Cleantech — an infrastructure investment

Cleantech tends to be an infrastructure-intensive sector, with companies receiving the bulk of funding in later stage rounds. In the first quarter of 2008, 70% of cleantech venture investments went to later stage and expansion stage deals, according to research from Thomson Financial the parent company of VCJ and EVCJ. Infrastructure investments tend to have low teen returns rather than the venture capital returns of 25% but are considered by most to be lower risk. Buyout houses that are feeling the pinch from the credit crunch are becoming interested in infrastructure-style investing as project finance is more readily available than LBO finance at the moment. Investments banks tend to like the large element of certainty about the revenue streams associated with infrastructure investments.

Subhead: Capital intensive investments

These investments are capital intensive but also use a significant amount of leverage. There is a misconception in the market that cleantech funds have to be huge to participate in this style of investment. Foresight, a UK based private equity house with total assets of around £160m last year launched a £20m cleantech venture capital trust – a smallish fund in the space. The fund has now done at least five deals and Bernard Fairman, the managing partner and founder of foresight, says: “We haven’t done any club deals at all. We are looking at small deals from £12m to £15m with three to five years of equity. Many of the deals we review are physical plants in the Southeast or Northwest of England.” The fund’s first investment was in O-Gen, a UK based company which generated renewable energy from waste wood which would have otherwise gone to a landfill. An important area for smaller cleantech funds to invest is the ancillary companies servicing clean energy providers. For example, Foresight has invested £5m in Yorkshire-based Land Energy, a producer of wood pellets. Wood is not a new fuel for heating but its value as a renewable resource has only just been recognized. In Germany, for example, wood pellet consumption for fuel has risen ten-fold in the last four years.

Sub head: Growing competition

The size of Foresight’s investments may be just under the radar to attract much competition but that may not last forever. Fairman says: “We expected to find lots of competition when we moved into this sector but we have found next to none.” According to Louise Nash, a partner in the London office of Covington & Burling, bigger financial institutions are becoming interested in cleantech investing. She says: “Relatively recently we have seen interest from Wall Street investment banks in the cleantech space. Goldman Sachs is looking at venture investments and early stage investments. A number of investment banks are sniffing around in the sector. They have always been involved in big power but they are coming down a level to smaller venture deals and could increase competition.” Ian Armitage, the CEO of Hg Capital, which runs a €300m cleantech fund, finds that most of his competition in the cleantech space comes from utilities and infrastructure players rather than venture capitalists.

Sub headL Benefit of clean tech private equity over trade buyers

The competition with trade buyers in certain sectors is intense but private equity players who practice clean tech investing sometimes fare better in buyouts than utilities. For example, when TPG and KKR were looking to take over TXU, the Texas-based utility was prominently identified with plans to scale up its coal fired capacity by building 11 new plants, mostly in Texas, over the medium term. These plans attracted enormous opposition from environmental groups. TPG and KKR worked with Ruben Kraiem a partner in Covington & Burling’s New York office to change these plans and convince the environmental community to support this transaction. Kraiem says: “The sponsors took the amount of coal fired plants to be built from 11 to three which were needed to satisfy short term demand of the core market. The planning applications for the other plants were withdrawn.” The sponsors also began working with US. C.A.P – an NGO coalition advocating for action against climate change. These undertakings were very well received in the environmental community. “This was a win-win. It was a plan that sponsors could get behind because there is a definite expectation in the US among a lot of clean tech investors that within one to two years the Government will adopt carbon caps.”