EUROPEAN PRIVATE EQUITY & VENTURE CAPITAL ASSOCIATION Bridging the Chasm: Venture Capital is critical to delivering Europe's low carbon objectives and 21st century European jobs and companies. Brussels, November 2010
EVCA The European Private Equity & Venture Capital Association EVCA is the voice of European private equity and venture capital. We promote and protect the interests of close to 1,300 members, thereby ensuring they can conduct their business effectively. EVCA engages policymakers and promotes the industry among key stakeholders, including institutional investors, entrepreneurs and employee representatives. EVCA develops professional standards and research reports, as well as holding professional training and networking events. EVCA covers the whole range of private equity, from early-stage venture capital to the largest buyouts. For more information, please visit www.evca.eu Cover picture: Germany's venture backed Sulfurcell designs and manufactures innovative solar modules that can be integrated into building facades
Table of Contents 1 1. Executive Summary 2 2. Aim of the paper 3 3. Background information on venture capital 4 4. How venture capital acts as a key driver for innovation 5 5. Cleantech is a cross sectorial investment theme 6 6. Venture capital investments in cleantech 8 7. Recommendations 9
2 1. Executive Summary Europe has set ambitious targets to reduce carbon emissions, increase renewable energy and improve energy efficiency. Reaching these targets will require new businesses and technologies, and the intelligent use of capital. Venture capital is a critical component for the success of these new companies, crucial for achieving 2020 goals, and vital for creating jobs and businesses in the EU. Venture Capital is already investing in European leading edge technologies, services and support infrastructure and other sectors. It is helping to reduce costs, commercialise technologies and create jobs in high-tech growth industries. In 2009 alone venture and growth capital investments of 1bn were made into over 300 European cleantech companies Europe has been the leader in cleantech, however it is losing its lead, and further complacency will jeopardise the 2020 targets, while job creation will move to other parts of the world. This year China overtook Europe as the leading investor in cleantech, from wind farms to equipment makers. It aims to capture the cleantech high ground. Europe could fall behind the US where the structure of the VC industry and a greater entrepreneurial culture generates more ideas, attracts more talent and allows more capital to be invested. Consequently Europe urgently requires a framework allowing for investment across the full cleantech spectrum and a self sustaining and significantly larger venture capital industry. The EU 2020 Strategy stresses the importance of making an efficient venture capital market a reality. EU Institutions have already done much to stimulate the venture capital industry, specifically through the European Investment Fund. However, Europe s challenge is structural there is no one silver bullet solution or single market gap to address making funding alone insufficient to develop a thriving, self sustaining venture capital industry. Public support for venture capital needs to be refined and adapted to increase the flow of private sector investment from Europe s institutional investors into innovation via venture capital. We must also nurture Europe s research and development culture to stimulate new technology, while simultaneously instilling an all-pervasive entrepreneurial culture to attract the management talent to commercialise research. Governments must continue to support large scale, low-carbon infrastructure projects which, in addition to addressing climate change and energy security challenges, will also stimulate demand for new, clean technologies. To achieve these aims EVCA calls for: 1. Implementing the proposals outlined in an EVCA white paper published in March 2010 (see box 1.) 2. Adopting programmes to harness the power of public procurement for SME R&D 3. Providing policy certainty: without the continued support of Governments through mechanisms such as Feed in Tariffs investors will not finance the deployment, at scale, of assets such as clean energy installations that will further stimulate eco-innovation 4. Increasing regulatory pressure: legally binding targets such as the 2020 targets for renewable energy use and carbon emission reductions provide investor certainty and stimulate demand while remaining technology agnostic
2. Aim of the paper 3 This paper outlines several actions to significantly scale up the European venture capital industry in order to capture the tremendous opportunities associated with the move to a low-carbon economy. This paper covers: The venture capital industry The venture capital model for financing innovative companies The role of cleantech in delivering an environmentally friendly European economy Cleantech investment statistics and examples
4 3. Background information on venture capital Venture capital is capital that invests in young, high-growth potential companies. Venture investment involves substantial risks, including technology, product development, market development. Many companies which are now household names like Google, Skype and Facebook have been developed with the help of venture capital. Venture capital is typically invested post R&D and in the innovation phase when technology is commercialised. Venture capital funds also deliver business and market know-how to companies often characterised by inexperienced management teams. Figure 1 illustrates the role of venture capital using the Roger s bell curve representing the technology lifecycle of a product. The most difficult phase in the lifetime of a product/technology is the period between the R&D phase, starting with its introduction in the market, till it reaches a condition of sustainable growth. This phase known as the "chasm" or the valley of death presents high risks, but the potential for high rewards; many companies attempting to cross the chasm will fail, but others will become successful and experience attractive growth. Figure 1: The Technology Lifecycle curve Venture capital is a strong technology accelerator enabling promising companies and technologies bridge the chasm Innovators Early Adopters Early Majority Late Majority Laggards "The Chasm" Area under the curve represents number of customers VC Technology Lifecycle R&D Introduction - Growth Maturity - Decline Time Source: Roger, Diffusion of innovation, and Moore; Crossing the Chasm
