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Thursday, September 16, 2010

VCs Planting the Seeds for a Cleantech Bumper Crop in L.A.

from John Paglia





Los Angeles boasts 543,835 privately held companies -- among the largest concentrations of small businesses in the world, according to the National Association of Women Business Owners. The city is also home to more than 1,100 startup companies -- the type of companies with the potential for high-growth and strong return on investment. 

Adding to these facts is data from California's economic development department showing that information technology (IT) is projected to be a leader in job creation in Los Angeles through 2016, making the benefits to the local economy from venture capital-backed companies quite apparent.

Our research suggests even more can be done to stimulate investment in Los Angeles startups. One area -- cleantech -- is poised to lead the way if spurred by entrepreneurial drive and public policy.

We interviewed more than 150 venture capital (VC) professionals in early 2010 for the Pepperdine Private Capital Markets Project, finding that cleantech was among the areas in which they expect to invest. Specifically, 22.4 percent of respondents indicating plans to invest in cleantech will do so in energy generation, followed by 16.9 percent who will invest in energy infrastructure, and 12.6 percent who planned to invest in energy storage.

In the same survey, VCs also said that Southern California was a popular choice to make an investment, with around 17.4 percent of respondents reporting future investment plans in Southern California, compared to 7.9 percent of VCs who named Silicon Valley.  

A separate report from Dow Jones VentureSource confirms that cleantech investment in Silicon Valley endured a tough first quarter but enjoyed a strong upswing in the second quarter, thus setting the pace. Across the state, venture capital investment reached nearly $4 billon during the second quarter, a 51 percent gain from the same period last year and the highest level since the third quarter of 2008.

Other recent data confirm that venture capital funding is picking up steam, especially in the cleantech arena. VC funding in cleantech companies topped $1.5 billion in the second quarter -- a 63.8 percent increase from the same quarter in 2009, according to Ernst & Young. The research firm CB Insights found that California received a significant amount of the recent cleantech investments, securing 47 percent of the deals and 62 percent of the capital.

Finally, another report from the Environmental Defense Fund shows Los Angeles County has the most cleantech companies in the state. With access to the ports, a strong, skilled workforce, a robust university presence, and industry groups such as Clean Tech Los Angeles, the city is primed for growth in the cleantech sector.

California has much to gain if this upswing in venture capital investment can take hold. A cleantech future in Los Angeles could fulfill our energy needs through more efficient means. The stars seem to be aligning for investing in Los Angeles' cleantech industries.

Organizations, however, need to start thinking now about how to market themselves and their products to benefit from greater availability of venture capital. The research from the Pepperdine Private Capital Markets report offers some insights into what venture capital providers seek in a potential investment.

More than 52.6 percent of VCs, for example, said that "top-tier management teams" are the most important characteristic in a potential investment.  The study also showed venture capital providers seek "scalable and capital efficient business models" (21.1 percent) and "deals that are not widely shopped" (13.6 percent).  So, marketing to these traits would serve a would-be funded company.

Interestingly, one of the most important factors that investors use when considering a deal is "gut feel," according to the research from Graziadio School of Business and Management at Pepperdine.

Among 11 investment analysis techniques offered, "gut feel" (56 percent) closely followed "market analysis" (62.5 percent) for most popular investment analysis technique. It beat out other tried-and-true techniques, such as "internal rate of return," (41.7 percent) "multiple analysis" (46.2 percent) and even "payback" (30.4 percent). This phenomenon has been confirmed in previous iterations of the study and suggests that those seeking venture capital can expect investors to consider the non-scientific factors as well. 

At the same time companies undergo self-examination, city policy also plays an important role in cleantech investing. That means continued focus on employment and investment tax credits, permit expediting assistance, workforce recruitment and training, utility rebates and other financial incentives for large scale projects, such as Los Angeles Mayor Antonio Villaraigosa's downtown cleantech corridor. Local Los Angeles-area municipalities could also follow the lead of the city of Pasadena, which has offered incentives for nearby cleantech startup clusters through permit expediting, lower fees, and other incentives.

It is clear that the City of Angels is poised for growth in the cleantech sector. The degree to which that growth will occur will be dependent on a collaborative effort between innovators, marketers and policymakers.

Dr. John Paglia, the Denney Academic Chair and former Julian Virtue Professor, is an associate professor of finance and senior researcher of the Pepperdine Private Capital Markets Project (http://bschool.pepperdine.edu/privatecapital). He holds a Ph.D. in Finance, an MBA, a B.S. in Finance, and is a Certified Public Accountant (CPA), Accredited in Business Valuation (ABV), Chartered Financial Analyst (CFA), and is an Accredited Senior Appraiser in business valuation (ASA). This article originally appeared on ClimateBiz.com and is reprinted with permission.


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