Venture Capital and Cleantech:
The Wrong Model for
Clean Energy Innovation

An MIT Energy Initiative Working Paper

July 2016

Dr. Benjamin Gaddy1
Dr. Varun Sivaram2
Dr. Francis O’Sullivan3

1 Director of Technology Development, Clean Energy Trust; bgaddy@cleanenergytrust.org
2 Douglas Dillon Fellow, Council on Foreign Relations; vsivaram@cfr.org
3 Director of Research and Analysis, MIT Energy Initiative;

Senior Lecturer, MIT Sloan School of Management; frankie@mit.edu

MIT Energy Initiative, 77 Massachusetts Ave., Cambridge, MA 02139, USA
MITEI-WP-2016-06

Table of Contents
Introduction .................................................................................................................................... 2
Silicon Valley Meets Cleantech ................................................................................................... 3
A Losing Combination: High Risk and Low Returns ............................................................ 5
Box: How We Classified and Evaluated Start-up Companies .............................................. 6
What Went Wrong?....................................................................................................................... 8
Beyond the VC Model for Cleantech ....................................................................................... 11
Appendix: Full Methodology ..................................................................................................... 13
References ..................................................................................................................................... 20

Abstract
Venture capital (VC) firms spent over $25 billion funding clean energy technology(cleantech) start-ups from 2006 to 2011 and lost over half their money; as a result,funding has dried up in the cleantech sector. In this article, we present the mostcomprehensive account to date of the cleantech VC boom and bust, aggregating
hundreds of investments to calculate the risk/return profile of cleantech, comparedwith those of medical and software technology investments. The results are stark—cleantech offered VCs a dismal risk/return profile, dragged down by companies
developing new materials, chemistries, or processes that never achieved
manufacturing scale. We conclude that the VC model is broken for the cleantech
sector, which suffers especially from a dearth of large corporations willing to invest ininnovation. Fortunately, new public and private capital may be on the way after
announcements made at the 2015 Paris Climate Change Summit. If a new and morediverse set of actors avoids the mistakes of the cleantech VC boom and bust, then they
may be able to support a new generation of cleantech companies.

Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

Introduction

Beginning in 2006, Silicon Valley venture capital (VC) firms bet heavily that the energy sector was ripe fordisruption. That year, clean energy technology (cleantech) start-up companies attracted $1.75 billion in VC
investment, dwarfing the hundreds of millions of dollars raised in previous years.1 Rising fossil fuel prices
and recent legislation enhanced the investment case for cleantech. And growing consumer awareness aboutclimate change—sparked in part by Al Gore’s 2006 movie “An Inconvenient Truth”—suggested a sizable
market for solar panels, batteries, and biofuels. Although cleantech companies hardly resembled thesoftware investments that dominated their portfolios, VCs could point to the success of start-ups in thesemiconductor and biomedical sectors as evidence that cleantech start-ups might also turn scientificbreakthroughs into commercial profits.
But just five years later as 2011 came to a close, the cleantech
Over the course of the carnage, VC
sector was in shambles. Shares of public cleantech firms
investors had plowed $25 billion into thetraded at steep discounts to the market peak in 2008, andcleantech sector and lost over half of it
almost all of the 150 renewable energy start-ups founded in
Silicon Valley over the past decade had shut down or were on their last legs. Solyndra, a high-flying start-up
manufacturing cylindrical solar tubes, had received $500 million in federal loan guarantees but filed forbankruptcy and sparked campaign controversy in the 2012 U.S. Presidential election.2 Falling natural gas
prices from the fracking revolution and a glut of cheap Chinese solar panel exports had undercut thecompetitiveness of U.S. energy start-ups.3,4 And the credit crunch from the financial crisis made it tougher
to raise enough capital to achieve the manufacturing scale necessary to compete in a commodity market.5-

Over the course of the carnage, VC investors had plowed $25 billion into the cleantech sector and lost overhalf of it. In 2008, VC cleantech investments exceeded $5 billion. By 2013 funding had dropped to $2
billion (Figure 1) and has remained roughly constant since. As a result of the lack of capital, only 24
cleantech companies were founded in 2013, compared with 75 companies in 2007.
What went wrong? And where should the cleantech sector go from here? To answer these questions, weused publicly available data to compile the performance of every medical technology, software technology,
and cleantech company that received its first round, or “A-Round,” of VC funding from 2006 to 2011. We
found that betting on cleantech start-ups simply does not make sense for VCs, who require a profile of risk
and return from their investments that is better found in other sectors. In particular, cleantech companies
developing new materials, hardware, chemicals, or processes were poorly suited for VC investment
because they required significant capital, had long development timelines, were uncompetitive incommodity markets, and were unable to attract corporate acquirers.6 As a result, they were more likely tofail, and even those that did not fail returned limited capital to investors. By contrast, cleantech companies
developing software solutions were a better bet, consistent with the superior performance of the software2

