Wednesday, November 05, 2008

An ideal cleantech environment- the three basic macro trends behind the cleantech investment thesis remain wholly intact

Reprinted with permission from author- I thought this was a great article - reminding us of the key drivers behind investing in the sector. The general financial media focuses very short term and has forgotten about global warming in the midst of the economic crisis

An ideal cleantech environment- the three basic macro trends behind the cleantech investment thesis remain wholly intact

By Glen Schwaber- Israel Cleantech Ventures
Now is a perfect time for Israeli cleantech entrepreneurs..

Crude oil has plummeted over 55% since it peaked at $147 in mid-July. Credit markets, necessary for large scale project finance in solar, wind, and water, have dried up. As of October 16th, the Goldman Sachs Renewables Composite was down 59% for the year, almost twice the drop in the Nasdaq and S&P 500 indexes. Q-Cells, one of the darlings of the solar industry is down nearly 60% in the last month alone, trading at just 24% of its peak value. M&A values will surely drop in tandem with the stock currency of the acquirers and the IPO window is shut completely. Meanwhile, rhetoric by world leaders on climate change is beginning to factor in the challenge of maintaining policy goals in the face of broader economic concerns.

So why are we not stopping our investments or recommending that our portfolio company CEOs stop theirs? The reason is simple. Banking crisis notwithstanding, the fundamental drivers of cleantech innovation have not changed one iota in the past few months.

Mean temperatures on the planet have not suddenly fallen with the stock market. Melting glaciers have not frozen up like the market for sub-prime loans. Endangered species have not stopped going extinct. People haven’t stopped needing to drink clean water. Nor have they ceased using electricity or driving their cars. Nor have they stopped having babies. And the Iranians have not suddenly become our friends.

Put another way, the three basic macro trends behind the cleantech investment thesis remain wholly intact:

Climate change is real and is unfortunately here to stay. Global mean temperatures have already risen in close correlation to greenhouse gas emissions / carbon dioxide equivalents. The pace of carbon dioxide emissions is still accelerating. We are already at over 384 parts per million of CO2 in the atmosphere, where we haven’t been for millions of years and are on pace to warm our planet by an additional 2 degrees Celsius by mid-century, with resulting known and unforeseeable changes to sea levels, weather patterns, and humankind’s living conditions on earth.

The world’s population is rising at a remarkable pace. There are about 6.7 billion people on earth today, with projections reaching 9.2 billion by 2050. Even more significant than the raw population growth, the number of people moving to cities in search of a middle-class livelihood afforded through industrialization and economic growth has accelerated rapidly. According to the UN, by 2015 (which is just around the corner and is incidentally well within the 10 year time frame of a new cleantech venture fund) there will be 26 cities with 10 million people or more. In 1975, the number of these “mega-cities” was just 5. More people, particularly more middle class urban people mean far greater consumption of natural resources, potable water, and energy.

The West is dependent on oil and natural gas supplies from unstable and unpredictable regimes, some of whom are using oil revenues to fund terrorism and war. Regardless of whether oil is at $140 per barrel or $40 per barrel, the Western industrialized world is dependent on OPEC supplies and is therefore stuck in the position of funding some of its own worst enemies.

Taken together, these three drivers will continue to push policy, innovation, and investment in cleantech over the coming years. But even in the short term, we have already seen at least two encouraging signals about the future direction of the cleantech industry. First, on the policy side, it is noteworthy that the $700 billion Emergency Economic Stabilization Act passed in the US, included a tax extenders bill containing several tax breaks and incentives for renewable energy and clean technologies.

This $17 Billion bill mandates an eight year extension of the investment tax credits (ITC) for all solar systems, and removes the $2,000 cap on residential systems. Passage of this bill gave long-awaited certainty to the solar markets in the US with both residential and utility scale solar companies set to benefit. In addition, the bill offers substantial incentives for wind, biofuels, and fuel cells. This is likely just a first step toward a more active US national policy approach towards renewables, given that President-elect Barak Obama supports carbon mitigation legislation at the federal level. And with the US consuming nearly 25% of the world’s energy, once the federal government starts putting effective price signals in place, the pace of cleantech innovation is likely to balloon.

A second encouraging sign came in the form of GE’s public announcement on October 20th, which included results and expectations from its environmental business. Despite the economic downturn, GE said it expects 2008 revenue from its energy efficiency products to increase by 21% to $17 billion since last year. Its annual investment in cleaner research and development will surpass $1.4 billion, a $300M increase over last year. GE also said it has cut greenhouse gas emissions from its own operations by 8%, from about 7.7 million metric tons of carbon dioxide equivalent, since 2004. Energy cost savings to GE have so far been $100 million. "There is a green lining among the current economic storm clouds and GE customers and investors are benefiting," said Jeff Immelt, GE’s CEO. "Cleaner innovation and technology resonate in the marketplace, while we slash our own energy and water costs and emissions, further strengthening GE's competitive position and the advantage GE offers to its customers."

GE is betting its future on cleantech innovation, and they are not the only large company doing so. Policymakers in Washington extended renewable energy tax credits for 8 years and that is likely just a prelude to more far-reaching national legislation. So yes, in the short term, cleantech markets will likely be jittery as a result of financial volatility and the precipitous decline in oil prices. A reduction in the price of oil will go hand in hand with reductions in the price of natural gas and even coal-generated electricity. The immediate impetus for change at the consumer level may ease as energy bills come down.

Later stage cleantech companies that were counting on access to public markets or significant debt financing to fund their future growth are going to have a challenging time ahead. We can expect a drop in cleantech VC investments in Q4, as compared to Q3, and likely continuing into 2009. But the bigger picture is that unlike with previous oil price declines, this time the larger, more sustained drivers for cleantech innovation are not likely to disappear from the consciousness of policymakers and industrial giants.

To conclude, let me put things into a slightly more personal perspective. When we completed the first closing of Israel Cleantech Ventures in January 2007, oil prices were at $55 per barrel. At the time, that price was considered relatively high. We have now made nine investments and, despite the unprecedented drop in commodity prices of late, oil still has not returned to that price point. Yet just since January 2007, we humans have emitted about 50 billion additional metric tons of carbon dioxide equivalents into the atmosphere, increased the world’s population by 150 million people (that’s about 20x Israel’s total population), and provided OPEC (including countries like Saudi Arabia, Iran, and Libya) with $1.6 trillion worth of oil revenues (that’s the equivalent of 10x Israel’s GDP).

Needless to say, the motivating forces behind cleantech are here to stay. In fact, as former President Bill Clinton recently remarked, once we stop looking to make money out of money and go back to making money out of business innovation, the cleantech industry will be at the center of that innovation, leading us out of recession and into the next great phase of economic growth. Now, more than ever, is a perfect time for Israeli cleantech entrepreneurs to start new businesses and to secure this country’s part in that next great phase of growth.

The author is a partner at Israel Cleantech Ventures.

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