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In the first quarter of 2023, global venture capital funding declined 53% year-over-year, according to recent data reported by Crunchbase. Another recent report highlighted that climate-specific venture funding in the first quarter dropped to its lowest level since Spring 2020. Despite these short-term trends, we should expect that climate tech will be resilient compared to other areas of innovation.
As a whole, climate investing has experienced years of breakout growth. While this has taken time to achieve, the value proposition of a modern, sustainable, and net-zero economy has become the greatest business opportunity of our generation.
The environment following Silicon Valley Bank’s collapse has been one of investor caution, and this might be doubly so due to investors’ general concerns about the VC market becoming heated in recent years. For climate, though, the current level of venture investment doesn’t reflect the $370 billion passed in the Inflation Reduction Act (IRA) to help companies working to decarbonize the economy. That, in addition to the general maturation of zero-emissions technologies, will accelerate both innovation and investment in climate tech.
Lessons from 30 years of experience
There are important lessons that can be learned from the history of climate tech investing, specifically from the beginning of this century. In the era of “Clean Tech 1.0,” VCs committed $25 billion to companies in the climate space and lost half of it by 2011. Many of these investments were in technologies that were years away from commercialization, or companies making assumptions about future economic and policy factors that never came to pass. For example, the notorious Solyndra bankruptcy failed to anticipate the rapid decline in conventional solar costs, and many other investments were made based on the assumption that a carbon tax would pass, which (unfortunately) never occurred.
What we learned during the early 2000s is that it’s important to avoid getting fooled by small tailwinds. Early solar investors anticipated receiving an amount of public funding that didn’t come to pass until the IRA–and needed that funding at the time to scale and compete with fossil alternatives. Meanwhile, China in the early 2000s framed and implemented a long-term vision around manufacturing solar panels, batteries, and relevant components, that rendered some U.S. companies uncompetitive.
Today, things are quite different. In addition to robust policy support for clean energy and domestic manufacturing, many technologies have matured and come down cost curves to the point that clean energy is dramatically less expensive than it was a decade ago, and often cheaper than fossil energy when stacked up fairly.
Today, investors don’t need to worry about consumers buying products with a “green premium,” and instead can find companies with real pathways to financial success. Finally, we can observe a great deal of business model innovation, as well as a trend that greatly excites our climate investment team.
Today’s climate tech landscape includes wide-ranging businesses across multiple sectors, from high-margin software companies to more capital-intensive hard tech, to the hybrid “software-enabled hardware.” If these hard tech companies can reach scale, they can outcompete incumbents.
However, VCs must be careful about long R&D timelines. For the sake of the climate as well as the shareholders of those companies, it’s essential to reach scale quickly, and business model innovation and technology will help get them there.
Lastly, it’s become customary to seek additional sources of capital–not just venture. Previously, hardware and project-oriented companies needed to use venture dollars, rather than traditional project finance. Today, a combination of government support, grants, and alternative finance groups are allowing those companies to have less dilutive alternatives.
The future of climate tech
There are several macroeconomic trends driving the future of climate tech. The Russian invasion of Ukraine among other geopolitical turmoil, supply chain issues driving a focus in domestic manufacturing, and the passage of the IRA, as well as comparable policy elsewhere, are all tailwinds to growth in climate tech investments. Along with those trends, in addition to an influx of venture and private equity investors, we are also seeing sources of non-dilutive capital such as accelerators, and grants from the governmental, philanthropic, and business communities, all of which create a more robust climate tech ecosystem to aid in growth from early stage to exit. The acceleration of technology will likely be a driver in the acceleration of climate solutions.
As a society, we’ve overcome endless challenges in recent years–a global pandemic, a challenging economy, macro-political earthquakes, and energy disruption. Now more than ever, it’s critical to address the climate crisis in impactful ways. It’s evident that the future of climate tech is bright, as we continue to enter the era of climate innovation.
Michael Sonnenfeldt is chairman and partner of MUUS Climate Partners, a venture capital firm that invests at the convergence of tech and decarbonization, focusing on technologies that have the most carbon reduction potential.
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