B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016sector. As a result, VCs have since reduced the total capital they allocate to cleantech, and within the sector
they have shifted investments from hardware and materials to software.7
But the VC model does not need to be the only
model for supporting innovative cleantech
companies. Instead, other investors without thetime or capital constraints of VCs may be better
suited to scale up cleantech start-ups and realize
returns in the longer-term. Corporations could
also boost prospects for commercializing newtechnologies by strategically investing in or
acquiring cleantech start-ups, as happens in thebiomedical sector. To entice these private sector
actors to invest in cleantech, the government
must share some of the risk of commercializing
innovation. For example, policymakers should
boost funding for research and development(R&D). The government should also partnerwith the private sector to fund joint research withindustry and to support projects that
demonstrate new technologies at scale.
Two announcements made recently at the 2015 Paris Climate Climate Change Conference could
jumpstart a recovery in funding for cleantech innovation. Led by Bill Gates, a group of wealthy investors
known as the Breakthrough Energy Coalition have pledged funding for early-stage cleantech companies.
Their investments will complement a concurrent effort by twenty countries around the world who havesigned on to the Mission Innovation pledge to double public R&D funding to $30 billion by 2020.8 Guided
by the lessons learned from the cleantech VC boom and bust, policymakers should capitalize on the
momentum of recent announcements to develop a more functional ecosystem for cleantech innovation.

Silicon Valley Meets Cleantech
John Doerr, a partner at the prominent Silicon Valley VC firm Kleiner Perkins, announced in a 2007 TED
talk that, “Green technologies—going green—is bigger than the Internet. It could be the biggest economic
opportunity of the 21st century.”9 At the time, many of his colleagues agreed that cleantech represented a
massive market opportunity and that the VC model was ideal for capturing it.
That model relies on high-risk investments in early-stage companies in exchange for ownership stakes thatmay deliver high returns in the future.10 The start-ups rely on VC funding to bridge the “valley of death”
when their technology is too advanced for public R&D funding but not yet commercially viable.113

Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

Typically, VC funds are structured as 10-year partnerships, where outside investors (the limited partners,
or LPs) provide capital to the VC fund (run by the general partners, or GPs) to make investments on theirbehalf.12 A fund will usually invest in a portfolio of ten to twenty start-ups over the first five years andharvest the returns in the remaining five years. Those returns materialize when a portfolio company isacquired by another firm or when it issues shares on a public market through an initial public offering(IPO)—these events are known as “exits.” VC funds may invest at multiple stages of a company’s
development, starting with early “seed” rounds, typically $1 million or less, continuing through subsequent
rounds (named “A”, “B”, etc.) typically on the order of $10 million, and culminating in late-stage growthrounds that can raise $10–$100 million or more. But if a company cannot exit within three to five years ofraising a major funding round, the VC is likely to write off the investment and withhold further funding.
When VC funds make ten to twenty investments, they expect
VCs look to invest in start-ups that canthat most investments will fail, a few may break even, andquickly achieve scale to address a highone or two might succeed wildly, justifying investments
growth market and provide large payoffs
across the portfolio. From the LP perspective, these one or
two successes must be sufficient to make up for the investments in all of the failed companies, in addition to
returning a premium for the length and illiquidity of the investment. The venture capital fund (run by GPs)
typically is entitled to keep 20 percent of the proceeds of a sale, but only after the invested capital has beenreturned to LPs. This all means that VCs look to invest in start-ups that can quickly achieve scale to addressa high-growth market and provide large payoffs (ten to one hundred times the invested capital) within ashort time frame.13-

Cleantech start-ups fit this mold in the eyes of the VCs who fueled the investment boom from 2006 to
2008. Rising fossil fuel prices supported the investment thesis that clean energy would be a high-growthmarket. Between 2002 and 2008, rising natural gas prices drove up U.S. electricity prices by 38 percent,and from 1998 to 2008, gasoline prices approximately quadrupled. Financial analysts predicted the price ofoil would continue rising (e.g., Goldman Sachs forecasted an equilibrium price of $200 per barrel).14,15,16
On top of this, policymakers in the United States and abroad offered incentives for clean energy adoption.
In 2005, Congress enacted tax credits to incentivize solar, wind, and other renewable energy sources.17
And from 2009 to 2011, President Obama’s stimulus legislation delivered over $100 billion to support
clean energy through grants, loans, and tax incentives.18 Public policy abroad also supported the creation ofmarkets for clean energy—Germany in particular offered generous incentives for renewable energy
throughout the 2000s.19
Finally, VCs were emboldened by the hype around, and stock market valuations of, early cleantech
entrants. In 2004, Elon Musk invested in Tesla Motors, an electric car maker, and joined its board to great
fanfare. In late 2005, three solar companies went public at valuations above $100 million (Q-Cells,
SunPower, and Suntech) followed by a billion-dollar initial public offering by U.S. company First Solar inlate 2006.20 Venture capital investors responded by hiring cleantech experts, forming sector-specific funds,
and deploying considerable capital to the sector.

