We live in challenging economic times. Furthermore, there are some fundamental resource constraints that are not going away – the population is growing while the world is fixed in size and many of its natural resources are being depleted. Finding innovative, resource-efficient routes to prosperity is now an imperative.
Fortunately many such successful, innovative solutions exist, often residing in small but rapidly growing companies whose importance to the economy cannot be underestimated.
According to the European Commission’s SME Performance Review, some 85% of net new jobs in the EU between 2002 and 2010 were created by small and medium-sized enterprises (SMEs).
Take Streetcar, a car-sharing club, as an example. Started from scratch in 2004 with a new business model offering an alternative to car ownership in major cities across the UK, it was acquired by a US equivalent, Zipcar, in 2010. This year the combined entity, which employs
more than 700 people was acquired by car-hire company Avis for $500m.
Successfully navigating the multiple challenges to commercialise innovation at scale in this way is not easy. When fundamental technology developments are involved it can be even harder. Capital is often required to fuel growth, particularly in the early stages before profitability, and in some cases before revenue, materialises. Traditionally venture capital (VC) has been the source of that finance, but Carbon Trust believes there are limits to what equity investors seeking solely financial returns and the VC model can do in clean technology.
Clean-tech innovations face specific barriers that make them more challenging to commercialise. They often require regulation to drive uptake at the outset, commonly need significant capital and long timeframes to develop, and usually compete in markets with powerful incumbents and established infrastructure designed around conventional solutions. For these reasons clean-tech innovations rely on investors whose interests are aligned.
In principle, corporates stand out as an attractive source of such strategic growth capital in clean-tech as they rely on a pipeline of innovation on which they can draw to develop and grow. For much of the 20th century, the dominant form of corporate innovation was through in-house research and development – think researchers squirrelling away in corporate laboratories to develop new solutions.
More recently, as corporates began to recognise that not all the best ideas necessarily germinate in-house, the concept
of open innovation has come to the fore – looking outside the organisation for innovation and growth.
Unlike other investors, corporates can deal with the longer timeframes and the capital intensity of many cleantech innovations. And fortunately, though their core businesses might be under pressure, unlike some governments, many corporates currently have significant positive cash balances to invest and are looking for the next attractive opportunity to pursue.
In theory, this provides a win-win opportunity, if, and only if, the SME and corporate engagement can be successfully brokered and structured to overcome multiple challenges, including different attitudes to timeframes, risks and opportunity, the not-invented-here syndrome and other corporate antibodies.
Until recently, many corporates used the same VCs described earlier, relying on them to nurture external earlystage innovation for them by investing through the funds common during the early 1990s. But this has proven far from a silver bullet. The VC model is applicable only to certain
types of innovation, funds often operate at a distance from the corporate that invested in them, and the shopping list they pursue does not necessarily drive the strategic value corporates are seeking.
What about the financial returns they deliver? Well, if a VC delivers 10%-15% returns, and only a select few do, such returns on a $100m fund won’t move the financial needle for a major corporate that needs orders of magnitude more. Corporates need to drive profitable growth in
line with their multibillion-dollar core business units.
Clean-tech investment data reinforce this picture. The latest data from the Cleantech Group show clean-tech VC investment last year a third lower than in 2011. While this is partly down to the economic downturn, arguably it also indicates increasing recognition that venture capital is not the right source of funding for many of these technologies.
VCs are rightly focusing on capital-light parts of the market, such as software, where the high returns they need for their business model might be possible. Meanwhile evidence is emerging to suggest corporate activity across all types of clean-tech innovation is on the rise – see the Ernst
& Young Cleantech Industry Analysis.
These trends in combination are driving the creation of new collaborative models, with corporates taking a portfolio approach, using a range of models to access external innovation effectively and thereby drive growth.
Take Unilever, which makes Flora margarine and Dove shampoo. It now relies on external input for 60% of its innovation product line, typically made up of between 500 and 1,000 products. This is up from 25% just a few years ago, according to news provider Financial Times. The company’s
portfolio of approaches includes investment vehicles, supplier networks, working with innovation partners and
joint ventures with other corporates.
We can also point to examples with which we are directlyv involved working as an innovation partner with corporatesvas part of our mission to accelerate the move to a sustainable, low-carbon economy. Take the Carbon Trust’s £45m Offshore Wind Accelerator, a joint industry programme
where we work alongside nine major corporates, including RWE, E.on and Vattenfall, which collaborate with one another to reduce costs in non-competitive technology areas. Similarly, GE has a $5m partnership with Carbon Trust around infrastructure applications as one strand of its portfolio of open innovation activities.
This use of a portfolio of approaches to innovation taken by leading corporates has a number of benefits, in the same way that investors will use a portfolio of asset classes. To extend the analogy, different investment classes are suitable for different risk-return profiles, just as different approaches to innovation are more or less suited to pursue specific challenges and opportunities. And as an investor, it helps to prevent the risk of being stranded with
any one asset class that is not performing.
The more corporates take this intelligent, portfolio approach to clean-tech innovation, the more chance we have of finding routes towards sustainable prosperity. And that is a pretty exciting opportunity.