I recently posted an article on ‘Scaling energy companies with VC Dollars’ on Forbes.com, which was published today, December 8th.   Let me know if you have an example or a counter example.  The article is pasted below or you can find it on Forbes.com by clicking here. 

Is It Possible to Scale Energy Companies with VC Dollars?

The dictionary provides one definition of risk as “the chance of something going wrong”.  Venture capitalists often categorize the chances of “something going wrong” as technology risk, market risk and execution risk.  My recent post on venture capital investments in energy technologies describes a way to mitigate one execution risk by investing in companies with or recruiting a Commercialization Executive.  Another type of execution risk of particular importance to an energy company is the financing risk in scaling to the size required to make an impact. 

It would be difficult to make venture capital returns if it required that VC firms make billions of dollars of new investments in start-ups to compete with the billions of dollars of past infrastructure investments made by incumbents.  After all, the Venture Capital sweet spot is early stage companies that have technology and/or marketing risk left to resolve, but that won’t require large amounts of capital expenditures to start generating revenue.   There are a few sectors of energy companies that fit comfortably within this familiar model of VC investing. An example is energy management companies such as OPower, in which the core technology is in software and using data to drive decisions.  Another example is solar financing companies such as SunRun or Sungevity that are striving to own distributed solar power production.  While these companies need capital to install the depreciating assets on their customer’s rooftops, their ratio of variable expenses to fixed expenses is quite high.  Each incremental dollar they invest in purchasing another solar PV system directly attributes to increased revenue; there is no requirement to design and build a $100M manufacturing plant before the first revenue can be realized as is required of energy production companies. 

So then, have VCs been wrong to jump into capital-intensive energy investments? There is research to support the idea that even a year ago, VCs were already backing away from investments in capital-intensive energy sectors such as energy production in favor of less capital-intensive sectors such as energy efficiency. However, we believe there are still opportunities to make VC returns even in the ‘capital-intensive’ sectors.  One of the best ways to address the financing risk of scaling energy investments is to reduce the dollars needed with a business model that uses the output from other companies that have already scaled as an input.  By doing this, our companies build on top of capital that exists, leveraging others’ previous investments and reducing total funding needs.  

This is easily illustrated with an example from our portfolio, Solaria.  Building an efficient solar cell manufacturing plant requires an investment of hundreds of millions of dollars.   Luckily for Solaria, many of these cell manufacturing facilities have already been built. Solaria can then purchase the output (solar cells) from these factories as an input into their proprietary solar module design that delivers power at a lower cost.  The cost to build a solar module plant is at least an order of magnitude less than a cell manufacturing facility.  Solaria has found a way to tap into the scale of the existing solar photovoltaic industry with a more capital-efficient business model: Design, Assembly and Test. 

Another one of our portfolio companies, Danotek Motion Technologies, is also pursuing a Design, Assembly and Test approach as a means of lowering capital expenses.  Danotek has designed a more efficient and reliable permanent magnet generator for wind turbines.  Most of the components for this new generator design can already be produced at manufacturing facilities built and financed by other investors.   Danotek can purchase these custom-made or even standardized parts and assemble its own proprietary generators.  

Of course, there are other options for successfully financing the scale-up of a capital-intensive venture-backed energy company.  Occasionally, government money is available to build new facilities that deliver on the promise of green jobs or energy savings.  In addition, an existing large corporation might have a strategic interest in a new technology and be willing to invest significant amounts of capital to reap the potential benefits.  We’ve talked with other venture capital firms that rely on strategic partners as part of the investment thesis for scaling and you can reference my blog post on the importance of Strategic Partnerships for energy companies.  However, since there are no legal arrangements or even formal discussions when the company is still in an early stage, we can’t rely on the partners as an absolute in the future.  While this is certainly an approach that has worked, we don’t want to depend on a future strategic partner to alleviate the financing risk for scaling the company.  Of course, we also have to remember the basics; for any technology to attract sufficient capital to scale up, it must solve a real problem, be cost effective, be replicable, and have the right supporting systems in place.  

The solution to how to successfully scale a venture-backed energy company to deliver a meaningful solution is tricky.  We evaluate several different scale-up paths for the company as part of our due diligence, routes both with and without significant capital from another source.  When other financing is not accessible, we want to be sure our investments have a viable capital-light business model available.  Leveraging existing capital mitigates risk.  What approaches have you seen work well? 

Rachel Sheinbein is a Partner in the energy and materials practice at San Francisco investment firm CMEA Capital. She is also the President of the board of Expanding Your Horizons, a non-profit that encourages young women to pursue careers in math, science, engineering and technology.

I recently posted an article on Cleantech startups Partnering with Big Companies on Forbes.com, which was published on September 26th.   Let me know if you have an example or a counter example.  The article is pasted below or you can find it on Forbes.com by clicking here. 