4. How venture capital acts as a key driver for innovation 5 The venture funding model is not suitable for every start up with an idea. Throwing money at a large number of companies does not increase the chances of success and would rather decrease overall returns. Similarly, tying funding to specific policy objectives, geographical locations or preferences for certain technologies without an underlying pool of valid ideas and entrepreneurs does not work. The precursor to venture capital investing is a pool of new ideas and technologies, and entrepreneurs who want to pursue them. Not all of them will succeed. Venture capital therefore relies on a thriving, entrepreneurial culture where entrepreneurs know there is capital available to commercialise promising ideas and companies. Policy measures and interventions should address the venture capital model as a whole, from the flow of capital for venture funds to creating an entrepreneurial and R&D culture. Figure 2: How venture capital accelerates the growth of innovative young companies Market Investment Technology Know-How Tomorrow's Growth Companies Very Selective VC for relatively few highly innovative early stage companies Policy measures to create many SMEs to increase pool of experienced enterpreneurs Funding broad R&D to increase pool of inventions
6 5. Cleantech is a cross sectorial investment theme The cleantech sector is broad more a theme than a sector. It encompasses manufacturing and capital goods like large and small scale wind turbines. It covers new high technology like smart grids and electric vehicles. It also covers services, such as ocean-bed mapping for offshore wind and financial services like carbon emissions trading. Many cleantech companies may have applications in other sectors, or derive from traditional industries. The following companies show the breadth of the sector: Sweden s Chromogenics uses the same technology for smart windows that will let in light but not heat that it uses for eyeglasses and display stands. http://www.chromogenics.com/ France s Neosens uses leading edge technology to provide real-time information on liquid quality in a host of industrial processes - saving energy and optimising the use of chemicals. http://www.neo-sens.com/ In Germany Compact Power Motors manufacture highly efficient motors that can be used in products as varied as electric vehicles and wind turbines. http://www.cpmotors.eu/ Lunar Energy in the UK uses technology developed for laying offshore oil and gas pipelines to develop undersea tidal power generators. http://www.lunarenergy.co.uk/
7 Germany s Power Plus Communications develops software to run smart electricity grids crucial for increasing the deployment of intermittent renewables like wind and solar power http://www.ppc-ag.de/ TAG Energy Solutions in the UK will create up to 400 jobs, redeveloping a traditional shipyard in Northern England into a state-of the-art manufacturing facility for the construction of subsea foundations for offshore wind turbines http://www.tagenergysolutions.com/ Blade Dynamics in the UK is developing high performance blades for wind turbines to increase turbine efficiency and durability http://www.bladedynamics.com/ Venture capital provides, the long-term, patient financing for these companies 1 based on the potential of their products across a range of sectors and applications all of which will contribute towards increased resource and energy efficiency. It is the freedom for venture capital firms to choose the most attractive opportunities, irrespective of industry or sector, that has enabled the above companies to embark on their journey across the chasm, supported not only by investment but by the management expertise and market knowledge their venture backers provide. 1. Examples from the renewable energy industry show that some innovations have taken 15-20 years to get to market versus 5 to 7 years for comparably innovative venture backed technologies
8 6. Venture and growth capital investments in the cleantech sector Thanks to significant investment and know-how from the Venture Capital industry much progress has been made in accelerating the development of European clean technologies. In 2009 alone venture and growth capital investments of over 1bn were made into over 300 European cleantech companies. This was over 12% of all venture capital and growth investments 2. 95% of the money came from European private equity and venture capital firms in 2009. Only 5% of the investments by amount came from non-european private equity and venture capital firms. For an investment theme that did not exist ten years ago cleantech has already provided venture capital investors with some highly successful returns. In Germany Aleo Solar is one of the world s leading manufacturers of solar cells. From a start-up in 2001 it now employs over 800 people, making significant returns for its venture backer when it became a public company in 2006. Taking into account this data and examples such as Aleo Solar and other companies mentioned in this paper it may be expected that the venture capital contribution to the eco-innovation EU plans will be significant. However, the ambitious goals of the EU 2020 strategy, and EU 2020 targets on renewable energy, carbon emission reductions and energy efficiency will require strong growth in the supply of venture capital. It will also require a strong flow of R&D incentivised, partly, by the public sector. The EVCA Venture Capital White Paper: The next stage of venture capital s evolution in Europe The main thrust of the paper is that the European venture capital faces a structural challenge due to a lack of suitable intermediaries that: 1. Have the expertise to select the best venture capitalists 2. Can bridge the gap caused by the limited scalability of venture capital and the asset allocation needs of institutional investors The paper outlines a solution to create a series of fund of funds, managed by the private sector, where public sector financing would be matched by private sector financing. European venture capital would be a major component of the investment strategy of these fund of funds and public support would never exceed the size of this component. The scheme would be long-term orientated taking place over several years with the returns generated by the various fund of funds being reinvested into the scheme over this period. The model should be designed in such a way as to support the most promising venture fund managers rather than spreading pre-allocated funding around a wide universe of fund managers. Overtime it is thought these fund managers will spin-out teams of trained and experienced venture capitalists that will bring their know-how to other, underserved niches in the European venture capital market. The scheme proposed in this White Paper should not be seen as a substitute but as complementary to other public sector actions. 2. The figure for venture capital alone is approximately 500 million. Growth includes equity financing for the expansion of cleantech companies a crucial part of crossing the chasm. This figure does not include any deals structured with debt financing.
