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On a foggy spring morning in 2010, at a lodge at the base of the north side of the Golden Gate Bridge, a group of investors, entrepreneurs and members of the media gathered together. Outside, the smell of eucalyptus trees and the view of the wide bay and urban San Francisco across it created a calming effect. Inside, the group — some of whom possessed a net worth that stretched into the billions of dollars — were excitedly discussing some of the most promising technology ideas around that could get the world off dirty oil and coal and onto cleaner energy sources.
The occasion was the limited partner meeting for Silicon Valley venture firm Khosla Ventures, and it was a chance for the firm to show off its most interesting companies to investors that had put money into their funds. Former British Prime Minister Tony Blair, who had just been named a Senior Advisor to Khosla Ventures, was in the room. Bill Gates, an investor in the fund, was also in attendance. A half year earlier Khosla Ventures had closed on $1 billion for two new funds (its first from outside investors beyond partner Vinod Khosla) and a year and a half later Khosla Ventures would close on another $1 billion fund.
One of the bright young startups that was highlighted at the meeting was KiOR, a company from Pasadena, Texas (next to Houston), which had developed a technology that could turn plant waste — like wood chips and grasses — into a bio version of crude oil that could be used in regular vehicles. At one point during the event, Vinod Khosla said he thought KiOR had the potential to be so transformative that the startup could disrupt no less than the leaders of major oil exporting nations like Venezuela President Hugo Chavez and Iranian President Mahmoud Ahmadinejad.
A little over a year after that meeting, KiOR went public in the summer of 2011. At the $15 per share IPO price, Khosla Ventures’ shares were worth about $830 million. A couple months later when KiOR’s shares rose to $23.85 per share, Khosla’s portion was worth $1.32 billion. That summer, shortly before the IPO, former Secretary of State Condoleezza Rice joined KiOR’s board. The company seemed to have made it.
The problem was that KiOR hadn’t yet crossed the so-called Valley of Death — that expensive, time-consuming, gap between production on a a very small scale and large-scale commercial production. It’s that phase that tends to eat cleantech companies alive, particularly biofuel startups. As I said in this article two years ago, KiOR might have been promising but it also was a prime example of the difficulties of early-stage cleantech innovation and investing.
Today, KiOR still hasn’t crossed that chasm and now seems to have succumbed to it. This month the company started trading under $1 per share. It is the subject of two lawsuits from investors, the progress of its Mississippi plant is being investigated by the SEC, and KiOR recently disclosed that it could default on its debts (including to the state of Mississippi) and file for bankruptcy if it doesn’t find more funding soon. KiOR has also idled the plant that it spent hundreds of millions of dollars building.
If its stock stays under $1 per share for a month it could be delisted. Insiders (like the CEO, the interim CFO, the VP of commercialization and major hedge fund backer Artis Captial) have been selling off shares as of late. Condoleezza Rice — who never played a role in the company — resigned in December of last year. Other key executives have left, too, like the previous CFO, who left abruptly in December of last year.
The company is clearly unraveling. What happened?
What was Kior’s bet?
KiOR’s biggest promise was a dream: what its technology could accomplish and how much it could change the world if it could scale. The company emerged in late 2007 as a joint venture between a Netherlands-based biofuel startup called BIOeCON and Khosla Ventures. The team’s idea was to use a thermochemical technique that’s been used by the oil industry for decades, called “biomass catalytic cracking,” to break open plant wastes and turn that into a bio version of crude oil.
The secret sauce to the technology is the catalyst, which is a fine white powder. KiOR’s CEO Fred Cannon once described the powder as something that could reduce the millions of years that it takes for nature to turn biomass into fossil fuels into mere seconds. Using the catalyst KiOR could convert biomass directly into oils at lower temperatures and with simpler equipment than required for gasification (another biofuel technique), making it less expensive than competitors.
When KiOR emerged in 2007 it was one of a dozen startups that were trying to crack open the market for cellulosic ethanol. While making ethanol out of corn in the U.S. — and from sugarcane in South America — had taken hold, turning more difficult non-food plant parts into ethanol was turning out to be a lot harder. But companies were using new technologies, like synthetic biology, to try new techniques.
Many companies emerged in the mid-2000s to try to tackle this problem, and a good portion of them received funding from Khosla Ventures. At a lecture in 2007 Khosla told an audience his “real love” was cellulosic biofuels.
2007 was also a year where a bubble was starting to grow around cleantech investing in Silicon Valley. As former Venrock investor Matthew Nordan described it in this post for Gigaom, cleantech startup financing rose by 50 percent annually for three years between 2006 and 2008, and exceeded $4.5 billion in 2008. That was about the peak of the bubble before investors started to pull back, particularly for new, early stage cleantech companies, in the following years.
What happened with KiOR?
