Where Einstein Meets Edison

Evolution in Cleantech Investing: A Conversation with Foundation Capital

Evolution in Cleantech Investing: A Conversation with Foundation Capital

Dec 17, 2010

“Water is the Rodney Dangerfield of the clean tech space. It’s a huge opportunity but gets no respect.”

Steve Vassallo, Partner at Foundation Capital of Menlo Park, CA, made this insightful comment when he recently met with us, a group of MIT students working on cleantech projects. The philosophy of seeking out opportunities that are ignored in the cleantech space and investing in “systems solutions” has defined Foundation’s strategy over the past decade.

Foundation Capital’s history began in 1995 when it and Benchmark Capital emerged out of the break-up of a well-known VC firm from the dot com boom era, Merrill Pickard Anderson & Eyre. From its start, FC has brought in entrepreneurs with technical backgrounds. “Everyone has operating or entrepreneurial experience and is deeply technical,” says Steve. “Folks here have a good intuition and understanding of what technologically and operationally works and does not work.”

This expertise helped them to look at the market differently in the early 2000s. “In 2002 we looked at the LBNL chart on where energy is coming from and where it was going, and we noticed that half the energy was wasted as heat!” says Steve. At that time, VC investments were focused on supply-side clean energy, such as in fuel cell, thin film solar or cellulosic ethanol, while little R&D was invested in the demand-side uses of energy. But this eureka moment transformed FC’s investment process moving forward. It recognized that investment was required to improve demand-side energy infrastructure, especially through utilities, and has exploited this investment opportunity since.

Foundation Capital put its money where its mouth was and began investing in the demand-side energy space starting with Silver Spring Networks, a company that provides utilities a wireless network to connect with meters. Their products enable utilities to communicate pricing and recommendations more easily to consumers. An investment followed in eMeter, a provider of a suite of information technology systems for utilities to aggregate data from customers, ultimately allowing utilities to manage load peak usage and reduce peak demand. Steve notes, “The thesis behind the Silver Spring investment (and to some extent eMeter as well) centered on the belief that the utility industry was migrating away from its historically mainframe mentality, its proprietary protocol software cathedrals, and towards more modular, best-in-breed solutions built on open standards.”

These two investments highlight another aspect of Foundation’s strategy: creating “systems solutions” to important problems in the clean tech space. These solutions do not necessarily require innovative technologies, but utilize unique ways of looking at demand side-side energy use and using innovative financial, systems or informational engineering solutions to address them.

 

Systems Solutions

An example of demand-side savings by using a system-wide approach is in OPower’s behavioral and social psychology approach to reducing energy use. OPower works with utilities to provide customers a Home Energy Report that compares energy use between households. The reports are quite simple yet brilliant: they include statements such as, “Your energy use is particularly high, compared to others, during hot summer days” and smiling and frowning faces to paint the fact more explicitly. According to OPower, these reports along with targeted tips have led to reduced energy demand by 1.5% to 3.5% annually.

Other business opportunities abound to further reduce energy use in the residential market through demand response, much like EnerNOC does in the commercial and industrial sectors. Industrial and commercial clients give EnerNOC the ability to shut off appliances, systems, and industrial equipment during peak hours. Steve pointed out how unique EnerNOC really is. He marveled at how EnerNOC is such an execution-focused company with a robust salesforce.  This is important: it’s not just about technology but about building a serious organization that’s fully aligned to take advantage of the technology. 

As smart meter and thermostat infrastructure is deployed on a large scale, subsidized by utilities, a potential for greater energy savings at home is within reach. Steve poses that this market is ultimately larger than the C&I market for demand-side response. In order to encourage these investments, Steve suggests that policies to decouple utility revenues from sales should be implemented nationwide, building on the successful models in pioneering states like California. As further encouragement, Steve recommends that regulatory bodies afford utilities elevated returns on energy efficiency investments over supply side investments.

 

Financial Systems

In a recent meeting between Foundation Capital’s portfolio companies and Steve Chu, Secretary of the Department of Energy, SunRun’s CEO Ed Fenster commented on how their financial model could be even more broadly scaled with federal government support. SunRun provides home solar panel installations at no up-front cost and instead receives solar electricity payments from homeowners over a period of 20 years. This simple financial mechanism could be used in other parts of the country on a larger scale. Other models have been attempted, such as PACE financing, but the right financial model for energy efficiency is needed. Still, the most ideal solutions do not rely on government financial support. For example, on the smart-grid side, PG&E began deploying Silver Spring ‘s wireless network technology long before there was a stimulus package. The system is simply good business practice and has increased operating efficiency significantly.

 

Entrepreneurs: Don’t Forget Other Pieces of the Puzzle

Steve reminded us that sometimes entrepreneurs don’t explore the most important spaces. For example, as he comically pointed out in reference to Rodney Dangerfield, water does not get as much attention as it deserves. Currently, the vast majority of fresh water is used in agriculture, followed by commercial sectors, such as pharmaceuticals and semi-conductors. As water becomes a more expensive commodity, we need methods to reduce dependence and usage.

No one ever forgets the mantra about the basics of business: location, location, location. In today’s technologically advanced entrepreneurial environment, we should change the mantra to: distribution, distribution, distribution. Two of Foundation’s portfolio companies, CalStar Products and Serious Materials, tackle CO2 output from the production of building materials. The important piece of making their businesses successful is distribution. Product developers need to connect directly with architects so as to avoid innovative products sitting on store shelves.  Both Serious and CalStar have done a good job of shortening – to the extent that they can – the path to market by developing relationships with architects and developers and getting “designed in” much earlier in the building/development process. This is a really important point and an implication for entrepreneurs that they should spend as much time thinking distribution as they are building their technologies. 

 

Where we go from here

For my current and future entrepreneur comrades out there, I want to share two points Steve made towards the end of our talk with him that really jumped out at me. When I asked about innovation in the oil, gas and fuels space, Steve quickly jumped to biofuels. Given that the success of a biofuel company is so heavily dependent on the prices of its inputs and outputs, which are commodities, “a young entrepreneur can easily get flipped inside out,” he said. “It’s potentially a disastrous place to be in.”

Second, when we talked about government financial support for clean tech initiatives, Steve pointed out a paradox. Some entrepreneurs in the energy sector have strong political ties, which can mess up the market, at least in the short term.  If you have a good business model or technology, you still can be beat by lesser players if they have better ties in the political realm and better access to subsidies and tax breaks. Nevertheless, Steve concluded by noting that “I ultimately believe that while politics and regulatory constructs are transitory at best, technology and innovation are the only paths to truly sustainable value creation.  That is, when it comes to laws, the only ones I’m confident won’t change every four years are those of physics.”

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