Asset Trafficking

It’s easy to understand why the world has gone nuts for green cars: they’re fast, slick, eco-friendly and could potentially land venture backers huge returns.

It should come as no surprise that so many VCs have clambered onto the efficient vehicle bandwagon. Investors have pumped millions of dollars into dozens of start-ups looking to address some part of the green car market over the last several years.

Notable companies in the space include the flashy Tesla Motors, which has raised US$140m in total venture funding to launch its Roadster electric car, to efficient diesel start-ups, such as EcoMotors, which has raised an undisclosed amount of funding and is aiming to begin delivery in 2011.

Some of the most successful venture firms have either dived into the space or upped their commitments.

For example, Draper Fisher Jurvetson, backers of such runaway Internet hits as Skype Technologies and Baidu, have backed not only Tesla (DFJ managing director Steve Jurvetson was slated to purchase the 12th car off the production line), but the firm also participated in a US$20m investment round in India’s REVA and a US$60m investment round for Norwegian electric carmaker Think Global. DFJ managing director Tim Draper now sits on the company’s board.

Kleiner Perkins Caufield & Byers, early investors of Google and Amazon, jumped into the fray at the beginning of 2008 with a small investment in plug-in hybrid electric carmaker Fisker Automotive. The firm expanded its commitment in February, less than a month later. Fisker raised more than US$25m in the two rounds.

Several of the companies funded last year will likely be beating the bushes for follow-on rounds to fuel their expansion in the coming months.

Look for companies such as Los Angeles-based Venture Vehicles, which makes a three-wheel, two-passenger plug-in hybrid, to be out for more cash. The start-up raised US$6m from NGEN Partners and DVC Technologies in August 2007.

In addition, Pasadena, California-based Aptera Motors, which makes ultra-aerodynamic three-wheeled plug-in hybrid vehicles, raised US$20m from Idealab in April 2007. The start-up is likely to be in the market again soon.

And for every car company that has successfully been funded, there are at least another two looking for venture capital to help them put the pedal to the metal. Commuter Cars, Myers Motors, Spark Electric Vehicles, Raser Technologies, MDI and Zero Motorcycles are each looking to tackle the efficient vehicle market head-on and will likely be looking for financing this summer.

There seems to be some substance to the hype. India’s REVA aims to increase production of its electric car five-fold in the next six months, according to reports.

Futuristic three-wheeled Aptera, which looks more like an airplane wing than an electric car, announced in March that it was moving out of the research and development phase and into production. Norwegian electric vehicle maker Think Global built a new production plant at the end of last November with the capacity to build 3,500 cars a year. The company raised more than US$93m from investors during 2007, including cash from DFJ Element and Rockport Capital Partners. The company expects to roll out some 10,000 vehicles during 2009 if demand persists.

Speed Bumps

But for all the interest in green vehicles, there are concerns, or speed bumps, about the industry.

Green carmakers must fight to keep their status as environmentally friendly and market it effectively, fight a growing number of competitors and large automakers that are increasingly turning their attention to the environmental craze.

Perhaps the problems at San Carlos, California-based Tesla Motors are among the highest profile in the industry. The company suffered a series of transmission troubles and delays during 2007 before it launched production of its Roadster.

Tesla also backed out of a US$43m deal to supply battery packs to Think Global last fall, according to reports. The company “transitioned” co-founder-CEO Martin Eberhard to an advisory role in favour of interim CEO Michael Marks.

But Marks has since been replaced by CEO Ze’ev Drori and the company has fired as much as 10% of its staff over the last several months, according to reports.

Tesla seems to have straightened itself out this year, however. It raised another US$40m from investors, shipped its first production vehicles and has even floated the idea of a US$250m IPO in 2009 to help finance its next model, the WhiteStar electric sedan.

Although it’s easy for financiers and entrepreneurs to get excited about green vehicles – hybrids and electric vehicles typically appeal to well-educated and well-off consumers – few people see the benefit of long-term savings at the gasoline pump when faced with a higher up-front cost of a fuel-efficient automobile, according to a recent survey by J.D. Power and Associates.

The market research and information firm interviewed nearly 45,000 US citizens and found that only 11% were “very willing” to pay more for an electric vehicle Among environmentally conscious consumers, the study found that only about one in 10 purchased a hybrid vehicle.

And as much as any one hybrid or electric car driver may feel that they are positively contributing to the environment, the aggregate effect is much smaller. Green cars still account for less than 2.2% of total annual US car sales, according to J.D. Power. What’s actually driving on the road, some 250 million cars and trucks purchased in the last 15 years, are nowhere near as fuel-efficient.

And there’s even some evidence that plug-in hybrid electric vehicles, such as Fisker Automotive’s four-door Karma, may actually hurt the environment. Plug-in electrics might even hurt the environment by increasing the strain on coal-powered electric plants which make up 49% of US electricity production, according to a study by the US National Resource Defense Council and the Electric Power Research Institute.

A separate study, by the Oak Ridge National Laboratory, determined the US could need up to 160 new large electricity plants to supply power to plug-in commuters by the year 2030.

Some fuel-efficient cars haven’t relied on electric motors or hybrid engines to achieve their green goal. They’ve cut down the weight of their vehicles, sometimes by dropping the number of wheels from four to three. Companies such as Aptera and Venture Vehicles, which raised US$6m from NGEN Partners in 2007, have focused on making a lighter car.

