BFD: Biofuels boom or bubble?

The next few weeks will bring two more IPOs by California biofuels companies: Solazyme (of South San Francisco) and Ceres (Thousand Oaks.)

Francis Gaskins of Seeking Alpha analyzes the Solazyme IPO (SZYM, due Friday) while Jim Lane of Biofuels Digest (BFD) analyzes that of Ceres. By my count, this will mark five IPOs by US biofuels companies in 15 months, following Codexis (CDXS, April 2010) Amyris (AMRS, Sept. 2010) and Gevo (GEVO, Feb. 2011). All but Gevo are based in California.

Gaskins is bullish on Solazyme while Lane has a healthy skepticism about the industry, especially the pre-revenue companies. In fact, Lane’s treatment of the Ceres S-1 is the funniest (or at least snarkiest) S-1 analysis I’ve seen in years. (Lane was equally through but a little less cynical when he analyzed the Solazyme S-1.)

The best part of Lane’s analysis of Ceres is when he reads between the lines on the discussion of risks:

In IPOspeak: We have a history of net losses; we expect to continue to incur net losses and we may not achieve or maintain profitability.
In English: Our investors are tired of losing their money, and may wish to lose some of yours before reaching profitability.

In IPOspeak: The markets for some of our dedicated energy crops are not well established and may take years to develop or may never develop and our growth depends on customer adoption of our dedicated energy crops.
In English: If biofuels and biopower do not scale globally, we are toast.
…
In IPOspeak: We are at the beginning stages of developing our Blade brand and we have limited experience in marketing and selling our products.
In English: Sir Richard Branson doesn’t work here.

In IPOspeak: Our principal competitors may include major international agrochemical and agricultural biotechnology corporations, such as Advanta, Dow Chemical, Monsanto, DuPont and Syngenta, all of which have substantially greater resources to dedicate to research and development, production, and marketing than we have.
In English: Big Ag may swoop in and take away all our toys.

In IPOspeak: A significant portion of our revenue to date is generated from government grants and
continued availability of government grant funding is uncertain.
In English: Uncle Sam is out of money.

Profits are scarce among this crop of young companies:

• Ceres is in the business of developing seeds for sweet sorghum that are optimized for making biofuels; it is essentially pre-revenue.
• Gevo was also pre-revenue.
• Amyris IPO’d after it had significant revenues.
• Codexis had revenues but with $150+ million in accumulated losses, about 3x that of Solazyme.

As it is, at the close of business Wednesday, Amyris was up 80% from the IPO price, Gevo up 20% and Codexis down 30%. Three is not a large enough N to generalize, but it does suggest the risks of the segment.

Solazyme has a better story to tell than Ceres. In 2010, it had losses of $16.2 million on revenues of $37.9 million. So the “history of net losses” comment from Ceres (and Lane’s translation) might also apply to Solazyme, but their revenue growth certainly provides more of a track record for investors. Solazyme is also #2 on the Biofuels Digest top 100 list of 2010, or #4 in the expert’s list — after Amyris, LS9, POET and ahead of Gevo. (Ceres is #13 on both.)

While biofuel IPOs are happening now without profitability, for most of the past 30 years, a new company had to be at least cash flow positive (or positive EBITDA) to IPO. A firm that’s coming out pre-revenue (or at least pre-profitability) suggests it believes that it’s more urgent to get the cash sooner from newer investors rather than waiting to solve its profitability problems and thus command a higher multiple. That also suggests that the current owners think there is a chance that the company won’t make it to sustained profitability, or (as Lane put it) “we are toast.”

The only time I remember that tech company IPOs were dominated by money-losing (or pre-revenue) companies was the late 1990s. And we all know how that turned out: there were a few winners and lots of losers. A case can be made for any of these companies being the survivor, but the odds are most will be gone (or merged away) in 5 years.

Cashing out on Mojave solar bonanza

BrightSource Energy — the Oakland-based builder and operator of California solar thermal plants — has filed for a $250 million IPO. The S-1 doesn’t say how many of the 94.3 million shares it plans to sell

According to its S-1, the company was losing $40+ million/year but last year losses rose to $71.6 million with cumulative net losses of $177.3 million. The company did end the year with $37.8 million in cash equivalents on hand. But the S-1 says “executing on our pipeline and expanding our business requires significant additional capital.”

