[Terrapreta] subsidies or venture capital

[David Yarrow]

March 19, 2008 
Government as Venture Capitalist? 
Think About It 
by Mark Braly 
If you thought nothing could salvage the Bush Administration's record on renewable energy and climate change, you haven't heard Andy Karsner, Assistant Secretary of Energy for energy efficiency and renewable energy. 

Karsner had 900 venture capitalists on their feet after a stem-winding keynote speech at the CleanTech Forum XVI in San Francisco Feb. 27. A former wind industry executive, Karsner sounds exactly like someone who would not have been admitted to Vice President Cheney's energy task force earlier in the administration.

"We must stop bailing out the agents of incumbency," he railed. Instead, we need to unleash "the power of good ideas." 

The "beef" in Karsner's speech was his announcement of a new "Entrepreneur-in-Residence" program in which real live entrepreneurs with track records and direct ties to venture capital firms will evaluate and nurture new technologies at three different DOE laboratories until the technologies are ready for investors. 

VC firms chosen for the partnerships were Kleiner Perkins Caufield & Byers in residence at the National Renewable Energy Laboratory (NREL); ARCH Venture Partners at Sandia National Lab; and Foundation Capital at Oak Ridge National Lab. The firms were among those responding to a DOE solicitation last October.

Karsner, who is focusing on commercialization of innovative new technologies, said his goal is to improve the taxpayers' return on investment in research and development in new energy technologies. Very few innovations developed at federal labs ever reach the marketplace. This modestly funded program ($100,000 for each lab) is an attempt to improve this abysmal track record.

Much of the underlying rationale is explained in an NREL report by L.M. Murphy, manager of the lab's enterprise development programs. The report, co-authored by a Colorado VC and two business professors, is an excellent primer on venture technology funding. It explores the dismal Valley of Death in which many needed technologies die for lack of funding for technology development, product maturation, and market validation.

"... The number of deals financed in the private sector is still relatively quite small...As many as 3000 ideas, leading to about 100 patents can be needed to attain one commercial success." Worse, the report notes, the deals funded may not necessarily be the best technologies.

More succinctly, your chances of inheriting a fortune from an unknown relative might be better than getting venture capital funding, despite the abundance of such money chasing green energy. Even this abundance was put into perspective by Trae Vassallo, a Kleiner Perkins partner speaking at the San Francisco forum who said that at $4 billion last year venture capital funding is "still small compared to the $100 billion at the peak of the information technology boom." 
In a phone interview, Murphy of NREL highlighted the obvious difference between organizations like NREL compared to venture capital firms. NREL looks at technology first: what is its potential for contributing to national energy goals of clean, secure, and cheap energy? VCs look at the potential for commercial success. Can't this be the same thing? Of course. There is an obvious overlap between government policy goals and VC investment goals. 

Now you might respond, as some VCs do, that the technologies that make it through the Valley of Death are, ipso facto, the best ones. The NREL report, however, thinks it is also likely that the process leaves "better technologies on the table." This is "...due to a host of reasons that tip the balance towards selection of less innovative, and in many cases, less capable (in terms of ultimate cost and performance) technologies. (Investor-selected technologies) are able to enter the marketplace more quickly, and ... can more effectively meet the other major requirements of most VCs." The contrast between the minds of public sector funders and private sector investors is laid out in detail in a chart in the NREL report on page 39.

Admitting this in no way detracts from the VCs role in getting to marketplace success. Nor does it deny the industry's obvious special enthusiasm for this particular enterprise of solving global problems like climate change by deploying game-changing technologies. 

Kleiner Perkins' Ray Lane, an eminence gris of Silicon Valley, told me at a press conference that the industry is adjusting its time-lines and exit strategies to fit the needs of the energy technologies they are working with. But, let's face it, how patient can they be with their investors' money?

DOE's emphasis on commercialization is welcome, but it seems to me it must evolve - and soon - into a massively funded government effort to create the markets and to provide as much capital as is needed to ensure that the best problem-solving technologies prevail.

Karsner urged the VCs in San Francisco to jump on the DOE's US $4 billion guarantee program, for up to 80% of clean energy project financing. A spokesman said the department is authorized to offer an additional US $38.5 billion in FY '08 and was confident the money would materialize. A solicitation for renewable and nuclear energy project proposals is scheduled for spring. Karsner also says he has made licensing federally-funded technologies easy.

Whether this can be described as "Apollo lite," as Karsner did, is open to question.

I'm still waiting for a clean break from the incrementalism ("pilot mania," as one San Francisco speaker called it). And from the ideology that only the private sector can pick winners and losers.

Murphy concedes that the Entrepreneur in Residence program doesn't directly address the Valley of Death carnage. To provide that strategic financing his report recommends something called an Early Seed Investment Corporation. The ESIC would be independent and run by qualified VCs, but it would plow back investment returns into new deals. DOE currently has authority to make such investments under Section 1007 of the Energy Policy Act of 2005. But it was omitted from Karsner's announcement in San Francisco.

It may be time to talk openly about the government as venture capitalist. This is not unprecedented. It is no secret but little known that the Central Intelligence Agency funds its own, independent and non-profit VC operation, In-Q-Tel Inc. Formed in 1999, it is staffed by experienced VC deal makers. It even has an office in the Silicon Valley.

In-Q-Tel invests CIA funds in promising early-stage companies which develop products for the CIA that also have commercial value. Based on In-Q-Tel's success, the Army followed suit by forming its own private equity investment outfit. Defense has never been shy about finding and funding the technologies it thinks it needs.

In 2003, reports Federal Computer Week, In-Q-Tel invested in a 3D geospatial visualization tool created by a start-up company called Keyhole. Keyhole was marketing it as a real estate application that potential buyers could use to scope out properties' surroundings. Within months, the technology was supporting the Pentagon and National Geospatial-Intelligence Agency in the Iraq war. 

In October 2004, Google acquired Keyhole, producing financial returns for the government that In-Q-Tel then reinvested in other new technologies.

The government taking entrepreneurial risks? Many would object, but then the return on investment would often beat that of the usual grant.

Ultimately, it is a matter of national priorities. No one has ever expected the Defense Department to make do with whatever the marketplace chose to make available. They made the market and often invented the technology. After all, as Karsner and many others in the Bush Administration concede, energy is a matter of national security.
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