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B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016

A Losing Combination: High Risk and Low Returns
But if cleantech investments had in fact fit the VC investment model, they should have swiftly met VC risk
and return requirements—at least ten percent of cleantech startups should have succeeded in a big way,such that their returns alone justified investments across the portfolio. To determine whether this was thecase, we adopted the perspective of A-round VC investors—whose decisions are a bellwether for investor
attitudes toward a sector—and judged whether their bets from 2006 to 2011 paid off or flopped. Then wecompared cleantech start-up performance against that of two other technology sectors that have attracted
considerable VC investment: medical technology and software technology (see Box). We found that acrossall rounds of funding, start-ups in the three sectors received similar amounts of funding at similar points in
a company’s lifecycle (Figure 5 in the Appendix). Since VCs were investing similarly across the threesectors, they presumably expected similar performance across the board.
Unfortunately, cleantech start-ups—indistinguishable from companies in the other two sectors in terms offundraising—clearly stood out as the poorest performers in retrospect. First, cleantech companies weremuch riskier bets than counterparts in the other two sectors. From 2008 onwards, the cleantech sector had
the lowest proportion of companies to at least break even, from the perspective of A-round investors. And
more than 90 percent of cleantech companies funded after 2007 ultimately failed to return just the initial
capital invested (Figure 2a).
Second, cleantech investments yielded substantially lower
More than 90 percent of cleantech
returns compared to medical or software technologies (Figurecompanies funded after 2007 ultimately2b). After 2007, cleantech investments delivered internal rates
failed to return just the initial capitalof return (IRR) much lower than those offered by the otherinvested
sectors. Cleantech companies funded in 2010 appear to deliver handsome returns—an IRR of 45%—butthat result is skewed by a single company: Nest Labs. Acquired by Google for $3.2 billion in 2014, Nest
sells a sleek thermostat that intelligently regulates indoor temperature to save consumers money. Nest
could easily have been reclassified as a software company, which would have plunged the return forcleantech companies in 2010 to negative 23% (Figure 2c).
-

It is worth noting that the returns to A-round investors across all sectors is not particularly impressive.
Other studies have demonstrated a wide performance gap between the best VCs and all the rest.21 Might
cleantech look more appealing to those exceptional investors? Unfortunately, no. A portfolio comprising
the 10 software technology companies with the largest exits would return 11.6 times an A-round investor’scapital, compared with an 8.6x return for cleantech and 4.2x for medical technology (Figure 2d). And
because the actual dollar value of the exits for the best medical technology start-ups was higher than that of
the best cleantech start-ups, the VCs making the investment decisions would have made 20% less fromcleantech, even if their limited partners (the investors who fund the VCs) made more. In short, evenclairvoyant VCs would have preferred the other two sectors to cleantech.

5

Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

How We Classified and Evaluated Start-up Companies
1. We used publicly available data to identify start-ups funded between 2006 and 2011 inthree different technology sectors:


Cleantech companies are those that develop technologies for energy generation, energy storage,advanced fuels, energy efficiency, energy software, and energy software appliances, as well as
those that deploy or finance clean energy technologies.

Software technology companies include those that commercialize mobile applications,enterprise software, e-commerce, games, and social media (but not clean energy software).



Medical technology companies include those focused on biotechnology and pharmaceuticals

2. We evaluated the risk and return of each company:
For all companies receiving A-round funding in a given year and technology sector, we calculated:

Risk: the proportion of companies that failed to return at least as much capital to the A-roundinvestors as those investors originally put in.

Return: the average internal rate of return (IRR)—a metric commonly used by VCs. Returns canbe realized through exits (acquisitions or IPOs).