The S-1 said that it‘s signed 14 contracts with PG&E and/or SCE to deliver 2.6 GW of solar capacity. The first of these is the Ivanpah project, with a gross capacity of 392 MW on 3,600 acres near Baker in the Mojave Desert, on the I-15 between Los Angeles and Las Vegas.

The S-1 says this is the first of the company’s projects, with construction begun in October 2010, the first phase due in 2013 and the remainder in 2014. The project received a $1.6b loan guaranteed by DOE, as well as $300 m in equity from NRG Solar, $168m from Google and $130m from BrighSource.

Veteran solar scribe Ucilia Wang sees this as a multi-million dollar bet on Ivanpah — and that seems like a good way to interpret it. The success of Ivanpah (and Coalinga Solar-to-Steam) are essential to getting financing for the remaining projects.

Some have questioned whether solar thermal (such as the BrightSource solar tower) can be cost competitive with PV in the long run. That’s not the real question: can BrightSource execute on its current plans (without internal or external delays) and deliver the contracted energy reliably?

Assuming there are no loopholes in the contracts, the Power Purchase Agreements are (by design) bankable revenue sources — representing the desperation of California utilities with the RPS gun to their head, buying from (thus far) the only gigawatt-scale game in town. Still, it’s hard to see how a successful IPO for BrightSource helps any of the PV companies, or for that matter those of the solar thermal operators who lag BrightSource by several years.

Are VCs giving up on RE? Should they?

Cross-posted to Engineering Entrepreneurship.

Statistics released Friday by the Cleantech Group say that “cleantech” VC investments in 2010 hit a record $7.8 billion, up 28% from the $6.1 billion in 2009 for North America, Europe and Chindia. The N.A. data was even more impressive, up 45% to $5.28 billion. Worldwide, solar continued to account for the largest share of the investments, up 52% from 2009 to $1.83 billion.

Although this sounds encouraging, Iris Kuo of VentureBeat had a different take. First, cleantech VC investment has been declining for the past two quarters. Instead, the capital-intensive have been going to government sources, including BrightSource, Solyndra and Tesla.

However, analysts are just beginning to realize that cleantech businesses may be fundamentally unsuitable for VC investment. A series of clues have emerged in the past 6 months.

Exhibit A was the whole debate started by VC Fred Wilson and his “two venture capital industries” thesis:

The first VC industry is investing in software based businesses. The software VC business has been fundamentally altered by the massive decrease in the cost of building and launching a software based business.…

The second VC industry is investing in cleantech, biotech and other capital intensive tech businesses that have economic models that have not been fundamentally altered. This VC industry operates largely the same way it has operated for the past twenty or thirty years.

The statistics were supported by TechCrunch data from the first 8 months of 2010: an average of $5m for web/ecommerce vs. $31m for cleantech.

Exhibit B was the decision of Kleiner Perkins to pull back from cleantech investing and go back to its roots in IT. Of all the major Silicon Valley VCs, KPCB had made the most aggressive bet on cleantech — particularly green energy. This is the firm that in 2007 made a partner out of a former presidential candidate and Nobel Prize winner.

Exhibit C are the observations of one of the most respected IT industry executives, analysts, inventor and entrepreneurs: Bob Metcalfe (MIT ’69), inventor of Ethernet and founder of 3Com. Having finished a decade as a venture general partner, last month Metcalfe said that the VC model (so far) does not fit cleantech:

Q: What did you learn from your investing in clean-tech, or as you call it, enertech?

A: I’m still in the process of learning – this is complicated stuff. But I learned that the innovation environment in the energy space is not there yet. The problems we see are a mismatch between the asset class called venture capital and the innovation opportunities in energy – it takes too much capital and it takes too much time. But I claim that’s only because the innovation environment in energy hasn’t developed, say, the way it has in pharma. Drugs take a lot of money and a long time, but there’s a lot of venture capital activity in drug discovery. That’s because the drug-discovery business has grown into being able to exploit the venture capital model. The partnerships that big pharma has with drug companies in stage one, stage two, stage three [clinical trials] allow venture capitalists to do what they do and get the returns that they need. The energy space has not quite developed, but it will.

