Weekly Insider (Solar's dimming IPOs & brightening M&A)

This week: a quick investable insight from the all-stars at Lux Research. This time on Solar’s dimming IPO and brightening M&A prospects.

M&A activity brightens among solar thermal developers, as photovoltaic IPOs dim

Early February saw 2010’s first concentration of M&A activity in the solar market. First, French nuclear power giant Areva acquired Ausra, a linear Fresnel lens solar thermal plant equipment supplier. Ausra struggled in early 2009 as investment in solar thermal installations all but halted (see the February 5, 2009 LRSJ – client registration required), and changed focus from a power plant developer to an equipment provider. The company was rumored to be up for sale since mid-2009. The Areva-Ausra match-up could breathe life into Ausra’s low-cost solar plant technology, and use the experience and reach of Areva’s power plant equipment business to push forward solar thermal installations.

Meanwhile, dish Stirling solar thermal technology developer Infinia raised $11.5 million in an equity financing round. This follows a $50 million capital raise mid-2009, and a $58 million raise in April 2008. Infinia competes directly with Stirling Energy Systems, which received $100 million in financing from NTR in May 2008.

The hoard of cash flowing into solar thermal component developers follows theacquisition of leading parabolic trough technology provider Solel by Siemens for $418 million in October 2009. But two questions remain.
First, who’s next to buy? Large component firms, including energy and defense firms, may see a strong fit between their competencies and the large-scale, highly regulated processes required for solar thermal plant execution. As for targets, we’ll keep our eyes on three firms:

Heliostat and power tower developer BrightSource Energy, which continues to execute in plant development
Linear Fresnel lens and parabolic trough developer SkyFuel, which offers a lower-cost technology option and potentially lower price tag, and
Power tower technology developer eSolar, which recently signed a licensing agreement for a 2 GW facility in China
The second question is tougher to answer. Where is all that solar thermal set to go? While 50 MW plant installations continue in Spain, regulatory issues continue to dog the U.S. market (see also the January 7, 2010 LRSJ – client registration required). Clients should expect large-scale wrangling among new solar thermal owners as they push through complex solar thermal projects and offer the reliability, and balance sheet, needed to get the huge projects off the ground.

All of this stands in sharp contrast to IPO activity among photovoltaic technology firms. In Q4 2009, Trony Solar indefinitely postponed its IPO followed by Daqo, a Chinese polysilicon producer, which filed (see the January 21, 2010 LRSJ – client registration required), then lowered, and then in January postponed its IPO. Then, earlier this month, Jinko Solar – a vertically integrated ingot, wafer, and cell producer, joined the list and withdrew its IPO due to “poor market conditions.”

Even the completed IPO of U.S.-based STR Holdings in Q4 2009 yielded lackluster results after repricing twice in the days ahead (see the November 5, 2009 LRSJ – client registration required).

While the general market slump since the first of the year will put investors off, their greater concern likely lies in the volatility of the subsidy-driven solar market – and with good reason. A fresh storm of price cuts and continued margin pressure is brewing for late 2010.

Weekly Insider (Guest Column- Cleantech & VC)

Proud to have my Lux Capital partner Peter Hébert provide a guest column this week. His insights on cleantech and VC must be heeded. Enjoy!

To paraphrase Warren Buffett: As prices fall, a huge amount of financial folly is exposed. You only learn who's been swimming naked when the tide goes out - and the financial shrinkage we're witnessing is uglier than George Constanza's worst nightmare.

It was in 2007 that adjustable-rate, subprime mortgages issued during the boom years began resetting to higher interest rates. During prior years, cheap capital from no-money-down Option ARMs (adjustable rate mortgages) helped flood the housing market with new buyers and pushed prices vertical. But when rate resets dramatically increased the cost of capital, buyers defaulted and home prices fell or were foreclosed.

I believe 2009 will bring a rate-reset for the cleantech investment sector (albeit, nothing close to the same scale!). When the cost of capital is low, investment dollars abound and valuations skyrocket. Too bad the process works in reverse too. Or as recent analysis from Lux Research (full disclosure: Lux Capital is an investor) summarized it, "The current bonanza in which all players are winners will come to an end."

If resetting the cost of capital pricked the real estate bubble, I expect cleantech's coming 2009 reset in this financing tundra to force scores of flimsy companies out of business, cause investors to realize losses, and significantly reduce unrealized IRRs.

Over the past few years, VCs and angels funded far too many undifferentiated business plans in a race to get "exposure" to cleantech. Solar, Biofuels, Wind. Touting cleantech credibility to their LPs left some VC portfolios with more "plays" than Bill Belichick on Sunday morning. Lux Research counted more than 1,500 start-ups operating in cleantech worldwide. All ventures had one thing in common-the cost of capital was far too low. This enabled turkeys to fly and hundreds of competitive imitators to gain funding, driving down long-term returns for all participants. But 2009 will see many of these companies return to the market for financings, to get to commercial scale or in many cases, just to survive the storm. It won't be pretty.

Value Trap

In my March 2008 post Something's Gotta Give, I said "I do not believe the disconnect between public and private prices can last much longer. Watch for a downturn in valuations for later stage VC deals when new market realities finally sink in."

Throughout 2008, as credit markets rumbled before the coming quake, VC-backed cleantech companies raised billions of dollars at valuations that increasingly departed from public equity comps. While blue chip shares plummeted by upwards of 75%, privately held solar companies with nary a dime of revenue, closed multi-hundred million dollar rounds with valuations pegged in the billions (yes, BILLIONS) of dollars. I know at least 3 private solar companies with post-money valuations over $1B-and dozens of other no/low-revenue solar, biofuel and battery ventures with values pegged in the hundreds of millions. Pity those late stage investors who bought the dream scenario and no margin of safety.

