By Bran Keogh, Executive Director at Leaf Clean Energy
Last year demonstrated renewed investor interest in the energy and resource innovation sector. This interest was highlighted by an uptick in energy technology funding in Q4 and several successful IPOs. The improvement follows nearly five years of volatility, stemming from an unprecedented shift in the economics of energy consumption from 2008 to 2012. During this downturn, the traditional venture capital model was revealed to be ill-suited to the long development timelines, capital-intensity, and operational complexities that characterise the clean energy subsector. It was only those managers that evolved their investment models that have thrived in this challenging period.
Energy and resource innovation funds have been forced to transform themselves from passive providers of capital into hands-on, active investors. These professionals became more involved in the development and execution of the business strategies of their portfolio companies by partnering with regulatory agencies and the public sector, large strategic companies, and operational experts.
Public Sector Partnerships and Regulatory Agencies
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The energy and resource innovation sector is directly connected to public policy and regulations. From air emissions requirements to water treatment thresholds, regulations define the potential markets for energy and resource companies. Technological innovation within this complicated, albeit necessary, suite of regulations requires in depth knowledge and close relationships with regulators at all levels.
Many new technologies do not fall neatly within the present construct of regulation. Significant and repeated communication is needed among all parties to clarify the regulatory treatment of these innovations. This communication is particularly important since the product testing and licensing processes overlap with regulatory requirements. Both of these steps, if not properly managed, will slow down the customer sales pipeline and will act as a barrier to broader market entry.
Energy and resource innovation companies have long sales cycles, largely due to a conservative customer base and long-dated capital investment periods. Successful investors and fund managers have reduced this market entry timeline, as well as expanded the reach of their portfolio companies, by partnering with well-established strategic players. When customers view a purchase as a 20+ year investment, they are hesitant to tie the success of that purchase to a company that might only have funding for twelve to twenty four months. In this case, a strategic partner adds credibility to a new product offering and can provide balance sheet strength to back a product warranty. At the same time, the strategic partner benefits from access to the newest technology and a complementary product, creating a relationship that works for both parties.
Building the right relationship with a strategic partner adds important international and regional capabilities that accelerate expansion efforts. Partnering with a regional engineering & construction firm, as an example, adds local market experience for the critical step of energy project or manufacturing facility construction. In doing so, an emerging growth company is able to tap into the specific global market that is best-suited for its technology. Frequently, the right geographic market will have strong fundamentals, enabling the company to compete without financial incentives.
The economics of emerging growth companies in the energy, resource and innovation sector depend on achieving high utilisation rates and availability. This has proven to be non-trivial, as companies with functioning lab-scale processes struggle with the demands of scaling up to larger commercial facilities. Often these processes need to consistently run five or six days every week of the year to make the numbers work. Repeatability, availability, and scalability are critical success factors as a company grows.
However, these competencies are not always found within the management teams of the companies in question. Fund managers have recognised the benefit of operational partnerships with asset management firms and operations firms to supplement the expertise in reliability and scale-up at emerging companies. These partnerships help to lengthen run-times, increase efficiency, and mitigate scale-up issues. This approach not only reduces risk, but also reduces the cost of capital for emerging companies.
Active investors tap into their network to support management teams with independent board members who are seasoned veterans in the industry. These experts possess strong operating backgrounds and, frequently, a design-for-reliability mindset. The right independent board member can fill a hole in the skill set of the management team and create the mix of technical, operational, and commercial experience to raise the probability of success.
Turning partnerships into growth and value
Emerging energy and resource innovation companies can thrive with the support of an investment team that has experience creating partnerships in the three areas described above. These partnerships enable investors to reduce the problems of capital intensity, long sales cycles, and extended development timelines. Active investors and managers who take a hands-on approach are able to add value to the business, rather than just provide funding.
Following the lessons learned from the last five years, the energy and resource innovation sector is poised to continue its upward trajectory in 2014. Companies backed by investors and managers following a partnership-led approach will be well positioned to capitalise on improving market sentiment and sector fundamentals.