Uncertainty bounds: There was unavoidable uncertainty in our dataset, because many
companies do not report certain parameters. Around each datapoint of risk and return, we added
an uncertainty range that is more likely than not to contain the actual value, considering:oFundraising: For some companies, the amount of capital raised in one or more fundraisingrounds was missing. In some cases, we could fill in the data from other publicly available
information, like news articles, press releases, SEC filings, etc. Otherwise, we approximatedthe funding as the median funding level of all companies in the relevant technology sector that
did disclose their funding and set our uncertainty bounds at the 25th and 75th percentile levels.

o

Exit value: In some cases, a company was acquired for an undisclosed exit value. This is often
an indicator that the exit was not successful from the point of view of the investor; investors
tend to advertise lucrative payouts. For these companies, we approximated their exit value as
the amount that would just enable A-round investors to break even, and we set our uncertainty
bounds to return a 0x to 2x multiple to the A-round investors.

oOwnership stake: The fractional ownership of the company by the A-round investors at timeof exit was not available in the dataset. We used well-known examples to approximate thestake at 12%, and we set our uncertainty bounds at an 8% to 16% stake in the company.

oResidual unknowns: Some of the companies in our dataset are still in existence and cannot beclassified as failures or successes. To minimize data exclusions, we assumed that any company
that has not received a further round of funding or achieved an exit within three years will notprovide a return to A-round investors. This is reasonable because 80 percent of companies inour dataset that did return at least the capital invested in the A-round had gone no more than
three years without funding. Any remaining company that has received funding in the last
three years is excluded from our results because the outcome is unknown.
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B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016

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Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

What Went Wrong?
There are many candidate explanations for why cleantech startThe biggest money loser for VCs was
ups flopped and VCs pulled out from the sector. Changing
the segment of cleantech companies
economic conditions certainly played a role, including thecommercializing fundamentally new
financial crisis and credit crunch in 2008, the resultant decline inmaterials and processes
oil and natural gas prices, and a glut in solar panel manufacturing
capacity in China that caused the price of panels to plunge. But digging deeper into the types of cleantech
companies that received VC funding and how each type performed, it is clear that most companies failed
for reasons independent of external economic trends.
-

Cleantech start-ups fall into five categories (Figure 3a), among which there are huge disparities in
performance:
•
•
•

•

•

Companies developing new materials, processes, or chemicals—for solar, biofuel,battery, lighting, and other applications—returned only a sixth of the invested capital.
Hardware integration companies, which commercialized novel ways to integrate existing
hardware components, performed even more poorly, returning only 5 cents on the dollar.
Cleantech software companies—like Nest, which dramatically boosted the aggregate
return of cleantech companies funded in 2010, and Opower, which analyzes energy use dataand helps utilities apply peer pressure on customers to compete with neighbors on efficiency—
returned about three and a half times the capital that A-round VCs invested. This
makes sense, since these cleantech companies could also be classified under the software
sector, where strong returns are more common.
Deployment finance companies, which sought investor capital to construct large projects
like solar farms based on proven technology, also performed poorly, returning only aquarter of the invested capital.
Other companies that fell into none of the categories above—including energy efficiency
consultants and waste processing services—returned only a fifth of the invested capital.

The biggest money loser for VCs was the segment of cleantech companies commercializing fundamentallynew materials and processes, losing A-round investors over $600 million. For example, in solar
photovoltaics, companies like Nanosolar, Solyndra, and Miasole tried to commercialize an alternative tosilicon known as “CIGS” (a thin film composed of Copper Indium Gallium Selenide that promised
flexibility, light weight, and cheap processing) but struggled to match the scale of production of
conventional silicon solar panels, which leveraged tried-and-true manufacturing techniques from thesemiconductor industry.22
In biofuels, our results may actually paint a rosier picture than the reality, because several high-profile
biofuels companies have gone public, returned capital to their investors, and then failed to live up to market
expectations. Amyris, which designs synthetic microbes to convert Brazilian sugarcane into renewable8

B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016

diesel fuel, first offered shares at over $17 apiece that now trade at less than a tenth of that value. And Kior,
which invented a proprietary catalyst to convert waste (“cellulosic”) biomass into a biofuel that could
substitute for gasoline and diesel, went public in 2011 but filed for bankruptcy in 2014. 23
And companies attempting to follow in the footsteps of Tesla by integrating existing hardware in new ways
wiped out $500 million of early-stage capital. This category included companies like Better Place, whichraised nearly $1 billion to build electric vehicles and create a network of electric vehicle charging stations
but went bankrupt.24
Cleantech companies commercializing innovative scienceand engineering were especially unsuited to the VC
investment model for four reasons. First, they were illiquid,tying up capital for longer than the 3-5 year time horizon
preferred by VCs, because working out the kinks in newscience is time consuming.25 Second, they were expensive to scale, often raising hundreds of millions ofdollars to build factories, even while the fundamental technology was still being developed.26 Third, there
was little room for error because these companies competed in commodity markets with razor-thin
margins—against cheap silicon solar panels or abundant oil and gas—making it difficult to invest in R&D
while also operating a lean manufacturing operation.27 Finally, the likely acquirers—utilities and industrial
giants—were unlikely to acquire risky start-ups and averse to paying a premium for future growthprospects when they did invest.28,29 For most cleantech start-ups, this meant that the sale price couldn’t
offer the outsize returns investors needed. These factors conspired to cost VC investors hundreds ofmillions of dollars before learning whether their cleantech bets had a chance of success—an order ofmagnitude greater than the equivalent software experiment.
-