Why is tapping into a cheap cost of capital a bad thing? It's not-until the company seeks its next financing or a liquidity event. Later stage energy companies are capital vacuums. But the project finance well is dry and the cost of capital has surged. The need for money has forced punishing cram-down financings-for those still fortunate to receive fresh money. The resets are not just in price, but expectations. Most business plans I see still quote comps and commodities with pre-September 2008 prices. It's with no small irony that many of the private cleantech valuations now dwarf the prospective buyers mentioned in their pitch decks!

Stuck With You

While a 50% haircut on a subsequent round might still leave some early VCs in the black, it will be a hard pill to swallow for the later stage investors who signed up for what they were told were pre-IPO prices. During the cleantech boom, many early-stage VCs embraced two types of late stage investors willing to price up their earlier rounds by as much as 10x. On the one hand, the ultra-aggressive (and impatient) hedge funds and investment banks who adopted the "your price, my terms" philosophy. And on the other hand, bundler bankers who assembled less sophisticated doctors and dentists-perhaps under their own anesthesia, they were just happy to be there, much less negotiate the price they paid. The goal was seemingly: price the round up, take the company public and everyone wins. But now companies and their VC backers are stuck with both types of venture visitors...with no end in sight. Early investors should consider themselves lucky if the hedge funds or lenders do not take the keys to the company-and remain wary about lawsuits from individual investors who might feel they were sold a bad bill of goods.

The only sure thing: re-pricings will turn back the clock on paper profits (and IRRs) and require funds to choose: ante-up or get washed out.

The Opportunity

The irony: in spite of all of this, I could not be more excited about investing today in energy and environmental technologies.

Sure, the market stinks-but company valuations will at last approach levels at which investors can earn attractive risk-adjusted returns. The thinning of the herd will also separate the serious companies with scalable technologies from the pretenders. Imagine you had just been offered a $1 million house in Bakersfield, CA and just 12 months later, for the same price, you can get beachfront in Malibu.

The opportunity to apply new technologies to solve critical issues with multi-billion dollar addressable markets has never been riper. Breakthroughs in batteries and utility-scale energy storage, more efficient power electronics, and generation technologies like advanced nuclear and clean coal will yield billion dollar companies.

Bubbles get blown from too much trust and lofty expectations. The same forces that stimulate investment in a sector also leave naïve investors holding the bag. When the punch is flowing, judgment is impaired. A more sober environment is often the best time to invest in creative entrepreneurs to use capital judiciously and build extraordinary companies. I'll toast to that.

Peter is a Co-Founder and Managing Partner of Lux Capital, focusing on investments in advanced materials and energy. In 2003, Peter led the spin-off of Lux Research.

Weekly Insider (Senate, Solar & The World's Greatest Gift)

First: Matthew Nordan, President of Lux Research, gave a captivating testimony on nanotech yesterday in front of the Senate about the National Nanotech Initiative. Quoting Matthew, “The NNI has funded prodigious research in areas ranging from noninvasive cancer therapies to high-efficiency solar panels. But moreover, it’s spurred a renaissance of materials science development in the private sector. U.S. corporations like GE and Motorola spent $2.4 billion on nanotech R&D last year – 23% more than government spending at the federal and state levels combined – and venture capitalists put $632 million into U.S.-based nanotech start-ups, four times the annual figure before the NNI began.”



Second: Take this with a grain of salt. Recent conversations and scuttlebutt revealed that an alarming number of my hedge fund friends are short solar or looking at putting puts on. Of course, they know that markets can stay irrational longer than they can stay solvent, but they are calling the solar boom, “watt-coms” and seeing lots of patterns in common with the dot.com debacle. One CEO of a public solar company apparently told his audience he’d be raising new money every year. When an investor questioned him about dilution, the CEO snapped back: all my investors rent my stock anyway (meaning they were speculators not long-term holders).



From a technology view, let me be clear: solar is Occam's razor—it simply makes sense. But from an investors view, it’s the razor’s edge—good luck. Here's my controversial view: solar will end up as the Global Crossing of energy. Whereas the unintended consequences of biofools, er-biofuels are now being deemed "crimes against humanity"...the unintended consequences of solar will eventually be the exact opposite, what I’ll call "a gift for mankind".



When I say gift: it’s not what you think. Unfortunately the mass of VCs and public market investors flocking like Icarus to the sun will experience how cynically true the wisdom of 17th century French writer Pierre Corneille’s words are: “The manner of giving is worth more than the gift.”



Worth—as in billions of dollars being lost to give it. Startups are already marketing to municipalities and city bureaucrats to buy panels that people and recessionary roofs (corporations) aren't. Here's my prediction: The big winner? Africa.



Solar is to Africa as Global Crossing was to the world a decade ago. The latter helped do a great public good, connecting the world—by laying massive fiber with cheap capital provided on flawed (or fraudulent) assumptions. It was an invisible emerging market tax on speculators—that is: speculators subsidized massive infrastructure buildout. The local people in foreign lands ended up being the real winners. Solar too, at great expense to its private investors is doing a great good for the public. I predict Africa, with low or no baseload power will be the biggest beneficiary.



As William Wordsworth wrote: “Pleasure is spread through the earth; In stray gifts to be claimed by whoever shall find.” Eventually, some years from now, some opportunistic entrepreneur will buy up excess panels and capacity and distribute distressed solar power assets to a distributed population (in Africa). As I’m so found of quoting so often from Jim Surowiecki: in greed and avarice lies the hope of progress.

C&EN: Venture Funds Turn to Cleantech

Read some of my thoughts on biofuels, batteries, and solar energy in this week's edition of Chemical & Engineering News:
Venture Funds Turn to Cleantech
by Melody Voith

Enjoy!