While KiOR has long been one of the more promising cellulosic ethanol startups, its real world problems started last summer. At the end of 2012 it actually hit a major milestone and started producing its biocrude at its facility in Columbus, Mississippi. Cannon said in an earnings call that year that the upcoming planned shipments would be “the world’s first cellulosic gasoline and diesel fuel products.”
But by the summer of 2013 it was clear that KiOR wasn’t reaching the volumes at the factory that it wanted; not anywhere close. It disclosed in an earnings statement that summer that it had produced 75 percent less biocrude than it had forecasted. Turns out, it hadn’t achieved a steady state of production and it was having some significant problems with quality, with efficiency, and with bottlenecks in the plant. Critic Robert Rapier noted in an article on Monday that biofuel yields from the type of process that KiOR is using “tend to be low because a lot of the pyrolysis oil is converted to water, carbon dioxide, and light gases during the upgrading process.”
KiOR’s very small amount of revenue was coming from this first plant, and Wall Street reacted harshly to the disclosure. Its stock dropped considerably. Shortly after the news an investor lobbed a class-action lawsuit at the company, claiming Kior execs misled investors in terms of how far along the company was towards reaching steady-stage scaled-up commercial production. A second lawsuit was filed by another investor at the end of 2013 charging a breach of fiduciary duties and alleging misleading statements about the progress at the factory.
To understand why volume targets are so important, you have to know a little something about fuel production. For biofuels, everything depends on scale, price and efficiency. It’s relatively easy to make small one-off batches of the stuff — a lot of startups and large companies have done this. But scaling the biofuel production up to the types of volumes that the oil industry operates on, at the cheap prices that fossil fuels are sold at, is another story entirely.
No company has done this with next-generation biofuels to date. It’s particularly hard with plant waste at scale, which involves establishing a large source for the feedstock (like wood chips, energy crops, or bio waste) and transporting that feedstock to the factory and then establishing a process to use the tech to crunch these various plants down into the biocrude.
A few months after missing its initial volume targets, in January of 2014 KiOR decided to idle production entirely at that factory. According to its annual report, the company cited “structural bottlenecks, reliability and mechanical issues, and catalyst performance.” That KiOR said its catalyst — the secret sauce — isn’t performing as expected is particularly worrisome.
KiOR said it plans to restart the facility after it’s optimized the factory, after it’s hit research and development milestones around improving the process and the catalyst design, and after it’s raised more financing. One thing is clear: it needs more outside funding soon — within weeks — if it’s going to continue operating at all.
KiOR says it had about $9 million in cash and cash equivalents as of February 28, 2014, and it needs to raise an additional $25 million to $30 million in either debt or equity to fund the ongoing operations for the next twelve months. If it doesn’t raise any more outside funding it will have to default on its debts and file for bankruptcy.
Khosla extends a lifeline, but for how long?
Khosla Ventures has funded the company from the beginning and they’ve continued to the fund the company even in its struggling days. The fund owns much of the company, and has controlling voting power — clearly they have considerable interests in keeping the company alive.
On March 16, KiOR said it received a letter of commitment from Khosla Ventures for $25 million in cash. That cash is supposed to be dolled out in amounts of $5 million per month, but only if Kior can hit certain performance milestones. If the terms of this funding commitment aren’t finalized by April 1, KiOR says it could default on its debts to organizations like the Mississippi Development Authority, and it could be forced to declare bankruptcy. KiOR needs to raise $25 million to $30 million beyond this commitment from Khosla.
KiOR was also offered debt terms from Khosla and Bill Gates for a second tranche of financing recently, but that’s based on KiOR’s ability to raise hundreds of millions of dollars in project financing from other sources, and KiOR said in its annual filing that it doesn’t expect to be able to hit that financing goal. Eventually to scale up and build future factories it would need to raise a large amount of project financing.
KiOR’s tale is a familiar one that’s happened to dozens of companies in the cleantech sector. KiOR says in a moment of truth in its annual report:
The costs and time involved in operating our Columbus facility have been much higher than we initially anticipated.
While KiOR has had moments in its life where it was successful by some metrics, if the company isn’t able to scale its biofuel to commercial scale, it’s all for nought.
Khosla Venture’s shares — once worth over a billion dollars — are worth a fraction of that when the stock is under $1 per share. Who knows if Mississippi will get its loan back. Alberta Investment Management, which invests on behalf of the Alberta government, had significant money in Kior, too.
If KiOR defaults on its loans and files for bankruptcy it will join the ranks of some of the first wave of cleantech investments — like Solyndra and Fisker — that raised money to build a product that, for whatever reason, wasn’t quite right. After raising hundreds of millions of dollars these companies realized the expensive mismatch but by then it was too late.
As some Valley-backed energy companies like SolarCity, Tesla and Opower have started to get traction, let Kior’s story remain yet another cautionary tale for entrepreneurs and investors trying to innovate in a difficult market.