From 2010 onward, VCs sharply reduced
Series A funding for new companies andtransitioned remaining cleantech
investments to focus heavily on software

From 2010 onward, as VCs cottoned on to the difficulties facing their early investments, they sharply
reduced Series A funding for new companies and transitioned any remaining cleantech investments tofocus heavily on software and deployment finance at the expense of hardware and physical sciences (Figure3b). Some hardware companies that managed to raise money ahead of the decline shifted focus from
hardware to software. For example, Bridgelux, a lighting company, recently sold the remaining hardware
portion of its LED business to China Electronics Corporation in order to focus on the software-enabled,
connected lighting.30
Difficulties in scaling lab science to factory production help explain why cleantech companies
underperformed companies in the software sector. But medical technology companies also often involve
groundbreaking innovation, are capital equipment intense, and require production at scale—some otherfactor is needed to explain the gap between medical technology and cleantech start-up performance.

9

Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

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B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016

Looking at the nature of exits from the two sectors
offers a clue (Figure 4). Fewer than 4 percent ofcleantech companies were acquired underfavorable terms. By contrast, 6 percent of medical
technology start-ups exited through acquisition,offering a route to returning VC capital before acompany had fully achieved scale. For example,
large pharmaceutical firms would acquire start-ups
developing drugs that had passed importantmilestones in regulatory testing, but had not yet
received a green light. But instead of requiring
years of further development and VC funding,these companies would return capital to investors
and then enjoy the scale and customer pipeline of alarge company as they refined their product.
The dearth of large companies willing to acquirecleantech start-ups stranded companies withpromising technologies that had run up against thecapital and time horizon constraints of VCs. Overthe past decade, major energy companies divested
much of their clean energy portfolios—Shell announced it would not invest in wind and solar in 2009, andBP left the solar industry in 2011.3132 Without a viable acquisition pathway and facing a long grind toachieve the bottom line performance necessary to enter public markets, cleantech companies outlived thepatience of VC investors unwilling to lock up their funds’ capital for a decade or tolerate massive capitaloutlays to scale up production.

Beyond the VC Model for Cleantech
One lesson that entrepreneurs may take away from this story is that cleantech companies need to adapt to
fit the constraints of VCs. Perhaps any cleantech company ought to be a software company in disguise, andnew materials and processes are hopeless money losers.
That lesson is wrong and could be a disastrous impediment to the development of much-needed clean
technologies to upend the world’s energy systems—a transformation that software alone cannot
accomplish. The correct lesson is that cleantech clearly does not fit the risk, return, or time profiles of
traditional venture capital investors. And as a result, the sector requires a more diverse set of actors andinnovation models.

11

Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

Bill Gates and his fellow billionaires have already pledged
Demonstrating first-of-a-kind products andto provide more “patient capital” for risky cleantechbuilding factories to churn out units at scaleventures pursuing fundamental science breakthroughs—
will require further infusions of capitalthat is, they will invest early, provide substantial capital,
and tolerate long delays before potential returns. And if Congress agrees to double present appropriationsof roughly $6 billion of funding for cleantech R&D—which the Obama administration signed up to in
Paris—that money could fund alternatives to VC funding.
-

