Summary:
Interview with Matthew Nordan about why the current VC model is broken, especially in the case of materials, energy and environment sector investing. The linear path from angel to VC to IPO no longer works due to greater costs, longer gestation times, greater technological uncertainty and ill-defined problems. This is a time of great experimentation and visible discomfort. New type of VC machine needed. Smartest venture firms cultivate relationships with the buyers of technologies. Nordan also has four rules for venture companies: Make non-obvious matches of technologies and solutions; be suspicious of exponential growth; maximize options to avoid surprises from left field; and avoid focusing on an ideal technology to such an extent that you fail to see a "good enough" technology in its wake. (Published: 22/07/08)
Notes:
- Matthew Nordan, Lux Research, President
- ideas on how to make startup financing work again
- old machine
- linear path
- angel funding -> VC financing -> (some cases growth equity/PE) -> public markets
- works really well for IT
- don't need tremendous amount of money; pretty capital efficient investments
- also for life sciences
- because there's a rule book that you can follow by using the FDA and EMEA approval cycles as a way of determining how far the company is
- none of those rules exist in the materials, energy and environment world
- and you need more money over longer periods of time (gestation times in excess of a decade)
- frequently break 10 year close-ended fund cycles that VCs as a rule have
- with greater levels of technology risks further down the cycle, down into the land where you have 10s of millions of dollars of investment being made by PE and growth equity funds
- machine doesn't work; need a new machine
- new machine
- some innovations promising; but you don't know what works till folks have seen a 25% IRR on doing it in a new way
- interesting: fund that raises small amounts of money to be able to go out and seed companies to get them to a stage that they are ready for a venture fund
- cut of that first part of the technology development cycle and get it to fit into a 10-year close-ended structure
- interesting: project financiers beginning to construct joint venture vehicles where there may be a carve-out slice of equity for the venture financiers that may get them some returns (some meat to take home to the cave for the LPs) before the company is able to achieve the liquidity of it
- particularly for water and waste technologies
- venture funds have responded by specializing
- Rockport and Kleiner Perkins Caufield & Byers
- invest in early-stage technology
- Riverstone and FourWinds
- invest in deployment of semi-mature technologies
- only a few funds like Vantage Point try to span the gamut of development and deployment
- new model of "clear-cutting" VCs
- exemplified by Khosla Ventures
- represent funders of last resort
- ultimately this a time of great experimentation and visible discomfort
- will be 5 to 10 years before we know which of any of those ingredients are going to work out
- bringing in the growth equity partner between VC and IPO
- growth equity is coming back
- VCs are not prepared to extend funding into the hundreds of millions of dollars
- smartest venture firms cultivate relationships with the buyers of technologies
- smart venture firms talk to the customers of potential startups to say what problems do you need solved five years down the line?
- ranging from OEMs in the semiconductor field to utility companies in the energy field
- then build a startup based on the wish-lists of those customers
- business plans get ripped apart five times over before the company ultimately decides what it is that it's supposed to be doing
- difference from an energy environment perspective is that the problems are generally less well defined; lack of definition
- as opposed to software: explicit problem that they're trying to solve upfront
- e.g. Green Fuel Technologies Corp., algae company
- intended to use algae to process wastes from natural gas plants and ferment biomass fuels
- turns out that you can get a lot more revenue from the same unit of algae, not by fermenting it to make biofuels, but by selling it as fish feed, or as an additive
- the desiccated algae itself are more valuable than the biofuels that you can make from them
- at least in the current state; may change over time
- four rules for venture companies
- make non-obvious matches of technologies and solutions;
- be suspicious of exponential growth;
- maximize options to avoid surprises from left field and to be aware of unexpected breakthroughs;
- e.g. emerging "solar antenna" that can tune in to 800-900 nm waves, thus obsoleting several small-scale solar technologies
- also involves carefully quantifying all externalities
- e.g. the water-use requirements for ethanol and biodiesel make so-called clean energies look dirty when total inputs are taken into account.
- avoid focusing on an ideal technology to such an extent that you fail to see a "good enough" technology in its wake
