Wednesday, May 30, 2007

"Cleantech venture bubble" watch, pt 3: Biofuels

As we discussed before, it's tough to declare a "bubble" across all cleantech sectors, especially when looking only at venture investments (versus the public markets).

There remains the possibility of small bubbles within certain sub-sectors, however.

One such sub-sector that is frequently called out as potentially seeing overinvestment is biofuels. Some investors, such as CMEA's Maurice Gunderson, have gone on record as saying so. And in the public market, previous high-flying ethanol stocks have been experiencing a bumpy ride lately. In the same article linked in the last sentence, Lux's Michael Holman declares that: "The herd mentality has begun to take over in the venture capital community and there is probably some not very wise money that is flowing into the ethanol segment in particular." Moo. Meanwhile, big major entrenched oil companies are also aggressively moving in.

As Nth Power's 2006 energy tech VC funding tallies showed, biofuels did indeed dominate last year, with more than a third of all VC energy tech funding going into the segment.

The argument for a bubble is simple: Even by optimistic forecasts of demand for ethanol going forward, there is a glut of announced future capacity. And thus, the high amount of money flowing into the sector won't be able to find a good home.

But as always, it's not quite so simple. Even just going by the above critiques, the data points to some distinctions within the biofuels sector from a venture perspective. The notable distinctions to make are tech versus capacity investments, ethanol versus other biofuels, and incumbent versus cellulosic technologies.

As the CleanEdge/ Nth Power report showed, a lot of the heft behind the hefty biofuels totals was due to VC participation in "capacity deals" -- essentially, venture equity used alongside project finance funding, inflating the "VC" numbers. And if you read what Maurice was describing, he was mostly concerned about this kind of investment as well (it's important to note that CMEA remains active in biofuels investments). Also, most critiques focus on ethanol, whereas biodiesel, biobutanol and other more exotic bio-based alternative fuels are rarely singled out as suffering from overinvestment.

Furthermore, while most of the publicly-traded ethanol stocks being criticized, as well as most of the capacity deals being funded privately, are based on incumbent technologies (basically: corn as feedstock)... Technologies to enable the use of non-food and cellulosic feedstocks are what continue to get the most VC attention these days. Vinod is particularly clear on this point, despite having taken part in some capacity investing himself -- in the various debates he's taken part of around energy balance and the market potential for ethanol, he always makes the clear distinction that cellulosic will overtake corn-ethanol (he believes this will happen within 10 years -- the below graph of his forecast comes from Wired from last October, btw). And we have only talked about the processing portion of the biofuels value chain -- there has been even less investment activity into upstream and downstream approaches.


None of the above says that there is NOT a bubble across the full spectrum of VC biofuels investments (and this site doesn't deal with public markets, so let's pass the buck there...). But if you had to rank the order of likelihood of potential overinvestment within the biofuels sector, pointing out capacity deals in corn-ethanol as a likely prime suspect would make the most sense. And it seems less likely, given the opportunities down the road, that there is a bubble in technology development for next generation feedstocks and next generation biofuels -- but given the timeframes we're talking about, it's still possible. Certainly, if these technology development startups all try to build their own processing capacity, that could exacerbate the glut -- but trade sale exits to capacity players is a more likely scenario for many of them.

The anecdotal evidence, for what it's worth, is mixed: There are definitely some biofuels deals that have been out there with very high valuation expectations, and some of those expectations have been met by VCs in a couple of cases. But also, there continue to be other opportunities where the entrepreneurs recognize the long, risky road ahead and have realistic expectations, where the VCs are bringing value-add strategic value to help early companies grow, and it's a win-win. (Hopefully...)

In other words: Is there a bubble in biofuels venture investments? A solid "maybe". Some instances where VCs have stretched themselves, mixed with indications that there are still some promising opportunities in lesser-invested areas of the biofuels value chain and in new technologies. As the market continues to develop, naturally there will be winners and losers, and those in between.

But is all the upside currently being priced out of the biofuels investment sector, across the board? ...It just doesn't feel like it.

In other news:
Other news and notes: Another reason to continue to be excited about cleantech investments -- the fact that a lot of proven entrepreneurial talent is now rushing into the space... The debate over the role for coal continues... Cleantech as a national security issue... "Efficiency is the steak, renewables are the sizzle"... And demand response/ demand management is a huge potential market... The challenges facing electric vehicles -- but Tesla's got a Plan B, as a battery distributor... Finally, for all the Amish readers of this website, you'll be glad to know that solar power is now an option.

2 Comments:

Blogger Patrik Marckert said...

Rob,
I think you make an important point about the possibility of bubbles within subsectors, but not on the biofuel sector as whole (and even less considering the entire renewable energy sector). I discuss that on my blog. It is unfortunate for the market development if biofuels with low energy efficiency get subsidized in front of others, because of other political reasons.

11:00 AM  
Blogger dimano said...

I enjoyed your posting and the barriers to ethanol. Recently I came across this report on the ethanol investment potential and lack thereof. Thought you may be interested in checking it out.

http://www.whiskeyandgunpowder.com/Report/EthanolReport.html

Thanks again.

10:03 AM  

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