Still, demonstrating first-of-a-kind products and building factories to churn out units at scale will require
further infusions of capital. That money could come from institutional investors like pension funds,
sovereign wealth funds, and family offices, which are set up to wait for decades to realize returns but areoften inexperienced technology investors. Some of these investors are already testing the waters ofcleantech investing. In June 2015, the White House announced that multiple networks of institutional
investors and charitable foundations around the world had collectively pledged $4 billion toward scaling up
innovative cleantech companies and technologies.33 More of these investors may enter the cleantech sector
if they perceive viable routes for a company to return invested capital, like strategic investments andacquisitions by established companies who offer start-ups a route to scale-up and market access. There aresigns that firms are increasingly willing do so—for example, in May 2016, two global oil companies
announced technology partnerships with smaller cleantech firms.34,35
Public policymakers can support increased involvement of these actors in supporting cleantech companies
by lowering the risk of cleantech investments. First, they should increase support to start-ups and private
investors to provide an alternative to VC funding. The Department of Energy can do this by increasing
funding for the Small Business Innovation Research and Small Business Investment Company programs
and supporting the expansion of private and non-profit cleantech incubators and accelerators. Congress
can also increase funding to ARPA-E, the energy analogue to the Defense Advanced Research Projects
Agency (DARPA, which was largely responsible for funding early work on the Internet and autonomousvehicles).36 Second, to encourage corporations to participate in cleantech innovation, the federal
government should incentivize regional partnerships between large corporations, startups, and incubatorsand offer favorable technology transfer terms from the national laboratories. Similarly, the government
should continue to develop a national manufacturing program by continuing to fund the National Networkof Manufacturing Institutes that start-ups and large companies alike can access to improve manufacturing
techniques en route to new technology commercialization. Third, the federal government should further
expand access to federal research institutes through programs like the Department of Energy’s Small
Business Vouchers. Moreover, the Department of Energy should support entrepreneurship at the national
laboratories—its programs providing innovators access to shared lab resources at Lawrence Berkeley and
Argonne National Laboratories are models that can be replicated across the country.
Indeed, if cleantech entrepreneurs can use shared resources from federally funded research centers,
university labs, private research institutes, or incubators, they can avoid the VC countdown clock to exit.
And the rise and fall of hundreds of start-ups might have an upside if a new generation of public and private
support avoids the missteps of the cleantech VC boom and bust.

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B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016

Appendix: Full Methodology
We compiled a database of all early-stage venture capital investments in cleantech as well as in two othertechnology sectors. Previous studies have discussed the changes in the amount of early-stage cleantech
investment during the period of increased investment and just after the retrenchment began.37,38 In orderto report the performance of those investments, we have selected A-Round investments that occurred in
2006–2011, which corresponds to the significant rise and fall in early-stage financing. This data enabled us
to compare the risk and return profiles of cleantech investments against those of other sectors. Moreover,
we used the database to isolate commonalities among companies that underperformed as VC investments
and to identify factors that drove success in other sectors but not in cleantech.
We evaluate the performance of cleantech venture capital investment over the life of the investment as ofJanuary 2015, starting with the A-round financing event, and concluding when the invested company
either closes or returns capital to the investors. Previous analyses of non-sector-specific venture investment
have evaluated the performance of investment funds using proprietary data provided by investors in thefunds.39,40,41,42 This study addresses the need for transparent analysis based on publicly available data.
Because cleantech investments were made by both sector-targeted funds and generalist funds, we use
individual financing events and track the returns to investors.
Sector Analysis
We compare the performance of cleantech investments to that of software and medical technology
investments. Software companies include those producing enterprise and consumer focused software, web
applications, mobile applications, and social media. Medical technology companies include thosecommercializing pharmaceuticals and medical devices.
We placed each cleantech company into one of five categories based on the core innovation it
commercialized through VC funding:
•
•
•
•
•

Materials, chemicals, or manufacturing processes
Hardware integration
Software or software appliances
Finance and deployment
Other products or services, including recycling, consulting, and energy efficiency audits

Examples of companies developing new materials, chemicals, or manufacturing processes include thosedeveloping new collector materials for solar photovoltaics, such as copper-indium-gallium-selenide, or
cathode materials for lithium-ion batteries, such as nickel-manganese-cobalt-oxide. The category also
includes biofuels companies creating fossil-fuel replacements from plant matter. New processes forcreating existing compounds are also included, such as using algae to create ethanol. Hardware integrators
combine off-the-shelf components in novel ways. One such company, Better Place, hoped to assemble
electric cars and electric vehicle charging stations. Cleantech software companies, like OPower, and13

Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

software appliances, like Nest, apply advances in computing power to energy management or energy
efficiency. We distinguish hardware from software appliances, where significant value is added bysoftware, even if a tangible product is sold. Companies that finance and deploy clean energy technologies
may include those that directly install or provide loans for installations of new technology, including solar
panels and energy storage systems. Other companies, those that did not fit into the previous categories,
typically offered materials recycling services, recycling infrastructure, energy audits, or energy efficiency
consulting programs.
Table 1: Financing events in the data set. The table shows the number of companies in the data set in eachtechnology sector, as well as the breakdown of companies with disclosed A-round financing events. Eachsubsequent row reports the number of “live” companies remaining after we filtered the data set, first to limit
our scope to companies that received A-round financing events between 2006–2011, then to companies
whose exit outcome is known or reasonably guessed. The details of this filtering process are described in
Section 3.2.

