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NEW ENERGY IN VENTURE CAPITALAdele Frankel is an analyst at Venture Economics in Newark, NJ. Suddenly, venture capitalists are investing in everything from distributed generation to online energy exchanges—and many utilities are joining them to cultivate future earnings growth. Since the 1960s, venture capitalists have invested alongside management in young, rapidly growing companies that hold the promise of becoming significant economic contributors. They purchase equity securities, help develop new products, and generally take high risks in anticipation of high rewards. And often that reward is very high—some of the companies that have benefited from venture capital now have the bluest of chips, like Digital Equipment Corporation, Apple, Intel, Microsoft, Federal Express, and Genentech. In recent years, venture capital firms have focused on information technology and internet companies—from the young start-ups of recent legend to high-tech companies at later stages of their business cycle. But venture capital has kept away from energy companies. The reason is simple—the energy industry, with its traditionally high levels of regulation, is considered slow-moving, without that entrepreneurial oomph needed to spur technological innovation. Moreover, the industry requires large sums of capital up front and offers only low returns on investments. As deregulation and industry restructuring progress, however, prospects for high-growth technology companies in the utility industry are evolving. Venture capital firms—private partnerships or closely-held corporations funded by other corporations, pension funds, endowment funds, foundations, and other investors—are beginning to take notice, establishing funds focused largely on technology companies servicing the utility industry. In fact, a small number of such firms devote themselves solely to energy investments. Utility companies, as well, see opportunities. Facing competition, tighter margins, and lower revenues in their traditional business, they realize that they must find new ways to raise income and also must look at new technologies to become more efficient. Many conventional utility companies have set up venture arms to finance high-growth companies such as Internet exchanges for oil, gas, and power; utility bill presentment and consolidation; and other business-to-business e-commerce services. In addition to the internet, many dollars are being poured into companies that develop alternative energy sources, especially fuel cells and other types of distributed generation.
Most of this capital has been going to online energy exchanges, but there has also been an increase—from $3 million in 1995 to $20 million in 1999—in funding for alternative energy ventures. (See Figure 2.)
More than giving utility companies a financial stake, such investments also gives them a stake in the technology itself and the future of that technology. Investors are predicting that the energy industry will experience a giant boom mirroring that of the telecommunications industry after its deregulation. Venturing Out Avista Corporation is an archetype of a long-established energy company that has undergone major transformations to stay afloat in the reorganized energy market. Expanding beyond its traditional roots in the energy industry, Avista Corporation has created affiliated companies like Avista Advantage (an e-commerce source that consolidates and analyzes customer energy bills), Avista Labs (a developer of modular proton exchange membrane—PEM—fuel cells), and Avista Communications (a provider of telecommunication services). Last April, Avista formed a new affiliate company, Avista Ventures, which seeks investment opportunities in start-up, development-stage, and rapid-expansion phase companies that will complement the parent corporation's affiliated companies and provide them with essential tools to help them expand. Avista has allocated $100 million to fund energy-related projects. Michael B. Cahill, president of Avista Ventures, attributes the change in focus partially to the deregulation of the energy market and partially to the need to find solutions to energy supply shortages and high customer prices. To Avista Ventures, the parent corporation has already committed $10 million to $20 million for 2000 and a similar amount for next year. The venture firm plans to invest directly into five or six companies each year. "We intend to provide 'smart money,' a venture capital term for the involvement and guidance that accompany the money invested into a company," states Cahill. "Although we currently have minor stakes in the companies we invest in, we are looking ahead and only choosing companies that we can form strategic alliances with in the future." Avista Ventures has already completed an initial investment in Metering Technology Corporation, a California-based company that develops and manufactures digital gas and electric meters with smart-card payment systems and two-way network communications capabilities for commercial and residential customers. "In order to grow Avista Advantage and bring it to the initial public offering stage, we are looking at business-to-business e-commerce companies with an energy twist or flavor, " states Cahill. Avista Ventures is also looking at investment opportunities in companies that develop technologies for batteries and fuel reformation to grow and expand Avista Lab's fuel cell operations. Another fuel-cell investment "angel" is DTE Energy, which in 1997 established a joint venture with Mechanical Technology to create Plug Power, which (like Avista Labs) develops PEM fuel cells—it expects to have commercial availability of residential fuel cells by the first half of 2002. Plug Power has a market capitalization in the range of $3 billion to $4 billion, and DTE Energy owns 32 percent. DTE Energy Technologies has the exclusive rights to distribute the Plug Power systems in Illinois, Indiana, Michigan, and Ohio. The other partners in the venture are GE Power Systems and Southern California Gas (a subsidiary of Sempra Energy). Supporting the Core Business
