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Financing the next generation of great cleantech ideas

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Cleantech faced some serious difficulties in 2011: the collapse of the solar market; a stagnant, at times frozen, IPO market; the political hangover from Solyndra’s bankruptcy; impending subsidy rollbacks across Europe and the U.S. propelled by debt crises; disappointing EV sales; a glut of biofuel IPOs that resulted in poor post-IPO stock performance. Jump in if I have left anything out (I’m sure I have).

And, yet, despite all the challenges — which are to be expected in an industry scraping to free itself from subsidy dependence and move toward independent profitability — cleantech survived. Or as Sheeraz Haji, the CEO of industry tracking research firm The Cleantech Group, informally titled his fourth-quarter-2011 presentation, “Cleantech Did Not Implode.”

The almost $9 billion in venture capital that cleantech pulled in during 2011 was 13 percent more than during 2010. And the news isn’t so much that venture capitalists don’t continue to see opportunity in cleantech, it’s that they continue to pour money into the opportunities they have already seen.

The number of deals done in 2011 declined by 7 percent versus 2010, to 713 total deals; 85 percent of money went to series B funding rounds or later. The year 2011 saw the most number of IPOs shelved on record as capital markets dried up, partially fed by the sovereign debt problems in Europe and the U.S., which in turn made it much more difficult for cleantech companies to go public (still waiting for those BrightSource and Silver Spring Networks IPOs, are we?).

VCs were faced with a choice of either providing additional capital to companies in later stages or leaving those companies to scrounge for loans or issue high-yield debt, moves that could make an eventual IPO even more difficult. The hope, of course, was that bridge financing could get these companies over the hump, closer to the IPO exit.

When I checked in with Ernst & Young’s cleantech director, Jay Spencer, back in October he noted, “We’re in the early stages and what we’re seeing now is technologies that have been in development hitting the marketplace, whether they’re renewables or smartgrid. It’s this natural evolution.”

There is certainly a view among cleantech analysts and venture investors that the key early-stage investments made between 2002 and 2008 are now maturing as products hit market. And whatever financing is needed right now to get those companies across the finish line makes sense so that VCs can finally see a return.

What is less clear is how startups with innovative ideas today will find early-stage financing. Programs like the Department of Energy’s Advanced Research Projects Agency Energy (ARPA-E), which funds early-stage ideas, can pick up some of the slack. But with a relatively modest budget of about $275 million, half of what Obama asked Congress for, it is probably not the best long-term solution. In fact, many are just thankful that the program has survived.

What is surprising is that more venture investors are not viewing the current dearth of seed-stage capital for cleantech as an opportunity to jump in and corner the best new ideas. One of the biggest raises in 2011 was a $1.25 billion fund from Silver Lake Kraftwerk, but the fund will largely focus on growth-scale financing and foreign markets. Khosla Ventures took in a billion-dollar fourth fund, though it is unclear how much of that money will go to seed-stage financing.

In November, Venrock Capital’s Matthew Nordan did a good historical analysis of how well cleantech investing has fared versus other venture capital sectors. The most important takeaways were that relative to its level of funding, cleantech has actually delivered more exits compared to other venture capital sectors, and, equally important, the average time to exit for cleantech is 8.3 years, actually less than the 9.4-year average for venture capital overall.

It is still early in cleantech, with a lot of growth to go as the world economy transitions toward renewable energy. And while there is something to be said for helping companies scale and grow, it almost certainly means that an entire ecosystem will develop in which it will be easier, not harder, for new cleantech ideas to find a place.

Having more electric vehicles on the road or greater solar capacity installed should make it easier, for example, for an innovative new battery tech startup or a next-generation solar panel idea to find an eventual market. Now there are existing customers for these products rather than companies’ having to completely create a new market for solar power or EVs. The first wave of success at Internet companies laid the groundwork for second-wave companies like Groupon and Square to come in and innovate further. That same opportunity exists in cleantech.

Question of the week

Is raising a seed-stage cleantech fund right now a good bet?