This entire debate was anticipated by Prof. Martin Kenney of UC Davis, the editor of Understanding Silicon Valley — perhaps the leading academic expert on Silicon Valley and a longtime expert on hightech VC.

In July 2009, Kenney wrote a book chapter entitled “Venture Capital Investment in the Greentech Industries: A Provocative Essay” that will be published in the Handbook of Research on Energy Entrepreneurship. He notes a number of warning signs:

1. investors have been pouring money into green energy without being able to get it back from IPOs;
2. market growth may be slow, since “clean” technologies are competing with established (and cheaper or better) incumbents;
3. the cleantech bubble investing bubble parallels the Internet bubble;
4. thus far, the most successful cleantech businesses have been self-funded: either bootstrapped (e.g. Danish wind turbines) or internal green ventures from existing multinationals like Siemens and Sanyo.

Kenney tries to offer a positive scenario, suggesting that VCs could learn and adapt like they have in biotech. However, in the past 18 months have been signs that biotech VC may be facing similar problems (if the returns to pharma R&D are becoming less certain).

While the scale of investment in energy is enormous, the VCs have various reasons to actually favor larger deals (and often pension funds throwing money at them to invest). While VC worked great during the 1990s with relatively small investments followed by quick exits via IPO or acquisition, but both are much harder in renewable energy.

The first problem is the time scale. If (as Zider’s 1998 classic HBR article suggests) VCs seek a 10x liquidity event after 5 years (to cover their losers), then doubling the delay to 10 years cuts the IRR by more than half (and the NPV even more than that). For a 10 year exit — and ignoring the increased risk of failure — the same IRR would require a 100x return.

The other problem is that the size of the investment reduces (if not eliminates) the opportunity to exit via acquisition. A 10x return via acquisition was common for $50m dot-com investments, but such exits are going to be much rarer with $500m invested; a 100x return is going to be out of the question.

If VC can’t find a way to make money off cleantech investments, then cleantech entrepreneurs are going to have a hard time bringing their businesses to scale. Without VC, new businesses will have a hard time competing with self-funded multinational incumbents — or government-funded enterprises in large centrally-planned economies.

Who needs inefficient solar panels?

The IPO of thin-film solar module maker Trony Solar has been cancelled in the light of a lousy IPO climate that also claimed Solyndra’s IPO hopes. The Chinese firm had hoped to raise $200m.

In her story on the cancelled IPO, Camille Ricketts of VentureBeat notes this is in the context of other declines in the thin-film market, including Applied Materials discontinuing its SunFab thin-film integrated equipment line.

Buried near the bottom of her story is the heart of the matter:

Thin-film cells are generally less efficient than their crystalline silicon peers. Their main saving grace — which motivated a lot of investment in the market two years ago — is that they use less silicon. Back when the material was expensive, this made thin-film a compelling proposition. But silicon prices have since dropped, allowing crystalline silicon panels and the companies who specialize in them, namely SunPower, to remain on top.

This raises the question: if crystalline silicon prices continue to fall — as they have for decades — why would we think that thin film companies have any sort of future?

Low efficiency means greater spending per kWh on balance of system — including installation labor and permitting costs that seem more stubbornly resistant to experience curve efficiencies. There’s also the real estate question — due to the space limitations of a rooftop environment, behind-the-meter applications often have trouble generating enough power to meet local demand as it is.

Yes, solar remains an industry of a thousand niches. Flexible thin-film substrates will have a future in building-integrated photovoltaic and other niche applications where it is competing with no PV — rather than silicon PV.

Still, we’ve known that a shakeout is coming in PV, due not only to the high level of investment in solar startups but also the importance of scale economies to overcome increasing cost pressures. The shakeout is going to be brutal to makers of low-efficiency components and modules.

