The answers to the above questions depend on where in cleantech you have invested.
For instance, the few funds that have performed well are ones doing project finance with proven technologies but relying on Government subsidies. However, the general feeling from investors is now a general apathy for cleantech investing in its current guise. So is the sector still attractive for investors?
Overall I believe going forward that the Cleantech sector is still extremely attractive for investors, once the lessons as outlined below are learned. Despite the recession Governments have continued to support the sector (albeit not in a unified manner following a failed Copenhagen Summit) through continued subsidies. Governments in fact have come full circle and no longer regard Cleantech as merely a cost but now also as a source of revenue, through carbon tax schemes like the CRC (Carbon Reduction Commitment in the UK). Costs for renewable technologies continue to come down. Commitment to avoiding landfill and rising commodity prices give growing value to recycling continues.
With world population set to rise 50% to 9.5Billion by 2050 there will continued pressure on food and water supplies making resource efficiency( a key part of Cleantech) vital.
What is cleantech?
Cleantech is not a sector in the normal sense – it is more an investment theme which crosses the whole economy. This is important both from an investor point of view and for the investment manager.
Let’s take two opportunities in the ‘Cleantech Theme’ and compare: Solar PV projects and third generation biofuels. Both come under the cleantech tag yet both offer very different risk/return profiles. One is infrastructure investing with steady, low teen returns backed by Government backed PPAs (Purchase Power Agreements). The other is an IP play with huge technological risk and an uncertain return profile (even to the professional venture capitalists (VCs)).
From an investment manager’s point of view (and having personal experience in this) it
is difficult to maintain expertise within an investment asset class as diverse as cleantech which includes wind, solar, electric vehicles, carbon markets, bio-plastics, waste to energy, smart metering and so on. As such, the bottom line is investors and managers need to be more targeted about where they want to invest within the cleantech theme and look for expert knowledge in that area.
Recent performance
We will split the returns into Public Equity, Private Equity (including infrastructure)
and Venture Capital returns. For public equity we can look to the NEX (New Energy Finance Index) which as can be seen has underperformed the general market by 10%. Albeit many of the companies in this index have less than 100% of their activities in ‘cleantech’ per se and again the range of actual sectors in this index is more than just one. It almost represents what a general fund might sensibly have as an asset allocation to developments in the energy market.
The bottom line is - it has not outperformed since the bubble days of 2007/2008.
NEX vs MSCI World AMEX Oil and NYMEX Oil
1 January 2006 - 30 September 2010
Note: Data re-based to 100 on 30 December 2005 Source: New Energy Finance
What this index misses out on are the absolutely dismal returns cleantech investors have experienced based on earlier stage companies floated on the Aim market.
A number of investments have performed very poorly over this time across a range of sectors, from fuel cells to biofuels including Econergy, Proton Power, D1 Oils and Landkom. Brokers and poor due diligence have a lot to answer for in this case.
In the private equity field returns to date have also being disappointing, both realised and unrealised. There are number of reason for this - the first being the maturity of many of the funds. Most of the cleantech funds we invested in at CBG were of a 2006/2007 vintage. They are only now entering a period where exits should start coming through. Unfortunately in many cases they were investing through the period of a cleantech bull equity market (which is used to price the private deals) and in certain areas (such as solar), a bubble.
Within our fund of funds, which consists of 13 cleantech vehicles, there has been five actual company exits, two of these in our self-managed fund Masdar. There have been a number of write offs (which is also to be expected in the VC space) and many write downs in valuations as public comps tumbled.
The second reason for the poor performance on exits and many valuation write downs has been the underestimation of the capital intensity of the VC space. Unlike typical VC areas such as tech, where you can invest a nominal amount of capital, develop software and then sell across many clients without geographical boundaries or hardware requirements – cleantech does not work like that. A typical VC investment may entail testing a new waste to energy technology via an extremely high risk, expensive, pilot plant. Provided this works you then have to raise serious capital (often outside of VC investment range) to build commercial projects and thus dilute your original equity to a huge degree before exit. Ten times returns do
not exist in this environment – a two times, 15-20% IRR would be very acceptable.
The third reason for the struggling cleantech area has being the commodity nature of most of the investments in this space. Take solar – you have technologies such as Mono-Crystalline, Poly, Cad-Tel (First Solar), A-Si and now CIGS. However, no matter how many different ways you come up with producing solar cells, they only ever produce boring electricity.
These are not new applications and premium pricing for electricity does not exist (outside of Feed In Tariffs which is a level playing field for all renewables in any case). There are possibilities for premium pricing in areas for aesthetics and flexibility but it is a niche play.
Future opportunity
So enough of the negativity - the question remains, can investment managers
provide investors the opportunity to make returns, which match the risk/return
profile in this growing sector? Yes.
After going through the above you may wonder if there is a way forward.
Thankfully whenever a sector underperforms for a period there are always opportunities for the savvy value investor both private and public.
The cleantech sector is still attractive, although I now put more of an emphasis on resource efficiency as opposed to energy (which is reliant on Government subsidies which are uncertain). I would look to technologies and companies that play on the long term commodities bull market we are in: the water sector and recycling into higher value products (often not waste to energy but instead waste to product, such as recycling plastic back into product as opposed to incinerating).
For investors, the way forward in cleantech is:
1\. Specialist knowledge in each specific vertical – specialist funds in project finance, water, smart grid etc. that know what the risk/return profile should be like and how to execute.
2\. Specialist structuring – The example of dilution mentioned above in the waste to energy technology is real yet we have worked on specialist structure to avoid dilution as you raise more capital for commercial projects. This ensures the technology risk taken is then correctly rewarded.
3\. Experience – Make sure your investment manager has made good returns in other areas before they attempt cleantech investing. It’s still just investing.
4\. Look for opportunities in emerging markets using proven technology from the developed work – there are many funds now specialising in this tech transfer area. We are doing this with our Inspired Evolution Cleantech Fund.
5\. We’ve all being sold dummies on the Aim market – avoid unless you have a deep due diligence. Don’t invest in Aim companies you don’t understand unless alongside a professional PE house who has experience of the company before it went public and an ability to act as consultant to the company as they grow. Also PE houses which rely totally on financial engineering alone will struggle in this young area.
For investment managers, more use has to be made of JVs with current companies as they move to a low carbon economy. Cleantech is a theme and helping current companies move their business models to carbon neutral and take advantage of the new opportunities is a surer way to get an exit.
Make no mistake cleantech and the low carbon economy are here to stay. Governments continue (albeit more slowly) to support the sector as technologies gain momentum to compete without subsidy. There are too many stakeholders at risk of failure and too many now invested in the area for it to fail (Governments, Blue Chips providing jobs). The lessons have been learned, the risk quantified - now it is time for the returns.