By Daniel K. Yost and Richard D. Harroch
Clean tech companies seek to leverage the power of technology in order to profitably solve the world’s energy problems. These companies can span a variety of sectors: solar, wind, ethanol, biomass, geothermal, water purification, electric vehicles, energy storage, software, materials, data, and more.
Clean tech companies should be cognizant of issues they will face when seeking capital and growing their business, as a number of high-profile failures in the past have made it more challenging for new clean tech companies to raise funding. Our goal in this article is to provide an overview of some ways clean tech companies can maximize their chance of fundraising success.
We have structured the article into three main categories:
I: Issues Important to Investors of Clean Tech Companies
II: Types of Financings Available for Clean Tech Companies
III: Regulatory Issues for Clean Tech Companies
Issues Important to Investors of Clean Tech Companies
1. How Capital Efficient Will Your Company Be?
Investors have been burned in the past by those clean tech companies that had large capital needs and experienced substantial monthly burn rates. To succeed today, clean tech startups typically need to show that they can be capital efficient and not require huge ongoing infusions of cash to become successful. In some cases this means starting with an initial product or service whose profits can sustainably fund other initiatives that are key to the corporate mission.
Investors will want to understand how difficult it will be to scale the company. If traditional venture capital funding is limited (or not available or desired), clean tech companies should consider alternative forms of capital, including profitable early products or services, project financing, strategic partnerships, Kickstarter-style or early reservation-based capital raising, government loans or grants, and, where applicable, tapping bond markets. A number of these options are discussed in more detail below.
2. Investors Will Be Keenly Interested in Your Profit Margins
Investors will be concerned about investing in companies that have low profit margins or are in a commodity business subject to significant competitive pricing challenges. Prospective investors will be particularly focused on whether your startup will have significant profit margins.
3. Show You Can Manage the Anticipated Cash Flow
Investors will closely review your financial projections, seeking to assess the reasonableness of the numbers and the underlying assumptions. Cash flow/monthly cash burn will be a key metric reviewed.
Fortunately, there are non-dilutive sources of funding available to creative clean tech companies seeking to manage their cash flow. Pre-orders (taking payment for goods that are promised but not yet ready for delivery) are generally legal so long as you do not engage in false advertising, and you allow for a “no questions asked” refund policy. Additional non-dilutive funding can come from enthusiastic consumers who are willing to provide money in advance through Kickstarter or other fundraising sites in exchange for receiving an early version of the product.
Finally, one of the benefits of solving of the world’s energy problems is that you may be eligible for money from groups like Cleantech Open or the XPRIZE Foundation, or be the recipient of free access to experts and lab space through groups like Cyclotron Road or Greentown Labs.
4. Prove You Have an Experienced Management Team
The mantra of most venture capital investors is that the quality and experience of the management team is the most important characteristic in determining whether or not to invest in a company. This is particularly true in the clean tech industry, where regulatory, capital, and product issues can be particularly complicated. Be sure that you have a team that is experienced, dedicated, and passionate about the goals of the company. Be prepared to highlight particular expertise in the team that is relevant to the startup’s business model.
5. Show Evidence of Early Traction in the Market
A company that has obtained early traction in some way will be viewed positively by investors, and this will often result in better financing terms for the company. Examples of early traction can include the following:
- The creation of a beta or minimally viable product
- Pilot customers, especially high-profile customers
- Strategic partnerships
- Positive press coverage and other accolades
- Customer testimonials
- Admission into competitive programs such as Y-Combinator, Cleantech Open, Cyclectron Road, or other technology accelerators or incubators
6. Make Sure You Understand the Competitive Landscape
The company’s competitors will always be an issue to investors. You will need to be prepared to answer the following questions:
- Who are your company’s chief competitors?
- What gives your company a competitive advantage?
- What are the key differentiating features of your offering?
You must show a thorough understanding of the current competitive landscape and be prepared to answer questions about your competitors. If you don’t fully understand your competitors, the investor may conclude that you really don’t understand the market. The company’s competitors will often be large, well-capitalized companies, so expect the inevitable question about how you can reasonably compete with such companies.
7. Is Your Intellectual Property Differentiated and Protectable?
Investors will be particularly interested in your underlying technology (both existing and that in development), including:
- The basic technology backbone
- Key intellectual property rights the company has (including patents, patents pending, copyrights, trademarks, trade secrets, domain names, and rights in data including how you intend to use customer data in a world where customers will be increasingly sensitive to such use).
