Determinants of Venture Capital Investment in Clean Energy
After a venture capital boom and bust in clean energy investments in the early 2000s, investors and policymakers have recently shown renewed interest in green startups. In The Role of Venture Capital and Governments in Clean Energy: Lessons from the First Cleantech Bubble (NBER Working Paper 29919), Matthias van den Heuvel and David Popp investigate the factors that contributed to the past decline in venture funding. They analyze comprehensive Crunchbase data on over 149,000 startups active between 2000 and 2021 in the clean energy, electric vehicles (EV), information and communications technology (ICT), and biotech sectors. They collect data on firm exit via initial public offerings or acquisitions and calculate “cash on cash” (CoC), the ratio of returned over invested capital.
Changes in expected future demand for clean energy are key drivers of venture capital investment decisions.
The researchers argue that neither long time horizons before investments pay off nor high capital intensity are sufficient explanations for limited venture capital (VC) interest in this industry. They find that while less capital-intensive digital energy startups did fare better in the early stages of the cleantech bust, more recently digital energy startups did not experience higher rates of successful exits and did not receive more funding than their nondigital clean energy counterparts.
In contrast, the researchers find that changing projections of the future demand for clean energy products significantly affects VC funding decisions. They illustrate this point with a historical episode: the 2009 death of Democratic Senator Ted Kennedy and subsequent victory of a Republican successor, Scott Brown. This political shift reduced the likelihood that federal climate change legislation would be enacted, lowering expected future demand for green energy products. The researchers find that before the political change, 4.9 percent of VC-funded startups were in clean energy; after the change this dropped to 3.7 percent. Additionally, VCs became more selective in startup quality: startups that received their first Series A after the political change had a significantly higher probability of securing follow-on Series B and C funding and had higher CoC returns. Because previously anticipated federal climate change legislation never materialized, those startups first funded prior to the political change fared worse.