7. Recommendations for improving the existing environment for investing in clean technologies 9 Without a favourable regulatory environment supporting all the components of the venture capital universe, venture will not be able to contribute to the growth of European clean technology at the scale required to meet ambitious 2020 goals. Europe also runs the risk of losing its position as a leader in clean technology. The aim should be to develop a self-sustainable and significantly larger European venture capital industry which can compete globally for institutional investors and for new innovative investments while at the same time reducing the industry s dependence on public finance. Fragmented support programmes tailored to specific policy priorities which exclude areas that fall outside the imminent policy objectives will make implementation of those programmes cumbersome, private sector hostile and will not recognise the need for the opportunistic element in the strategies of venture capital firms. EVCA has four main recommendations: 1. Create a programme that enables private sector funding and know-how to be deployed into the venture asset class. EVCA has put forward a venture capital white paper that proposes the use of public sector finance to launch a multi-annual programme for private sector managed funds of funds. These funds of funds, will have a sizable commitment to European Venture. This aims to: Over time shift financial backing from the public to private sector Allow smaller institutional investors to remain engaged or become active in the asset class Select the best European venture capital managers and network their potential to investors 2. Harness the power of public procurement for SME R&D. Public procurement in the EU has a value of 17% of EU GDP. This sector is extremely difficult for innovative entrepreneurs to access, and in some ways systematically discriminates against younger companies. The EU should aim to reduce the hurdles that inhibit Government from buying from such companies. Enabling them to benefit more easily from public procurement could significantly increase their growth potential. In addition the EU could consider reserving parts of its research budget for SME R&D. Cleantech companies that meet certain simple eligibility criteria might qualify for such a scheme. A similar scheme in the United States, the Small Business Innovation Research ( SBIR ) has been a significant driver for the expansion of the venture capital industry and innovative high-growth companies. 3. Reduce regulatory uncertainty. Demand side policies, such as feed in tariffs, deliver continued, declining, predictable market pull mechanisms. The creation of a strong solar panel manufacturing sector in Germany is partly due to the success of German feed in tariffs: private investors had the certainty to deploy capital at scale into financing solar power installations creating a strong demand for solar power technology in Germany. Where demand side policies have their inefficiencies they must addressed. 4. Make the EU 2020 target on energy efficiency binding not just indicative. Energy efficiency is a key driver for cleantech technologies incentivising many of Europe s venture backed cleantechs. A legally binding target, which already exists for carbon emission reductions and renewable energy, will provide the investor certainty to spur demand across a wide range of clean technologies and new materials. Increasing regulation in other sectors like the built environment, vehicle emissions and the chemicals industry can decrease uncertainty for entrepreneurs and investors alike while stimulating demand for cleantech products and services.
10 The EVCA Environmental Task force This paper has been produced by the EVCA Environmental task force. The members of the task force are listed below: Chairman Mr. Patrick Sheehan - Environmental Technologies Fund (UK) Members Mr. Guido Agostinelli - Good Energies (CH) Mr. Bart Diels - GIMV (BE) Ms. Gina Domanig - Emerald Technology Ventures AG (CH) Mr. Ulrich Grabenwarter - European Investment Fund (LU) Mr. Tom Murley - HgCapital (UK) Ms. Sophie Paturle - Demeter Partners (FR) Mr. Richard Youngman - The Cleantech Group (UK) Ms. Emma Fau Sebastian - EVCA (EUR) For additional information on the content of this paper please contact: Emma Fau, Public Affairs Manager, EVCA email: emma.fau@evca.eu
EUROPEAN PRIVATE EQUITY & VENTURE CAPITAL ASSOCIATION The EVCA Venture Capital White Paper, Bridging the Chasm: Venture Capital is critical to delivering Europe's low carbon objectives and 21st century European jobs and companies, is published by the European Private Equity & Venture Capital Association (EVCA). Copyright EVCA November 2010 Bastion Tower, Place du Champ de Mars 5, B-1050 Brussels, Belgium Tel: + 32 2 715 00 26 Fax: + 32 2 725 07 04 e-mail: info@evca.eu web: www.evca.eu