- Why the technology is or will be superior to competitive offerings
- Why it will be difficult for a competitor to replicate the technology
- Is your company dependent on third-party IP or technology that could be difficult to obtain (or comes with significant strings attached)?
8. Show That the Market Opportunity Is Substantial
Investors want to invest in big opportunities with large addressable markets. Make sure you are able to
- Define the initial market you are in.
- Set forth the dollar value of the market size.
- Show that your company will be positioned to capture a large part of the total addressable market.
- Consider other markets that your company’s technology can address beyond your initial market.
- Consider markets your technology can “unlock” for strategic partners in other industries.
9. Address the Length of Your Sales Cycle
Investors will be particularly interested in the length of your sales cycle and are often leery of companies that have a very long sales cycle for customer adoption. You need to show why your product will stand out in the marketplace and will be a “must have” with customers. While utility customers have a notoriously slow sales cycle, consumer- or business-facing companies may have a leg up. Since the sales cycle can often be equally time consuming for sales to small and medium-sized enterprises (which tend to make smaller purchases) as it is with large enterprises (which tend to make larger purchases), companies able to land large enterprise contracts could be at an advantage.
10. Try to Characterize the Business as Something Other Than “Clean Tech”
Some investors, having lost money in the clean tech space, may be leery of making purely “clean tech” investments. Fortunately, many clean tech companies can legitimately claim one or more additional labels that may be appealing to a broader range of investors. These labels could be:
- AI company
- Big data company (initially or down the road)
- Consumer product company
- Energy technology company
- Energy innovation company
- IoT company
- Materials company
- Mobility solutions or delivery company
- Robotics company
- SaaS company
- Software company
- Supply chain management company
Types of Financings Available for Clean Tech Companies
11. Angel Financing for Clean Tech Startups
Angel investors invest in early stage or startup companies in exchange for an equity ownership interest. Angel investing in startups has been accelerating, and high-profile success stories have spurred angel investors to make multiple bets with the hopes of getting outsized returns. Here are some key things to understand about angel investing:
- The typical angel investment is $25,000 to $200,000, but can go much higher.
- Angel investors particularly care about the quality of the management team and how big the market opportunity is.
- Angel investors want to understand the big problem you are attempting to solve.
- Angel investors run the gamut from friends and family to professional angel investors.
- You can find angel investors through attorneys, other entrepreneurs, angel investor networks (such as AngelList), venture capitalists, investment bankers, and crowdfunding sites like Kickstarter and Indiegogo.
- Angel investors like to see a clearly articulated elevator pitch for the business, an executive summary or PowerPoint pitch deck, a prototype or mockup of the product or service, evidence of early traction, and support as to why there will be a large demand for the product or service.
- Don’t bother asking angel investors to sign a non-disclosure agreement; most won’t do it and it will only slow down the process.
- Entrepreneurs need to be prepared to show financial projections and the reasonableness of underlying assumptions.
There are a number of good articles on the subject of angel investing, including:
- Angel Investing: 20 Things Entrepreneurs Should Know
- 50 Questions Angel Investors Will Ask Entrepreneurs
- The 10 Commandments for Obtaining Angel Funding for Your Startup
12. Venture Capital Financings for Clean Tech Startups
After a round of angel financing, clean tech startups often seek venture capital financing. Venture capital firms provide capital; strategic assistance; introductions to potential customers, partners, and employees; and much more. In exchange, venture investors will typically obtain a preferred equity position in the company, seats on the Board of Directors, veto rights, anti-dilution rights, and a say in how the business is to be run.
Here are some key things to know about venture capital financing:
- Venture capitalists typically focus their investment efforts on specific industry sectors, on stages of a company’s life (early stage seed or Series A rounds, or later stage companies that have achieved meaningful revenues), and geography (e.g., San Francisco, Silicon Valley, or New York). Entrepreneurs need to be mindful of a firm’s focus before approaching the firm.
- Valuation of the company will likely be one of the main issues, and it is negotiable; there is not one “correct” valuation methodology or formula to rely upon.
- If a venture capitalist is interested, it will submit a non-binding “term sheet,” which will set out the key terms of its proposed investment. Experienced corporate counsel should be engaged to help navigate and negotiate on the issues.
- The amount of control and Board seats will be important for both the entrepreneurs and the venture capitalists.
