Thursday, June 2, 2011

The 'Second Cycle' of cleantech startups

By Bilal Zuberi, principal, General Catalyst Partners

The cleantech industry is still in its nascent days, and an ecosystem that promotes sustainable production, distribution and consumption of energy is still developing, especially the entrepreneurial and managerial talent that will lead us hopefully into a new era of job creation, economic growth, and global competitiveness.

Startups play an outsized role in bringing clean energy technology and innovation to market, creating new jobs, and defining a new American competitiveness. We are now in what I would define as the Second Cycle of modern cleantech startups (not counting the 1970s era environment-focused companies). The First Cycle of cleantech startups began in the early 2000s and came to an abrupt end in 2008 when economic turmoil hit the country. This was a period during which some excellent cleantech companies were created by top notch cleantech entrepreneurs. For example, EnerNOC with Tim Healy, Tesla Motors with Elon Musk, A123 Systems with David Vieau and Ric Fulop, GTSolar with Kedar Gupta, and several others.

This was a time when entrepreneurs and investors regularly raided academic labs across the country to find licensable technologies, but these were mostly innovations that had sat on shelves for decades collecting dust because they were not considered ‘economically viable’ before. During the First Cycle we saw creation of large numbers of new companies, a swath of venture dollars invested in them, and a significant scale migration of entrepreneurs from other fields, such as IT, into cleantech.

The cleantech startup frenzy of the First Cycle was dramatically slowed down by the economic downturn in late 2008 (it is just a sidebar note that one of the last IPOs of 2008 was GTSolar). The years 2009 and 2010 were very difficult for new cleantech startups, and many entrepreneurs, especially those who had turned to cleantech from other fields such as IT and biotech, went through hard times finding investors to fund their ideas. I met many entrepreneurs who were left wondering if the problem was with their business plans, investors suddenly running out of money, or the entrepreneurs themselves. Many dreams went unrealized. That said, we still did see some amazing companies form even during this difficult period. In fact our investment pace at General Catalyst Partners accelerated because we saw great companies raising money at more rational valuations, and with better thought through business plans.

The year 2011, I believe, has already seen an optimistic turnaround for the cleantech startup industry. I call this the Second Cycle of cleantech startups. Companies from the First Cycle are now starting to find healthy exits via M&A and IPOs, and investor confidence appears to be returning. The pace of innovation has picked up and new companies are being formed again in significant numbers. So is there anything different this time around?

From my vantage point as a cleantech investor, I think there are already, and will be, a few differences:

1.       Technologies that were developed over the past 20 to 30 years have already been picked off and we are in a real-time technology development mode to solve specific energy issues. The good news is that we are better prepped to identify innovations that may be truly ready for commercialization versus those that need further gestation. But this also means there will be more continuing involvement necessary from the founder academics than may have been the case in the past. The technical visionaries are now needed inside the companies to help steer the ship and pivot when needed.

2.       Investors are now more focused on managing the capital intensity of projects. This does not mean they are all looking for energy IT and services based companies. But there is greater emphasis on the capital versus milestones equation, and syndicates that are put together are expected to walk together the entire way. Good investors are also more aligned with the objective of what I call “building businesses and not exits”. From entrepreneurs’ point of view, it should be more obvious now “who gets it” and “who is in it for real.” We will also see a greater degree of interaction and collaboration between corporate partners and traditional VCs. I don’t just mean venture arms of large corporations, but operating divisions as well. It is becoming common to find startups focusing on direct customer feedback early, and locking up strategic corporate or utility partners – sometimes even before Series A. We have already seen some cases where limited partners have invested directly in startups alongside VCs, and we may see even more of this going forward, especially in capital intensive businesses.

3.       Entrepreneurs in this cycle are likely going to have more sober and deep tech-oriented backgrounds. Flashy resumes of dot-com IPOs are not really helpful when a company is struggling to negotiate complex supplier and strategic technology development agreements across different parts of the world. Serial entrepreneurs who have successfully built large energy, communications, infrastructure and materials type businesses would make great co-founders for younger technologists (and not just management you bring on at some later stage). To be more successful than the entrepreneurs of the First Cycle, this generation of entrepreneurs needs to be scrappy, big thinking and resourceful. Putting the team first is a core element in my investment thesis, and a motto for my firm General Catalyst Partners. I believe we will see this become more common among other investors as well (see related post here).

4.       Markets will be competitive and truly global. Not only will this be ever more true, but the fact is that some international markets are already further ahead of the U.S. when it comes to adopting clean energy solutions. This is a great opportunity but also a threat. Startups will find themselves stretched thin in resources, management may have to travel furiously and juggle various technology, business, culture and regulatory paradigms. International customers may prove to be more fickle and less reliable, and IP may be at greater risk. But these markets are real, huge and extremely hungry for innovation, and they cannot be ignored. Take an example: the solar industry was a major part of the First Cycle. However, for a majority of this world’s population, solar was somewhat unaffordable, required subsidies, and considered a luxury (exceptions would include countries like India where economic growth rate is limited by access to energy). Solar took off in some developed nations but more slowly in many others. In contrast, LEDs are expected to constitute a major industry in the Second Cycle. Use of low energy consuming bulbs and fixtures is an immediate source of high ROI to industries, businesses, governments and even residents across the world. When you don’t have much power to begin with, stepping down from consuming 40 watts to 6 watts to still light up your house at night can be a no-brainer, especially if payback periods are counted in months, not years.

I am super excited about this Second Cycle of cleantech innovation and startups. Macro-trends favor solid growth across all sectors, and traditional industries are also looking towards startups for across-the-board innovation, cost reduction, productivity increases and job growth. Our regulatory framework may be lagging, but I hope this won’t deter us. It won’t be easy, but it promises to be a very fun and fulfilling period. And I look forward to partnering with amazing entrepreneurs and technologists on this journey. If you are an entrepreneur in this Second Cycle, I want to hear about it.
 

Energy Leaders Forum responses

Mitch Tyson, Tyson Associates, New England Clean Energy Council Co-Founder:

Bilal’s piece is a great counterpoint to those who say that VC’s are pulling back and are too conservative to invest in cleatech.  The challenge to entrepreneurs is to find people like Bilal in the venture community. They are out there!


 

Bilal Zuberi is principal of General Catalyst Partners.