Venture Capital Investment Data
The deal-by-deal financing data discussed in this study was obtained from CrunchBase, aggregate cleantech
financing data from Bloomberg New Energy Finance, market capitalization data from NASDAQ, and S&P
500 data from the Federal Reserve Bank in St. Louis and Yahoo! Finance. In some cases, when financing
data was not available in the data set, additional data was gathered from public sources including news
articles, press releases, and disclosures to financial regulators. In order to evaluate the cleantech financing
boom that peaked in 2008 and subsequent bust, we evaluate financing rounds that occurred from 2006 to2011 and exits through the end of 2014. A summary of the available data and how it was filtered for thisanalysis is shown in Table I.
The details of financing events and exits are sometimes unavailable in non-proprietary data sources.
Occasionally, the amounts invested in early funding rounds are not public. We find that undisclosed
fundraising events are more common in earlier financing rounds, were more common in earlier funding
years and have become less frequent, and that these trends are consistent across sectors. As seen in Table I,
across the three sectors, approximately 23% of companies had disclosed A-rounds. The distribution of Brounds (not shown) was slightly more variable: 11% of cleantech companies had disclosed B-rounds,
compared to 9% of software companies and 15% of biotech companies. Among the companies in the data
set that raised A-rounds, 33% went on to raise a disclosed B-round. Approximately half of the companies
that raised B-rounds did not have disclosed A rounds. When an A-round financing event was disclosed but

14B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016

the amount of money raised in the round was not available, we approximated the funding by using themedian level of all disclosed A-round funding events in that sector, and we set uncertainty bounds at thefirst and third quartile. We found that venture capitalists treated cleantech deals much like medical orsoftware technology investments. Per company, investors deployed similar amounts of capital in eachround across the three sectors and made investments at similar times in a company’s life cycle. (Figure 5)

Acquisition prices are also not always available, because there is no disclosure requirement unless theacquisition is material to a publicly traded acquirer’s business. Undisclosed exits are often an indication thatan investment did not return capital to investors. For these companies, we estimate on average that the exit
returned the invested capital to investors, yielding a 1× multiple, and we set our uncertainty bounds at 0×and 2×. Companies that closed or declared bankruptcy are categorized as having failed, and are recorded ashaving an exit value of $0.0. To separate companies that “succeeded” from companies that “failed,” we use
a very conservative metric, classifying “successful” companies as those who returned more capital to Around investors than what they originally invested. Because VC investors have a higher threshold forsuccess, this classification will conservatively classify more companies as successes, making any result
supporting the hypothesized higher failure rate of cleantech companies more credible.
Our data shows that ninety percent of companies that received venture capital investment during thisperiod neither exited nor closed. Their status as successes or failures can be difficult to categorize. Some of15

Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

these companies may be growing steadily and may raise new funds. Other companies may yet exit. Stillothers will continue to operate for many years without exiting. Companies in this last category are
considered failures from the perspective of the investors, who expect a large exit within three to five years.
Investors refer to them as the “living dead” or “zombie” companies.43,44,45,46 Among these companies thathave not exited or closed, we separate them into “dead” companies, and “live” companies. Over 80% of thecompanies that either exit or raise a new round of funding do so within three years of their previous
funding round. Therefore, companies that received venture capital investment in the past three years are
categorized as “live” companies, and are excluded from the data set, since their fate cannot yet be
determined. It is likely that on average, “live” software and medical technology companies would fareapproximately as well as companies who received investment earlier and whose fate has been determined.
It is possible that because the cleantech sector is newer, recent investments may perform better than theinitial cohort of investments. This may be true in particular if current live companies have adapted tochanging conditions after the first wave of failures. For instance, they may have different business models
or they may have access to support services of local governments, incubators, and accelerators that were
not available to the first cohort.
Those companies that have neither exited nor raised new funds in the past three years are considered“dead” and we record them as having an exit value of $0. The number of companies remaining in eachsector—those that had disclosed fundraising rounds between 2006 and 2011 and are not “live” companies
can be found in Table 1.
Limiting the data set to the 2006-2011 time period excludes some notable successful cleantech exits. For
instance, Tesla Motors, an electric vehicle manufacturer, raised a $7.5 million A-round in 2004 and a $13
million B-round in 2005. The company exited in 2010 with a market value of $1.6 billion. A-roundinvestors with a 12% stake would have seen the value of their investment rise to $192 million on the day of
the IPO, for an estimated multiple of 26×. Analysis of the IPO filing shows that Elon Musk’s $6.5 million
A-round investment was diluted to a 13.8% stake in the company at IPO, giving him a 34× return on thatinvestment at the time.47,48 Nevertheless, this study’s time window includes a large majority of thecleantech companies that received initial funding over the last decade, so results from this period arebroadly representative of the cleantech boom and bust.
Assessment of Risk and Return in Venture Capital Portfolios
When comparing the performance of investments we average the investments in each category in each year
in an effort to reduce the effect of the well-known high variability in venture capital returns.49 An individual
VC investor will often make only one or two investments per year; therefore we aggregate all the deals in agiven sector in a given year to measure the investor’s expected outcomes. Table III shows the cleantech
investments of 2006 to illustrate our methodology. This approach includes both the best and worst
outcomes for investors. Other studies have shown that the best outcomes for venture capital accrue to the
top quintile of funds.50 Therefore, we have also compared performance for only the best investments ineach sector.

