firm.

All this confirms for me that the capital markets for cleantech venture capital are just completely irrational right now. Few cleantech-specific venture firms of any stage preference can raise new funds from LPs, so they're not writing checks themselves. And generalist VCs won't touch the sector with a 10-foot pole -- even while large corporate players are eager to make investments (and therefore, ostensibly, acquisitions) in the sector, and even while investors who aren't as subject to the negative stigma around "cleantech venture capital," such as PE players from overseas and family offices, are all happy to put money to work into growth stories regardless of sector.

I can understand VC pullback from the cleantech sector to a certain extent, given the lame returns and bad reputation previous investments in the sector earned. I can understand a fair amount of skepticism toward the sector among Silicon Valley VC types. A pullback and rethinking and skepticism have all been warranted, for sure, given past experiences. But c'mon, people -- we're five years into this negativity cycle. We're now seeing success stories and real exits. We're now seeing lessons learned. And quite clearly, we're seeing a significant number of fast-growing companies. The next wave of cleantech is here now -- for anyone who cares to look for it.

Don't give me excuses about capital intensity. VCs with big funds to deploy have always loved an excuse to put a big check behind startups with obvious momentum. Don't give me excuses about "long gestation periods," because we're talking about just the growth-stage companies that would be at the tail end of any such development period anyway. And don't give me excuses about "unclear exit paths," because obviously there are lots of engaged acquirers in the marketplace, as well as recent evidence that cleantech companies can enjoy the current IPO window just as much as non-cleantech companies can. 

Basically, if you are an investor who is insulated from concerns about the supposed "cleantech crash," then you're happy to put money to work behind the many fast-growing startups in the sector, because you don't care about the sectoral label. But if you are still carrying around that "cleantech crash" reputational burden, you won't touch the sector even when the deals look attractive. In my experience, many of these VCs won't even take a first meeting, not even to learn about how the sector is evolving. This is very obvious and counterproductive herd behavior, much beyond what investor logic should dictate. There isn't one contrarian generalist VC firm out there, ready to reap the benefits of ignoring everyone else's irrational investment fears, and focusing on fact-based investing?

Really?

Tell me how this makes sense.

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