Tesla's big day

Today was a great day for Tesla Motors and its CEO Elon Musk. Both got tons of favorable publicity — opening the NASDAQ market this morning — and wads of badly needed cash as the company enjoyed a wildly successful IPO.

By any measure, the IPO was a huge success:

• The offering was expanded from 11.1 to 13.3 million shares.
• The offering price was raised from the planned $14-16 to $17/share; and
• The stock rose 40% in the first day of trading to close at $23.89, creating a market cap of about $2.2 billion

All this on a day when the Dow fell 2.6% (the NASDAQ 3.8%) as common investors panicked in the face of worsening economic news, and in a year where IPOs are few and far between. (My theory is that the stock defied the market because TSLA stock buyers were a combination of rich environmentalists that buy the cars and hot stock faddists who buy the story.)

(As with most Tesla financial news, the best reporting came from VentureBeat reporter Camille Ricketts.)

By selling almost 909,000 of his own shares, the 39-year-old Musk grossed $15 million, while his remaining shares were worth more than $650 million. Once the lockup is over, this presumably will allow him to pay some of his bills and start to resolve his long-deferred divorce settlement. After going broke, it also amounts to a personal vindication of the vision of the billionaire serial entrepreneur.

In fact, the LA Times found an Edmunds.com analyst who saw this as more of a referendum on the Tesla and Musk star power than its business or the industry at large:

"It's all the hype that's been built up, the first-day craziness," [editor John O'Dell] said of Tuesday's stock surge. "I would not take what's happening as a referendum on the EV market overall. It's unique to Tesla and Elon Musk and his reputation and persona."

Now that they’re a public company, the real scrutiny begins.

Ricketts has a list of 10 key questions for the company and its investors. Some are the obvious ones — when will Tesla stop losing so much money and how will it support the stock (and the balance sheet) when its second product is two years out. Others are less obvious, including how will Tesla balance its two strategic investors — Daimler and Toyota — who gave the company legitimacy, technology and (competing) potential exit strategies.

Others are also asking piercing questions. For example, John Gapper of the Financial Times wonders why investors are (apparently) so sanguine about having a part-time CEO of a multibillion dollar (market cap) company. Yes, Musk apparently fancies himself the greatest entrepreneur (and perhaps greatest tech CEO) of all time, but even Steve Jobs only managed to run two companies (Pixar+NeXT, Pixar+Apple) while Musk has three (Tesla, SpaceX and SolarCity).

One of the other questions Ricketts asks is how Tesla’s planned Model S sedan will compete with rival offerings from Chevy and Nissan — two well-capitalized manufacturers with better distribution. There’s also Fisker, the other major startup EV company, which used $20m of its $529m in stimulus funds to buy GM’s shuttered Delaware plant — part of its plan to help stimulate Finland’s economy.

Right now, electric vehicles are niche products: Tesla has sold 1,100 cars in two years — less than the total number of cars sold every two hours by the incumbent vehicle makers. The Model S and its rivals all hope to be the Camry (or Taurus) of electric cars, albeit at a healthy price premium (even with subsidies).

Into this niche are coming GM and Nissan right away, Fisker and Toyota soon after, and probably Ford, Honda, Chrysler, the Koreans and the Chinese by 2015. So far, the cars are 20-50% more expensive than their internal combustion counterparts. Meanwhile, the economics and green footprint of these vehicles depend on both the cost of gasoline (retail or with externalities) and how that compares to the real cost of grid power.

Meanwhile, sales are flat for the rest of the auto industry (at least in the developed world) with too many companies and factories chasing too few buyers. Even if electric cars increase their share of the market, they’re not going to grow the overall market, and that existing capacity (both manufacturing and distribution) will chase wherever the market goes.
The best case: the EV market grows rapidly and the rivals are slow to enter (unlikely) or are unable to match Tesla’s innovative products. The worst case (pick one): the market grows slowly, the prices remain high, a political shift reduces federal subsidies, or rivals (such as GM or Nissan) reach the mass market first.

I think the Tesla team should celebrate a well-deserved 4th of July weekend. After that, it’s back to work on trying to stay ahead of what will inevitably become a price-sensitive commodity business.