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B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016

We evaluate the risk of investment in each of the three sectors by comparing the historical failure rates(Figure 6). For each investment year, we calculate the fraction of companies that failed to reach a successful
exit. For instance, in 2006, two of ten cleantech A-round investments returned at least the invested capital
to investors (see Table 2). This is recorded as an 80% chance of failure for A-round cleantech investmentsin that year. Recall that the venture capital investor typically expects an 80%–90% failure rate in earlyrounds.
Table 2: Cleantech A-round investments in the year 2006. The outcome, distribution, IRR, and cashon-cash multiple for each investment and for the yearly portfolio of investments are shown. All dollar
values are reported in millions.

Risks that investors take must be matched by returns from successful investments. There are many ways toevaluate the return of an investment. Because we are interested in comparing the performance across thethree sectors, we report the internal rate of return (IRR) and a cash-on-cash multiple (CoC). These metrics
are compared for two hypothetical investments in Table 3.
The returns to investors depend upon the amount invested (the paid-in-capital) VPIC, the total enterprisevalue at the time of exit Vexit, the ownership stake at exit fstake, and the elapsed time until returns are
realized t. For companies that are acquired, the exit value is simply the sale price. For companies that exit
through an IPO, the total exit value used here is the market capitalization based on the price at which theinitial shares are offered. It is important to note that there is often a “lockup” period during which early
investors and founders cannot liquidate their position (realize a return). This period often lasts 180 days
after the IPO. During this period, the publicly traded stock may appreciate or depreciate.
The returns distributed to investors depend upon the number of shares they own at the time of exit. This
fractional ownership stake depends on the terms of the original financing deal, as well as subsequent

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Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

investments. The stake an investor takes during a fundraising event varies with each deal, and this stake isusually diluted when new shares are issued in subsequent fundraising rounds. Though there are no fixed
ranges, when a company exits an A-round investor may own 5–50% of the company (though <15% istypical). Because the exact ownership stakes are often not disclosed until a company files for an IPO, ourcalculations model the returns assuming an estimated stake of 12%, with our error bounds set at 8% and16%. This central value and associated uncertainty bounds were derived from numerous publicly disclosed
investments in startups across the three sectors. The effects of ownership stake on IRR and multiple can beseen in Table 3.
Table 3: Example investments and returns. The distribution, IRR, and cash-on-cash multiple for aninvestment of $10 million and a $200 million exit are shown as a function of the ownership stake at exit. All
dollar values are reported in millions.

In our analysis, we discount for time from the perspective of the limited partners. In this paper we consider
the investment returns exclusive of fees collected by the VC fund. These fees are often structured as anannual operation fee of 2% of the committed capital, which may decrease towards the end of the 10-year
life of the fund, and 20% of the proceeds of all earnings after the limited partners paid-in-capital has beenreturned. See, for instance, Ref. 33. The LP typically does not pay in capital until the investment is made.
Therefore, the time of the investment is the time between the funding event and the exit. Table II evaluates
the returns from two hypothetical investments that are identical except for the amount of time between
investment and exit. As discussed below, time will affect IRR but not the cash-on-cash multiple.
Internal rate of return
The IRR for a given investment accounts for the time elapsed (t) between the investment and the exit. IRR
is the value of the discount rate r at which the net present value of an investment equals zero. IRR can beused by an investor to compare investment alternatives, and indeed is often reported by venture capitalfunds.51 In general, a higher IRR indicates a better investment, though we note that there are many caveats
to using IRR as the only measure of performance and that it may not always lead to a straightforward
comparison.52
For a single investment the IRR, R, is given by the expression:

(1)

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B. Gaddy, V. Sivaram, and F.O. Sullivan, 2016

For a portfolio of n investments, R is given by the solution to the equation(2)
Cash-on-cash multiple
The cash-on-cash multiple (mCoC) provides a way to compare investments without considering the timeof the investment. This metric is also often used by venture capital funds when they report theirperformance. The multiple is determined according to the expression(3)
For a portfolio of n investments, the total cash-on-cash return MCoC is determined by a sum of the capital
distributed divided by the capital invested, according to(4)
Expected multiple for successes
We also evaluate each investment year according to the expected return multiple on successful investments,
which is identical to the cash-on-cash computation, but summed across only successful investments.

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Venture Capital and Cleantech: The Wrong Model for Energy Innovation?

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