Dropping pounds may make a car more fuel-efficient, but several academic and industry studies state a lighter car poses a potential danger to its occupants. The relationship between car weight and accident fatality rates was examined during the late 1970s and early 1980s as many consumers opted to buy economy vehicles over gas-guzzlers. Research by General Motors, later interpreted by academics at the Harvard School of Public Health for cars in the late 1980s, suggests that reducing average automobile weight by 500 pounds might increase the chance of an accident fatality for drivers by as much as 27%.

Admittedly, the research results are dated, but the physics behind the data suggests that when car accidents involve a single car running off the road and into a solid object, it is better to have a heavier car to absorb the impact.

More troubling for the safety conscious is that three-wheeled vehicles circumvent US government testing requirements aimed at carmakers. Three-wheelers are considered enclosed motorcycles and only face materials testing requirements rather than strenuous crash testing.

Manufacturers of ultra-light vehicles may decide to obtain additional crash certification to prove their new vehicles are safe. Steve Parry, the investor with NGEN who backed three-wheeler Venture Vehicles, says that the company isn’t going to cut corners, and will run its first product through rigorous crash testing.

Competitors Coming

Imitation may be the sincerest form of flattery, but it can also be annoying when it becomes the competition. The first mover efficient vehicle start-ups are seeing more and more competition. A recent survey of the industry found 30 companies working on electric vehicles worldwide as green car magazines, Internet portals, newsletters and blogs have popped up to service the nascent industry.

VCs have not been shy when it comes to investing in green vehicle start-ups and the glut of capital flowing to potential competitors may choke out margins and make it more difficult for any one company to gain traction.

But for all the attention paid to start-ups, the toughest competition may come from the large automakers. Companies such as General Motors, Honda, Toyota and Tata already benefit from having huge factories and design teams in place, well developed sales channels ready to market the vehicles and significant brand equity to build on.

GM has been actively looking to Silicon Valley to find innovations that will help its existing fleet of automobiles and power its future vehicles. The auto manufacturing giant recently invested in ethanol maker Coskata, for example. The details of the deal are undisclosed, but the investment comes with a partnership. GM will receive ethanol deliveries from Coskata’s pilot plant by the end of this year to use in its test vehicles.

Overall, Coskata has raised US$10m to date from Khosla Ventures, Advanced Technology Ventures and Great Point Ventures.

GM has embraced the ethanol market faster than most automakers. It sells a variety of flex-fuel models that can run on either gasoline or a mixture of gasoline and ethanol and has plans to make half of its fleet capable of using flex-fuel by 2012.

“We were awestruck by how motivated [GM and other investors] were about ethanol and flex-fuel vehicles,” says Coskata co-founder Todd Kimmel, a principal at Advanced Technology Ventures. “I believed a lot of what was in the press, that they lacked vision, but they get that the status quo is not OK anymore. It’s not OK to have another decade where 98% of our transportation fuel is oil-based.”

Coskata isn’t the only company GM has taken an interest in. The automaker has partnered with Sequoia Capital-backed A123Systems. GM tapped A123 to work on its electric-powered Chevy Volt. Together, the companies are developing nano-phosphate battery cells powerful enough to drive cars.

GM has not invested in A123, but the battery company has received interest from other corporate investors. General Electric, Motorola, Qualcomm and Proctor & Gamble have each contributed to the nearly US$127m that the battery company has raised.

Other Options

Coskata and A123Systems are examples of companies that are looking to profit from the green automobile market, but that aren’t building flashy electric roadsters or futuristic three wheelers. The two companies are building the components and systems that will power these automobiles; they are tackling the demand for cleaner vehicles without trying to compete with the big automakers.

One of the most-talked about companies taking a similar approach is Project Better Place. The company, based in Palo Alto, Calif., is targeting Israel, and is run by Shai Agassi, a software executive once slotted for the top spot at SAP. The company is planning to build fuelling stations for electric cars, servicing vehicle batteries, offering juice on the go.

It is also experimenting with leasing batteries to consumers. The plan would help reduce the cost of electric cars and might speed adoption, as the battery pack is often the most expensive component of electric vehicles.

Agassi has likened his company to mobile phone service providers which build infrastructure and market minutes plans without getting into the business of manufacturing phones. It’s a metaphor that hasn’t been lost on investors.

The company raised US$200m from Israel Corp., Morgan Stanley, VantagePoint Venture Partners and a group of individual private investors last October. Since then, it has signed deals with Renault-Nissan to develop a mass-produced electric vehicle.

Israel may be well suited as an incubator market for electric vehicles. Some 90% of Israelis who own cars travel fewer than 45 miles a day, according to Project Better Place.

Denmark, thanks to some of its similar characteristics (including a 180% tax on automobile ownership), may be the first place in Europe to see electric vehicles take off. The country’s majority state-owned electricity company, DONG Energy, signed a letter of intent with Project Better Place to help develop automobiles that will reduce carbon-dioxide emissions in the country.

Off Ramp?

No doubt, green automobiles will require a variety of technological advancements and investments in various infrastructure projects to gain significant traction. The Tesla Roadster, for example, would have been unfeasible just a decade ago as the lithium ion batteries required would have been too expensive and the lead acid equivalent would have been too heavy.

And even if green cars take off, they may not have the positive impacts on the environment that most people seem to expect. Electric cars may, for example, exacerbate demands on an aging power grid supported by coal-burning plants.

There have been precious few automobile makers that have succeeded in penetrating the market during the last 100 years. Yet venture capitalists have certainly demonstrated a willingness to finance clean vehicle projects.

It’s too early to tell if going down this road will lead to big exits, but these start-ups will certainly help accelerate innovative thinking about the way we get around.