- The venture investors will insist on anti-dilution protection and the right to participate in future rounds of financing.
- Entrepreneurs should anticipate that the venture investors will perform extensive due diligence before consummating the investment (a venture financing process could take 30-90 days to close).
- Venture investors will want to make sure the founders have incentives to stay and grow the company. If the founders’ stock is not already subject to a vesting schedule, the venture investors will likely request that the founders’ shares become subject to vesting based on continued employment (and then become “earned”).
- After a financing is completed, venture investors will often hold a minority interest in the company. But they will typically insist on “protective provisions” (veto rights) on certain actions by the company that could adversely affect their investment or their projected return.
There a number of comprehensive articles on the venture capital financing process, including:
- A Guide to Venture Capital Financings for Startups
- 65 Questions Venture Capitalists Will Ask Startups
- 28 Mistakes Entrepreneurs Make When Pitching to Investors
13. Government Loans and Grants for Clean Tech Companies
The federal Energy Department supports a number of grant, loan, and financing programs for startup energy businesses or for companies with proven technology that need help reaching commercial scale. These programs include:
- Office of Science Funding Opportunities
- Fossil Energy Funding
- Loan Programs Office
- Funding Opportunities from the Office of Energy Efficiency and Renewable Energy
- Funding Opportunities from the Advanced Research Projects Agency-Energy
- Nuclear Energy Funding from the Office of Nuclear Energy
- Small Business Innovation Research and Small Business Technology Transfer programs
Additional resources for grants and funding include the Small Business Administration (SBA), the grant program run by the U.S. Department of Agriculture, state programs (such as funding opportunities from the California Energy Commission and the Clean Energy Fund at the Washington State Department of Commerce), and even bank funding (such as through the Clean Technology Group at Wells Fargo).
14. Project and Bond Financings for Clean Tech Companies
Companies with a healthy balance sheet, commercially proven technology, and experience in developing renewable energy or other infrastructure projects may be able to take advantage of project financing at the project (not corporate) level. Project financings are a form of limited, non-recourse financing for large projects in which the project lenders’ sole recourse is to the cash flows generated by the project itself. It usually requires that a suite of project contracts, including a firm off-take agreement with a high credit counterparty, is in place. Over the past decade, project financings have been used extensively in solar projects, and are now being used to finance large battery energy storage projects.
State and local bond financing is increasingly a powerful tool for clean energy investment. Bond financings for infrastructure (roads, bridges, hospitals, etc.) have numbered in the trillions of dollars over the past 20 years. And now, bond financing has been increasingly used for some clean tech projects as well, even for projects owned or operated by private companies. This is particularly true for projects that dispose of or recycle solid waste (including household garbage, food waste, wood waste, and plastics) or convert solid waste to energy.
Projects that have qualified for tax-exempt bond financing include facilities that have processed solid waste to produce pipeline quality gas and biofuels, including for aviation. Some states have very specific bond financing statutes that delineate a relatively narrow list of applicable projects and financeable attributes, such as California’s Community Facilities Act and Enhanced Infrastructure Financing Districts legislation.
15. A Great Investor Pitch Deck Is Essential for Presentation to Investors
Startups frequently prepare a “pitch deck” to present their company to prospective investors. The pitch deck typically consists of 15-20 slides in a PowerPoint presentation and is intended to showcase the company’s products, technology, and team to the investors.
Raising capital from investors is difficult and time consuming. Therefore, it’s crucial that a clean tech startup absolutely nails its investor pitch deck and articulates a compelling and interesting story.
Too many startups make a number of avoidable mistakes when creating their investor pitch decks.
For an invaluable list of do’s and don’ts to follow when preparing your pitch deck, as well as a sample pitch deck you can customize, see How to Create a Great Investor Pitch Deck for Startups Seeking Financing.
Regulatory Issues for Clean Tech Companies
16. What Regulatory or Political Hurdles Will Need to Be Overcome?
Investors will be interested in understanding what regulatory issues and hurdles the company will face. Many tech companies are not subject to significant regulation, but any operations involving the use of physical materials or products (including electricity) may be subject to regulatory and permitting requirements. Those requirements may limit and increase the cost of operations conducted by the startup, or they may affect the market for the product. Are those hurdles manageable and solvable in a reasonable period of time? Will any permits or approvals be obtainable quickly and at a reasonable price, or are there significant permitting delay and cost risks? Permits and regulations can substantially increase the cost of operations.
