How do the prospects look for environmental businesses in the next few years? If you listen to the companies themselves you'd get a resounding chorus of rapid growth and expanding markets. And reassurance comes from the vote of confidence of those whose job it is to put their money where their mouth is: venture capitalists.
Venture capital traditionally finances an existing company that has a unique market or product but lacks the financial resources to reach its potential. The venture capitalist provides funds in return for equity ownership in the company and a role in corporate strategy, usually including representation on the board of directors.
A recent national survey of venture capital firms revealed that all of them that have put significant money into environmental businesses (more than $3 million) were planning to make more investments in the near future. In the next two years, these active players realistically expect to invest an average of more than one-and-a-half times the amount they have invested to date.
A number of firms that have yet to make a deal expect to invest soon, some as much as $10 million. Instances of environmental companies that have brought tremendous returns keep firms on the hunt for the next lucrative deal. The Venture Capital Fund of New England in Boston, for example, invested $600,000 in Groundwater Technology, and four years later returned $14 million in the 1986 initial public offering of stock in the company.
First Analysis Corp. in Chicago is expecting to get more than 30 times its investment back from a company that, market conditions pending, is going public next month. First Analysis has been the most active fund in the environmental industry, having invested in 20 companies so far. It has a log of environmental business plans totaling more than 500.
What sort of deals are venture capital firms looking for?
There is no shortage of possibilities, but more than one venture capitalist agreed that there are never enough "good deals." The average firm receives more than seven environmental business plans each month. Active firms receive as many as 30 each month, but most agree "there's a lot of garbage out there."
The environmental industry remains immature and fragmented, populated by small regional companies that aim at a number of market segments. The consensus among venture capitalists is that the caliber of business management is woefully low in the environmental industry. Too many companies are run by technicians and not by seasoned executives.
"There's a real dearth of good managers. Most come out of the consulting or trash or construction businesses -- not traditionally good training grounds for entrepreneurs or managers of start-up companies," said Jonathan Flint of Burr, Egan, Deleage & Co. of Boston. 3i Capital of Boston looked at a number of companies before leading a $5 million investment in an environmental testing company that closed recently. Many had good technologies but few had good management, according to 3i's Philip Fiske.
"It's a big problem across the board in the environmental industry. It's like the electronics industry 10 years ago: There are not enough business managers. To attract outside capital with the promise of good returns," Fiske said, "a company can rarely be run by a scientist." Venture capitalists have a taste for particular segments of the industry. Resource recovery and recycling companies topped the list with water treatment, pollution control equipment and air pollution control close behind.
In general, investment firms are more interested in the "hardware' end of the business rather than the "software' end, such as consulting or service companies. Currently generating a lot of interest are waste minimization and specialty chemicals. "We like companies that are in the position of preventing pollution and waste streams," said Thomas Toy of Technology Funding Inc. in San Mateo, Calif. "We prefer regulation-driven companies that have an economic reason for being."
A proprietary technology is a key factor in attracting the interest of venture capital, but the lack of one was down the list of reasons why a firm would turn down a deal. The most frequent reason was overwhelmingly a lack of seasoned management.
"There have been a relatively small number of environmental start-ups that have combined all the elements a venture capitalist looks for: proprietary technology, a strong management team and a good marketing approach," Toy said.
Environmental businesses may benefit society, but that hardly figures in whether or not a venture capitalist makes a deal. Return on investment is the bottom line, and if the prospects are not good, there's no deal. Much of the venture community continues to like environmental investments, however. Venture capitalists are confident they can draft management from other industries for deals with promising technology or a high growth market niche.
"Biotechnology lacked management in the early days too, but we still invested and then actively brought in the management needed to grow the company," said Ned Olivier of Fairfield Ventures.
Grant Ferrier is editor of the San Diego-based Environmental Business Journal.
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