Stormy public finances and renewables

During the recent recession, the cleantech and renewables sector weathered the stormy financial seas with relative robustness. However, as the fall out of the economic difficulties begins to affect public finances across Europe, the sector is experiencing some volatility.

Even though large renewable companies in Spain breathed a sigh of relief this week when they brokered a deal with the government that should result in lower-than-expected cuts to subsidies, there are still some question marks over smaller scale renewable energy projects such as solar PV.  And while the UK government has called for private equity to provide the capital for the country to meet its carbon emissions reduction targets, a reduction in subsidies may well put PE investors off.

Venture capitalists, on the other hand, have a different relationship with government subsidies.  In keeping with the stormy seas analogy, I view VC investment as a submarine -  500 ft below the surface where the volatility of government regulations has a far less detrimental effect – whereas PE funds are on the surface and therefore more likely to be caught in the maelstrom. 

And make no mistake; volatility is precisely the right characterisation.  The great irony of the incentive programs is that they actually increase the volatility in the sector rather than decreasing it.  Witness the intense volatility in the Wind sector in the United States from 1999-2005 as the incentive program fluctuated wildly and forward visibility on it dropped to zero.

At I2BF, our investments aim to reduce the cost of renewable energy, and thereby accelerate the point of grid parity.  Of course, the concomitant benefit is to reduce the amount of subsidy required (as opposed to private equity which feeds off the tariffs to subsidise their own returns). 

It makes sense therefore to incentivize VC investments in the renewable and cleantech sector with a one-off grant, loan, or guarantee. This framework appears to provide a more efficient system for governments than the commitment to pay a feed-in tariff (FIT) over the next 10 or 20 years.  The US has addressed this somewhat by allowing wind farm developers to take the FIT up front rather than over the life of the project.  The American Recovery and Reinvestment Act (ARRA) has also instigated a shift away from FITs to manufacturing incentives.  Despite the inherent accounting and budgeting conflicts at the national level, it’s great to see some progress on this front.

Another point worth noting is that investing in the cleantech and renewable sector should not have different criteria to other sectors; we go where the dollars invested have a bigger impact and ultimately, we believe better risk-adjusted returns. 

We do this with the belief that the best product will find its own market – be it in Spain, Italy, the US, China, or anywhere else.  At the same time, as investors, we don’t have a crystal ball to know where the regulatory arbitrage will be greatest in the next three to five years therefore we do not expend a lot of energy trying to figure it out.  We are not fundamentally “tariff chasers”.  We are drivers and promoters of technological advances.