Another example of a regulatory issue that may impact certain startups is electricity rate design. For example, rate design can greatly affect the business model for certain electric vehicle charging infrastructure, and it is also central to making energy storage competitive with other energy infrastructure.
Regulatory and permitting issues can arise at the local, state, and federal levels depending on the technology, and can take years to resolve if not addressed proactively. Investors will be interested in seeing that regulatory counsel or experts have both already identified the potential issues as well as begun to address the ones that could have the longest lead times.
The contemporary political environment will also be relevant here. Will the company have sensitive technology or data issues? Will the government’s energy policy be favorable or detrimental to the company? These factors may make permits and regulation more difficult or less difficult, depending on the policy orientation of a particular administration.
Regulatory environments also vary from state to state, so the locations of both operations as well as markets for products may be critical to enterprise planning. If a company will produce significant jobs and tax revenues for any applicable governmental jurisdictions, that is a useful story to tell.
17. Be Engaged in Policy Making to Shape or Capitalize on Government Rulemaking
The energy industry is highly regulated at the state and federal level. Depending on where your company fits in the “energy ecosystem,” you may be highly impacted by the actions of legislators or policymakers. For example, energy startups may be materially impacted as jurisdictions adopt carbon taxes (directly or through “cap and trade” or other mechanisms) or renewable portfolio standards, time of use pricing, or favorable tax treatment for certain technologies. Technologies used by public utilities are subject to rate regulation and review by state authorities such as the California Energy Commission and California Public Utilities Commission.
Clean technology companies may be able to benefit from programs designed to encourage clean technology innovation, such as ARPA-E at the federal level and similar state programs. A company can stay abreast of developments (and learn when and how to effectively reach out to legislators or participate in rule-making processes) by being a member of industry groups. These could be industry specific groups (e.g., American Wind Energy Association and Solar Electric Industries Association) or broader policy-oriented groups such as Environmental Entrepreneurs or the Sierra Club. You can be sure that your competition (and incumbent players) have a legislative or policy strategy—you should, too!
Clean tech companies still have the opportunity to change the world. While difficult, financing for such companies is available through multiple avenues. While clean tech companies that don’t adapt their business models to changing circumstances are likely to fail, those that are nimble and willing to adapt have the potential to flourish.
- A Guide to Venture Capital Financings for Startups
- 10 Intellectual Property Strategies for Technology Startups
- How to Create a Great Investor Pitch Deck for Startups Seeking Financing
- 28 Mistakes Entrepreneurs Make When Pitching to Investors
Thanks to Bob Lawrence, Rohit Sachdev, and John Wang of Orrick, Herrington & Sutcliffe, and to Steve Westly,Ted Lamm, and Ethan Elkind for their helpful feedback on this article.
Copyright © by Richard D. Harroch. All Rights Reserved.
About the Authors
Daniel K. Yost is co-chair of the Technology Transactions practice at Orrick, Herrington and Sutcliffe in Silicon Valley and a prior co-chair of Orrick’s Technology Companies Group. He is recognized for negotiating complex commercial and technology transactions and intellectual property counseling. Daniel has counseled clients on commercial law, copyright, licensing, marketing, patent, privacy, strategic alliances, trademark and trade secrets matters. Daniel has represented companies in various industries, including biotechnology, consumer electronics, energy, entertainment, hardware, Internet, media, semiconductor, services, software, telecommunications, and wireless. His energy clients include clients in the solar, ethanol, biomass, geothermal, and water purification sectors. He can be reached at email@example.com.
Richard D. Harroch is a Managing Director and Global Head of M&A at VantagePoint Capital Partners, a large venture capital fund in the San Francisco area. His focus is on Internet, digital media, and software companies, and he was the founder of several Internet companies. His articles have appeared online in Forbes, Fortune, MSN, Yahoo, FoxBusiness, and AllBusiness.com. Richard is the author of several books on startups and entrepreneurship as well as the co-author of Poker for Dummies and a Wall Street Journal-bestselling book on small business. He is the co-author of the recently published 1,500-page book by Bloomberg: Mergers and Acquisitions of Privately Held Companies: Analysis, Forms and Agreements. He was also a corporate and M&A partner at the law firm of Orrick, Herrington & Sutcliffe, with experience in startups, mergers and acquisitions, and venture capital. He has been involved in over 200 M&A transactions and 250 startup financings. He can be reached through LinkedIn.