What do Chevron, General Motors and Proctor & Gamble have in common, besides all being global brands and Fortune 100 Companies?  All three have active and substantial relationships with venture-backed energy and ‘cleantech’ companies.  Why would lean-and-mean start-ups want to work with these large organizations?   We at CMEA Capital have learned that to be successful, they often must.  

Before we continue, let us clarify that we are not talking about standard transactional customer interactions in which the start-up is simply a supplier or customer.  We are also not talking about financial support from government organizations, as those relationships have different motivations and goals.  We are talking about deep partnerships in which well-established corporations put skin in the game via research dollars, joint development agreements, channel partnerships for customer acquisition or even equity investments. 

Now let us get back to why energy and material start-ups must have these partnerships with larger corporations.  Unlike some other sectors, energy and materials companies compete in markets that are global, mature and capital intensive.  Whether the end product is electrons, consumer goods, or cars, the incumbent leaders have spent billions of dollars over many years building out infrastructure such as transmission lines, gas stations, pipelines and more, along with the global sourcing and global manufacturing networks to deliver these products.   Serving these massive industries requires meeting hurdles of scale, cost, safety, and reliability that are daunting for any young company – even ones based on exciting new advances.  Partnerships can offer funding, credibility, channel advantages and supply chain simplifications that dramatically reduce the cost and risk of bringing new innovations to market. 

We are not the only ones to figure out that Strategic Partnerships are essential for clean technology companies.  Take for example the numerous partnerships of algae-based chemical and fuels producer Solazyme.  Chevron has invested money into the company and provided non-dilutive research funding.   In addition to offering Solazyme increased market credibility, the Chevron partnership has reduced the financial burden on venture investors. Another one of Solazyme’s strategic partners is already a customer; Unilever signed a research development agreement back in 2009 and then became an equity investor in 2010.  Today, Unilever is using Solazyme’s products for their algae-based soaps in an attempt to phase out the use of palm oil.  Solazyme has equity investors representing other potential markets such as food (Bunge, San-Ei Gen) and airline fuel (Virgin’s Sir Richard Branson).  

An example from the CMEA Capital portfolio is the strategic partnership between Contour Energy Systems and oil-and-gas giant, Schlumberger.   Contour is developing advanced batteries based on carbon-fluoride chemistry.  It turns out that Schlumberger has a hard time finding suitable batteries for the challenging underground environment and Contour’s technology provides the solution.  Thus, the start-up and the large corporation are working together to adapt Contour’s promising new technology for Schlumberger’s long-standing problem.  When it is perfected, Schlumberger will become a customer, driving sales for a young company.  In the short term, Contour benefits from the contribution towards engineering costs, materials provided by Schlumberger’s R&D group, plus an equity investment.  In the long term, Contour can leverage the technology advancements to enter other markets with the backing of a strong Schlumberger endorsement. 

Most relationships last because they are mutually beneficial, and so it’s important to mention that these large corporations have much to gain from these partnerships. Years of declining energy R&D budgets by both the public and private sector have slowed down the pace of innovation at established companies.  This trend is so pronounced that private R&D funding in energy technology in 2005 was less than half what it was 20 years earlier.  Many large corporations have found partnering with a young company focused on a promising new technology is a more cost effective way to reap the benefits of a new technology while capping the downside risk.  These benefits might include improved performance, lower costs or other desirable attributes for existing products or the innovation might represent the enabling technology to develop entirely new product offerings. 

There are exceptions to every rule, but we have a hard time finding a venture-backed energy or cleantech company that has been successful at the go-it-alone approach.  Some may try (even some we’ve been involved with), but rarely does it go well.  When a young company wants to break into ultra-established, largely-commodity industries, securing a strategic partner is usually a wise approach.  Now, exactly when and in what form that strategic partner should be engaged is a matter for a management team and board to determine depending on the needs of the company and its market. 

It was great to get your thoughts on Commercialization Executives, so please send your examples (or counter-examples) of Strategic Relationships.  When did your start-up bring on a strategic partner?

Rachel Sheinbein is a Partner in the Energy and Materials practice at San Francisco investment firm CMEA Capital. She is also the President of the board of Expanding Your Horizons, a non-profit that encourages young women to pursue careers in math, science, engineering and technology.
Twitter: @RachelSheinbein

I recently spoke to Pemo Theodore, who has a business focused on winning the venture capital game for women. Here’s a recent interview offering advice for women entrepreneurs, and my take on being a female venture capitalist.

See more of Pemo’s interviews here.

I recently wrote a guest post for Mashable about Hacktivism: Lean Startups for Change. Let me know if I’m talking about you.  To read the full article click here.

For many years now I’ve seen my role as a venture capitalist as investing in people, not companies. I finally decided to put it in writing.

Read my guest blog post on Forbes as to Why Entrepreneurs are the New Asset Class.