SF Clean Tech Fund Is An Outlier: It Makes Money

By Thomas Lee
San Francisco Chronicle

WWR Article Summary (tl;dr) Energy projects like solar, wind, and biofuels have traditionally required huge amounts of capital, which makes the prospect of a return, at least in the short term, a dim possibility. However the “Ecosystm Integrity Fund” is bucking the trend.

San Francisco Chronicle

The Ecosystem Integrity Fund, a relatively new venture capital firm that focuses on environmental sustainability, is enjoying a solid debut, having sold two of its startups to corporations over the past three years.

But given the disastrous performance of such clean tech, or green, funds over the years, I wonder if the San Francisco firm can sustain its own success.

Begun in 2011, the $20 million fund has already paid out more than $40 million in cash to its investors, thanks to two big exits: SolarCity’s $158 million acquisition of Zep Solar, which makes mounts for solar panels, in 2013 and last week’s announcement that drink and snacks giant PepsiCo will purchase KeVita, a probiotic drink startup; Fortune reported that the purchase price was around $200 million.

“Large corporations frequently invest in companies that are at the forefront of trend opportunities,” said Devin Whatley, founder of the Ecosystem Integrity Fund. “PepsiCo is not very good” at building brands from scratch in new categories.

Doubling investors’ money in just five years is impressive enough. But doing so in a space that has sucked the life — and cash — out of many a clean tech fund makes Ecosystem Integrity Fund a real outlier.

“They are off to a great start,” said Marc Weiser, managing director of RPM Ventures in Ann Arbor, Mich. “Under any measure, that’s a really good fund.”

They key is whether the Ecoystem Integrity Fund can maintain its winning streak, Weiser said. The company has already raised $60 million for a second fund and is working on a third.

Weiser, whose fund covers a range of areas including cloud infrastructure to connected cars, doesn’t invest in clean tech firms, and for good reason: They don’t make any money. One reason, he said, is that the economics just don’t work. Energy projects like solar, wind, and biofuels have traditionally required huge amounts of capital, which makes the prospect of a return, at least in the short term, a dim possibility. Green technologies also fail to win over sufficient numbers of customers to bring costs down.

After three years of increases, investment dollars in clean tech firms will decline 11 percent this year to $3.5 billion, according to projections by research firm CB Insights.

From 2006 to 2011, investors plowed $25 billion into clean tech companies and lost more than half of that, according to a report this year by the MIT Energy Initiative research group. From the perspective of early investors, the clean tech sector had the lowest proportion of companies to at least break even compared with other sectors such as software and health care.

More than 90 percent of clean tech companies funded after 2007 failed to return the initial capital invested, the MIT Energy Initiative said.

“Unfortunately, clean tech startups — indistinguishable from companies in the other two sectors in terms of fundraising — clearly stood out as the poorest performers in retrospect,” the group said.

Of course, the financial crisis of 2008, which produced the worst economic downturn in the United States since the Great Depression, played a large role in the failures. And most venture capital funds aim to profit from just a few big winners among many money-losing investments. But the MIT Energy Initiative said venture capital just offered a poor way to finance clean technologies.

“One lesson that entrepreneurs may take away from this story is that clean tech companies need to adapt to fit the constraints of venture capitalists,” the report said. “That lesson is wrong and could be a disastrous impediment to the development of much needed clean technologies.”

“The correct lesson is that clean tech clearly does not fit the risk, return, or time profiles of traditional venture capital investors,” the group said.

So what makes the Ecoystem Integrity Fund different? At $20 million, the fund is not large, so the firm is not betting giant pools of money on risky technology.

“We find small niches in the market that don’t need lots of capital,” Whatley said.

The company wants to cast a big net when looking for startups that make practical technology to help businesses use resources more efficiently or mitigate environmental damage.

For example, Zep Solar made systems with 85 percent fewer parts than competitors, which can be installed 4.5 times faster, according to the company. KeVita is a less direct example of sustainability: The organic drink contains probiotics, or healthy bacteria, that allow people to more efficiently digest food. Eating less theoretically means less pressure on farmland.

I’m not sure PepsiCo really cares about the latter. But the company is looking for growth opportunities beyond the stagnant soda market.

In other words, KeVita is a pretty good example of the fund’s investment philosophy, with a product that can scale quickly, promotes sustainability and attracts buyers.

“Consumer products offer fertile grounds for an exit,” Whatley said.

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