Exelon Capital Partners generally seeks out North American companies at the expansion stage of their business—Exelon typically invests $5 million to $8 million in each portfolio company, although it maintains the flexibility to invest larger amounts initially or through several stages. The portfolio companies are those that have already begun to deliver products and services to customers, have current sales in excess of $5 million, and have an ability to achieve a market valuation of $100 million or more within five years. Another example. PEPCO formed Potomac Capital Investment Corporation in 1995. It manages a portfolio of financial investments including securities, direct financing, and leveraged leases, as well as telecommunications and utility industry services businesses. Potomac Capital funds GenerLink, which manufactures a device that facilitates connecting a portable generator to a home—it will be the first in a series of products that PEPCO Technologies will offer. It is also involved in the joint venture between RCN Corporation and PEPCO Communications to offer residential and commercial communication services through Starpower, providing local and long distance telephone, cable television, and Internet dial-up and high-speed services in a bundled package. Besides its investments in energy, real estate and aircraft assets, Potomac Capital is involved with W.A. Chester, which specializes in the construction, installation, maintenance, and repair of underground transmission and distribution cable systems, and Severn Cable, a telecommunications construction contractor working primarily for Starpower Communications. PG&E has recently committed $100 million to Pacific Venture Capital (and promises $100 million each year for the next four years). The venture firm expects to back between 10 and 20 deals in its first year with an average deal size between $3 million and $7 million. Approximately 75 percent of the subsidiary's capital will go toward energy-related deals—the rest will back telecom companies. Funds Avista also has invested $5 million in EnerTech Limited Partners II, another venture capital fund. It is not alone—other investors include Conectiv, DTE Energy, Dynegy, GPU, IPALCO, and PECO Energy, as well as Electricite de France, Endesa, and Hydro-Quebec. The fund includes a wide-ranging portfolio of companies that have a utility industry focus:
For its part, Avista Ventures hopes that its investments in technology funds will provide a pipeline for future investment opportunities and help supplement business deal flow for direct or co-investments. "These investments give us a better toehold in the venture economic world by affording us the chance to communicate with other knowledgeable buyers, brokers, and incubators and find the best start-up companies out there," says Avista's Cahill. Another example is Nth Power Technologies, a venture capital firm that focuses solely on companies in the energy field that are on the threshold of introducing commercial products. The firm makes five to seven investments annually that are generally between $500,000 and $2 million, but the company is willing to commit up to $4 million over time. When it closed its first fund in 1996, it brought in more than $63 million, and most of its investors were utility companies, among them: Alliant Energy, Avistar (a subsidiary of Public Service of New Mexico), CapiTech (Hydro-Quebec), Cinergy, CH Energy Group (Central Hudson Gas & Electric), CNE VentureTech (Connecticut Energy), Electricite de France, FirstEnergy, PacifiCorp, Pacific Venture Capital, and Sierra Pacific Power. Nth Power concentrates on companies in information technology, distributed generation and storage, power quality communications, internet-enabled e-commerce, end-use consumer products, distribution automation, and outsourcing of business services. Some of the companies that have benefited from Nth Power investments are Capstone, Metallic Power (a zinc air fuel cell manufacturer), Evergreen Solar (a photovoltaic module manufacturer), Proton Energy Systems (a PEM fuel cell and hydrogen reformer manufacturer), Inari (providing technology for internet connections through power lines), Electronic PowerConditioning (providing power quality equipment), and Pentech Energy Solutions (HVAC management). By next year, Nth Power plans to close a new energy fund, capitalized in the $75-million-to-$100-million range. Several other funds are making energy-related companies their targets—Arete Ventures, Kinetic Ventures, Insight Capital Partners, and Battery Ventures are just a few of them. Many of these are investing in alternative energy companies. (See Table 1.) And though venture capital may be in the nascent stages for utility companies, it gives them not only technology that aids their companies, but also an entree into the technology business, along with (everyone hopes) the revenue stream that technology companies are enjoying. |
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Relatively speaking, venture capital investment in energy technologies is small, considering that investments in the Internet are in the billions. But in the past five years, the surge in venture funding cannot be missed. In 1999 a whopping $682 million was spent on energy, in contrast to a mere $50 million spent in 1995. (See Figure 1.) It promises to increase.
Venture capital investments for 1998-1999 also show that individual energy-related companies receiving financing obtain on average $1 million to $5 million, but in some cases as much as $50 million was received. Proceeds from these rounds of financing are typically spent on physical and technological infrastructure, development of business-to-business e-commerce, telecommunication, and research and development of alternative energy sources.