Home Venture Capital How VCs Are Powering Climate Solutions

How VCs Are Powering Climate Solutions

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Venture capitalists are increasingly focusing on startups to address the climate crisis, reflecting a critical shift in investment priorities. Despite a challenging environment for venture capital in 2023, with overall investment in climate tech falling 14.5% to $41.1 billion, according to the PitchBook, the commitment to climate solutions remains strong. Although this represents a significant drop from the $51.0 billion peak in 2021, there are key trends and insights that highlight the evolving landscape of climate tech investment.

Much of the decline in climate tech VC deal value from 2022 to 2023 was seen in early-stage and venture-growth deals, which fell 24.8% and 34.5% year-over-year, respectively. In contrast, late-stage deal value remained relatively stable, falling only 0.6% YoY, while pre-seed/seed deal value actually increased by 16.2%. This trend underscores the growing interest in nurturing nascent climate tech innovations.

Exit activity in the climate tech space has also been muted, dropping 50.5% from $18.7 billion in 2022 to $9.3 billion in 2023. This decline is stark compared to the record-high of $106.4 billion in 2021. As Hannah Sieber, Co-Founder & CEO of Artyc, points out, “In Climate Tech, exits can often take 10+ years, so founders should be prepared to build their solution for the long-haul. This means founders must find a way to continue building at a sustainable pace for over a decade.” This long-term horizon is a fundamental characteristic of the climate tech sector, requiring patience and sustained effort from both founders and investors. Arun Gupta, Founder & CEO at Skyven Technologies, adds, “Many challenges in Climate Tech require disrupting slow-moving, risk-averse industries that are tough to break into.”

Despite these hurdles, there is a notable increase in thoughtful and savvy use of capital in climate tech today. In 2023, the largest segments in the climate tech vertical were low-carbon mobility, industry, grid infrastructure, intermittent renewable energy sources (solar and wind). 50 VC deals for climate tech companies in 2023 exceeded $150 million, and of these, nine exceeded $500 million. Companies that need a lot of capital to execute on a big vision can succeed today. Arun emphasizes, “There is plenty of capital available in multiple flavors for Climate Tech Companies that can generate strong returns commensurate with risk. In particular, infrastructure investors have deep pockets for climate-tech projects that will generate high-teens returns (or better).”

Climate Tech Drivers

As reported by PitchBook, climate technology is not immune to the wider trends that have influenced VC overall. The space has been affected by challenging macroeconomic conditions, including high interest rates and lower fundraising activity. While the climate tech space is very broad, and many areas within it have their own unique drivers, there are a few areas that have strong influence across climate technologies.

Hannah explains, “The macro trends driving the need for climate adoption – our warming planet, ecosystem degradation; and water, air, and land pollution – are not disappearing, even as ‘market’ conditions change. Climate Tech innovations that solve a clear need and don’t ask consumers to pay a Green Premium have tremendous tailwinds behind them. At the same time, we’ve seen more LPs who are committed to investing in patient capital that can support climate tech timelines enter the market, bolstering existing climate funds and spurring the growth of dozens of new climate funds.”

A significant driver of climate tech investment is the influence of regulation and policy. For example, the Inflation Reduction Act (IRA) in the United States has been a game-changer. It remains a core enabler of climate tech deployment and, consequently, investment in technology development. Arun highlights, “Yes, the IRA funds are now being disbursed and it is having a disruptive impact on the climate tech space. However, low natural gas prices remain a challenge. The ultimate regulatory support would be a comprehensive nationwide carbon tax.”

Consumer awareness and the push for energy cost reduction also play crucial roles in the adoption of climate technologies. High energy costs over the past two years have accelerated the uptake of home energy technologies, including energy generation, storage, and efficiency solutions. This trend reflects a broader shift towards sustainability driven by both economic and environmental motivations.

Seeking Funding

For early-stage climate tech companies seeking funding, a strategic approach is essential. Starting with non-dilutive funding sources such as SBIR grants, crowdfunding, or bootstrapping can build discipline around hypothesis testing and metric-focused growth. Grants can accelerate product development, but they should align with the company’s roadmap and not distract from its core vision.

Hannah says, “While grants are a powerful way to accelerate a product roadmap, it’s important that grants are in service of the company roadmap and don’t take founders off-roadmap, distracting from the ultimate vision.

While the Inflation Reduction Act and other government funding can change the financial paradigm for a company, climate tech companies should view this as “icing on the cake” and not expect to solely rely on grants.”

Venture capital should be considered later, once the company has a solid foundation. Arun explains, “I highly recommend the NSF SBIR program plus friends and family. I do not recommend starting with venture capital. Accelerators and incubators can help too.”

Final Thoughts

The long-term outlook for climate tech remains strong. As Arun mentions, “Climate Tech has some of the best long-term outlooks because it aims to combat the exponentially increasing effects (and financial costs!) of climate change.” Venture capital funds are increasingly adjusting their expectations to accommodate the longer timelines required for hardware and infrastructure projects.

In conclusion, while the climate tech sector faces significant challenges, it also offers immense opportunities. The combination of robust regulatory support, growing consumer awareness, and innovative funding strategies is driving a new wave of climate tech startups poised to make a substantial impact. As VCs continue to bet on these startups, they are not only investing in potential financial returns but also in the future of our planet.

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