Fund-raising fueled by cleantech, foreign markets

The climates for venture fund-raising and Planet Earth followed similar paths in 2006. Both warmed up.

U.S.-based venture funds raised $28.3 billion in 2006, up from $27 billion in 2005, according to preliminary data from Thomson Financial. Healthy fund-raising levels indicated a willingness by investors to overlook sluggish demand for VC-backed IPOs, while focusing on ventures most in line with the increasingly fussy appetites of public markets.

In all, limited partners spread investments among 191 funds last year, slightly fewer than the 207 raised in 2005. Two mega-funds—New Enterprise Associates 12 and Oak Investment Partners XII—accounted for $5 billion of the 2006 fund-raising total.

“It’s a decent market for fund-raising, but it’s not a red-hot market,” says Kelly DePonte, a principal at Probitas Partners, a San Francisco placement agent. While top-tier VCs had no trouble finding investors, many newer funds struggled to fill their coffers.

There’s definitely a push from the LP community to ask almost all venture capital firms what they’re doing in cleantech and what they’re doing in energy tech.”

Robert Day, Principal, Expansion Capital

A rising number of emerging markets funds underscored a growing consensus in venture circles that the startup investment world no longer revolves around Silicon Valley. VCs continued to launch new funds dedicated to China and India—a trend that began in 2005—and some even set out to explore opportunities in the former Soviet Union.

The enduring popularity of cleantech also spotlighted investors’ conviction that markets will continue to reward innovative technologies that satiate growing demand for energy and other resources without wreaking havoc on the planet.

On a more purely numbers-driven front, investors also poured money into growth funds targeting later stage firms on the brink of ambitious new revenue milestones.

Greener pastures

If oil was still $30 a barrel [cleantech] probably wouldn’t look so good.”

Craig Cuddyback, Senior Vice President, Cleantech Group

Among industry-specific funds, cleantech ranked as the standout investment theme last year. At least five firms launched new dedicated cleantech funds in 2006, targeting solar power, water purification and biofuel technologies. Managers of diversified funds, meanwhile, also upped their cleantech stakes, seeing another kind of green in environmentally friendly technologies.

“If oil was still $30 a barrel, [cleantech] probably wouldn’t look so good,” says Craig Cuddyback, senior vice president of the Cleantech Group, an investment event planner and publisher. “The rising cost of fuels has really brought a lot of these technologies into play.”

A receptive market for cleantech IPOs lifted the sector, led by solar power and biofuels offerings from US BioEnergy (Nasdaq: USBE), Aventine Renewable Energy (NYSE: AVR) and VeraSun Energy (NYSE: VSE). Despite often-spotty aftermarket performance among cleantech issues, early stage investors continued to pour money into new dedicated funds.

Kleiner Perkins Caufield & Beyers took a leadership role. It raised a dedicated “greentech” fund, instituted an annual prize for the best greentech technology or policy innovation, and even sponsored the Greentech Innovation Network conference headlined by former Vice President Al Gore. By the close of the year, KP announced that it would double the size of its greentech fund to $200 million. Cleantech is “bigger than the Internet, I think by an order of magnitude,” General Partner Ray Lane told the Wall Street Journal in December. “Maybe two. I’m taking the entire energy industry.”

It’s a decent market for fund-raising, but it’s not a red-hot market”

Kelly DePonte, Principal, Probitas Partners

That bullishness is shared by limited partners. “It’s been a pretty productive environment for fund-raising,” says Robert Day, a principal at Expansion Capital, which closed on a $55 million cleantech fund in August. “There’s definitely a push from the LP community to ask almost all venture capital firms what they’re doing in cleantech and what they’re doing in energy tech.”

While Cleantech Group’s Cuddy doesn’t envision a drop in cleantech funding levels, he expects to see some shift in investment priorities in the New Year. For example, he expects the volume of energy generation deals to dwindle. Those deals raked in more than $1 billion in 2006. Instead, Cuddy expects VCs to boost investments in areas such as water purification and energy storage.

Go east, young fund

The fast-growing economies of India and China, hotspots for venture capital in 2005, were positively scorching in 2006. Startups in the world’s two most populous nations drew investments at an unprecedented pace, with many VCs setting up country-specific funds. Sequoia was the most aggressive, swallowing whole successful Indian venture firm Westbridge Capital Partners and quickly raising $400 million for its India effort, renamed Sequioa Capital India. Sequoia also reportedly planned to raise a $200 million fund for China.

[Cleantech] is bigger than the Internet, I think by an order of magnitude. Maybe two. I’m talking the entire energy industry.”

Ray Lane, General Partner, Kleiner Perkins Caufield & Byers

Matrix Partners managed to slow Sequoia’s steamroller a bit by stealing one partner away from WestBridge: Rishi Navani. He now heads a $150 million Matrix fund targeting India, along with Avnish Bajaj, co-founder of India’s largest online marketplace, Baazee.com, which was acquired by eBay. Matrix Partners India is targeting consumer services businesses in sectors including the Internet, mobile, media, health care and travel.

Like Sequoia and Matrix, New Enterprise Associates (NEA) tapped high-profile local talent for its India effort. Its $105 million IndoUS Ventures fund is steered by a team that includes Pentium chip creator Vinod Dham.

Getting back to growth

When they weren’t criss-crossing the Pacific, prominent VC firms focused their fund-raising efforts on an area with little buzz but big profit potential: backing later stage growth companies.

NEA added heft to the list by carving out the bulk of its $2.5 billion 12th fund for later stage expansion deals, while Draper Fisher Jurvetson (DFJ) and Sequoia launched their own efforts for dedicated growth funds. DFJ raised $100 million of a targed $250 million last year, while Sequoia held a final close on $861 for the growth fund it began raising in 2005.

Growth is always an attractive category for limited partners, says DePonte. The downside for GPs, however, is that it’s uncommon to get a controlling stake or to be able to exert considerable influence over management when investing in more developed companies. Given a slow exit environment, investors appeared more willing to accept those drawbacks in return for the perception of a more accelerated path to IPO or acquisition.

Says DePonte: “If you have a company that’s more developed and quickly growing right now, you’re path to an exit might be two to three years instead of five to six [for an early stage investment].”