Climate tech funds are having their moment

Strong investor demand catapulted one dedicated climate investor onto this year’s VCJ 50 – our ranking of the 50 largest venture firms worldwide based on five years of fundraising. Breakthrough Energy Ventures, which was launched by Bill Gates, ranks 31st with about $2.4 billion raised.

“There’s just a lot of opportunity and that’s why it’s driving capital to this space,” Raj Atluru, managing partner at Activate Capital Partners, tells Venture Capital Journal. “People have seen the tech super cycle over the past 20 years and are looking for new areas of growth and innovation. And climate’s the space.”

That doesn’t mean fundraising has been especially easy for climate funds. The lack of liquidity across the broad alternatives assets industry “creates a challenge in raising capital for all funds, for generalist funds and specialist funds like us,” Atluru says.

Activate Capital’s $500 million Fund II is among the largest climate-focused funds raised since the start of 2022, according to VCJ research. The firm began fundraising in 2021, hit its hard-cap last summer and was still accepting some stragglers into the fund in the fourth quarter of 2022, says Atluru.

Although the San Francisco firm won’t start fundraising for Fund III until 2024, he notes that “there’s just a lot of interest” in a new fund, based on “conversations we’ve had with our existing LPs and new LPs.”

The passage of the European clean energy mandates in 2019 and the US Inflation Reduction Act (IRA) in 2022, as well as Tesla’s growing valuation, have brought a lot of momentum “back into the [climate] sector because people view this as the next 20 years of innovation and capital formation that both needs to occur and that is occurring,” notes Atluru.

It’s never as easy as people on the outside would like to believe for a climate fund to raise capital, says John Tough, a partner at Energize Capital, a Chicago-based firm that invests in climate software start-ups and which closed its second growth fund this summer.

But the number of limited partners interested in climate “has never been higher,” whether it’s institutional investors, family offices or corporates, says Tough. “The best LPs still demand excellence from institutional investing habits. They still demand to see some version of a track record, higher to add value, higher to source – so that part is as hard as ever. But the number of parties evaluating the space is higher than the historical average.”

Tough cites a few reasons for that. First, the perception that investors had to give up financial returns to invest in climate or impact has been put to bed. “It’s been proven now that financial returns and impact can be aligned. More and more case studies are coming out, company success stories are coming out that validate that position. And when that gets more public, more investors show up.”

Second, climate tech has gone global. Where it was once a niche investment found only on the US West Coast, “now it’s everywhere. It’s in Chicago, in the States, in Europe, Asia-Pacific. When those funds and those deals are happening in your backyard, the big institutions – [like] sovereign wealth funds – are paying attention now.”

Lastly, climate tech is where the best talent of the next generation wants to work, drawing people from traditional technology and “raising eyebrows in a positive way,” Tough notes.

Keeping pace

As in generalist fund strategies, fundraising activity in climate tech is directly linked to a fund’s pacing of capital deployment, says Steve Simone, head of investor relations at Energy Impact Partners. The New York firm began fundraising in September for growth vehicle Energy Impact Fund III with a target of $1.5 billion, after closing on $1 billion for Energy Impact Fund II ($250 million over target) in November 2021, according to VCJ research.

“For strategic reasons, we’ve been investing our funds over three to four years at least of a five-year investment period, as opposed to some of the funds that were coming back 12 to 18 months later at the height of market,” Simone tells VCJ. He wouldn’t specify the percentage of EIP’s existing LPs that have committed to its most recent funds but says: “Our pace has made it a bit easier [to get re-ups].”

EIP raised $485 million for its Deep Decarbonization Frontier Fund and $424 million for its European Fund last year. Earlier this year, the firm’s Elevate Future Fund closed on $110 million.

LPs are looking at the strength of the end markets that a fund’s portfolio companies are selling into, “and that’s one thing where climate has done pretty well over the past six to 12 months,” says Sameer Reddy, managing partner of venture at EIP. “If you look at what’s happened in enterprise software, consumer and other segments of the market, climate on a relative basis has performed reasonably well. Tailwinds from the IRA have added some excitement there. Regardless of LP enthusiasm, I think there is some strength in the end markets that we’re seeing from a climate perspective.”

The IRA has also made more investors realize that the energy transition and climate technology is a generational investment opportunity to which they need to have some exposure, says Simone.

“Some of the folks who saw impact and sustainability as a bit of a cottage industry off the side of the portfolio are now saying, ‘Some of these funds are getting bigger. They’re on the second, third, fourth iteration, so it makes sense to be writing bigger ticket sizes,’ versus if it was just a collection of very small funds that were doing this.”

Tough notes that LPs have become more discerning in the past 12 months, which means Energize has had to share more detailed information about the performance of its portfolio.

One of its investments is Jupiter Intelligence, which provides predictive analytics that help customers like utilities manage, mitigate and disclose their climate risks. Every mortgage loan that Bank of America provides in Florida is now run through Jupiter’s platform to estimate how many days a year a property may flood, says Tough.

“For a company like Jupiter that has insurance and utilities as customers, the anecdote of the case studies becomes really important when you’re pitching the fundraise. If you don’t have those customer examples, it’s really hard to convey the message.”

Activate’s Atluru notes that some parts of climate tech are much easier to explain to LPs, such as wind and solar assets, electric vehicles and EV infrastructure. “It’s harder when you think about decarbonizing things like the industrial sector. How do you measure that? The industrial sector is a huge consumer of energy. How do you make that sector more efficient? That’s harder to explain.” Agriculture-related climate technology may also be slightly easier to explain, he adds.

“The case that a GP needs to make is why the sectors they are investing in are important to the climate strategy that an LP is looking to invest in.” He sees more institutional LPs “doing market maps and trying to understand where within the investment chain they want to play: either infrastructure, private equity, early-stage venture or late-stage venture.”

In contrast to 2018 when Activate had to teach allocators about various aspects of climate tech, many asset managers “have dedicated teams and dedicated allocations now, which they didn’t have two or three years ago.”