A cautionary tale is quietly making its way around food tech investor communities and conferences. The tale is the story of cleantech.
In the early aughts, just after the debut of the Prius in 1997, dot-com investors turned their lonely eyes to clean tech. September 11, 2001, brought new motivations to get America off imported fossil fuels, and major legislation in 2005 and 2007 granted tax credits and loan guarantees to clean tech startups.
Solar and wind power were soon gaining traction, but in the months before the financial crash in 2008, exits were few and venture capital firms were getting impatient.
After the crash, and the election of President Obama, the new administration saw clean tech as a way to make good on campaign promises while decreasing carbon emissions and creating jobs. In 2010 they dedicated $14.7 billion to the industry in the form of alternative energy subsidies.
As the government bought into renewables, VCs followed their lead culminating in $7.5 billion of investment at the peak in 2011. But then oil and gas prices began to fall, and China got into the solar panel game.
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How did the cleantech bubble burst?
According to the Clean Tech Group, VC investment in clean tech has dropped 30% since 2011, reaching $5.24 billion in 2016 as a result of fewer, smaller deals. Cleantech also dropped from 16.8% of all VC deals in 2011 to 7.6 percent in 2016. Furthermore, cleantech VC deals have tended toward later stage companies in recent years. VC investment in seed and Series A rounds dropped from 32% of total VC investment in 2001 to 13% in 2016.
Cleantech funding has also concentrated in just a few areas, trending toward sectors with a strong software backbone, or at least lower hardware expenses, such as energy efficiency plays like fleet-tracking and ride sharing.
This trend toward more mature startups with lower overhead has stifled innovation in the space, according to the Brookings Institute, a nonprofit public policy organization based in Washington, DC.
“The problem with this is that early-stage startups have to work harder to obtain funding, meaning that fewer novel and potentially game-changing technologies are getting past the early stage,” reads the 2017 Brookings report. The report makes a grim forecast for the future of alternative fuels and energy independence in the US should these trends continue. “If the trend continues, breakthrough and game-changing technologies will be underfunded, and the ability of the US economy to break free from the domination of fossil fuels in the next 25-50 years will be reduced.”
Of course, solar power and electric cars are both going strong in the United States today. But the products and the markets look very different than was expected back at the tail end of President Bush’s term, and VC appetite has never recovered.
A cautionary tale
Cleantech has, therefore, become the cautionary tale of venture capital and a handful of food industry stakeholders are thinking about how to avoid letting food tech end up in a similar position.
“Unlike some technologies, where you invent a better phone and then all of a sudden it’s just a better piece of hardware and technology, and everything else becomes obsolete, food’s not gonna work like that. Food is going to take a much slower evolution of change, with step-by-step innovation, and with innovation, you’re going to have an evolution of progress,” Sam Kass, partner at Acre Venture Partners told AgFunderNews earlier this month.
Investment in food tech has grown exponentially in recent years. According to AgFunder’s AgTech Investing report, which includes innovative food such as alternative proteins, online food marketplaces, and e-commerce, novel ingredients, indoor agriculture, as well as farm tech, investment increased 540% between 2011 and 2016. It reached a peak of $4.6 billion in 2015, a bumper year for venture capital across industries, and fell off a little in 2016 to $3.23 billion as VC markets globally muted. In 2016 it represented 2.5% of the $127 billion raised globally in venture capital, according to the VenturePulse report.
“There’s a flood of money coming in and my concern is we need to be very mindful of where VC models work and where they don’t,” says Chris Mallett, corporate vice president of R&D at global agribusiness Cargill.
“In the past, VCs have been able, in areas like IT and pharma, to scale their business rapidly enough to allow them to exit within a decade. In agriculture and food, where supply chains are complex, plants are needed to make products, and adoption of new technology is slow, the evidence from [cleantech] suggests they’re not going to do it successfully without strategic partners.”
Victor Friedberg of S2G Ventures says he’s seen first hand Silicon Valley investors getting into food without all knowledge of the space.
“When we started doing [food tech] investments and we were competing with Silicon Valley venture funds, we saw those valuations,” he told delegates at the Future Food-Tech conference in New York earlier this month. “Disruption and the way the valley thinks about it is not applicable to food or food tech. I think they’re going to learn a lesson.”
To build or not to build
Mallett mentioned, and current clean tech investing trends support, that part of the clean tech bust came from investments in hardware heavy startups with highly capital intensive manufacturing. New batteries and solar panels all require manufacturing, which VCs funded and bolstered. But building a plant requires debt and takes time that VCs are sometimes not accustomed to.
According to Brookings, it was the commoditization of solar panels — along with a few VC-backed failures — that led VCs to shy away from manufacturing-dependent startups or to dissuade startups from doing their own manufacturing.
Mallett argues that building a plant is likely not a good fit for VCs’ expected timeline or skillset. “Getting permits, building a plant, getting it up and running — it’s a skill, and few VCs have that skill.”
By Mallett’s standard, indoor agriculture, with its high construction costs, would be a no-go-zone for VCs. Between AeroFarms, Bowery Farming, Bright Farms, Freight Farms, and Plenty, approximately 25 venture funds are involved in the US indoor agriculture space so far.
Spencer Lazar of General Catalyst, who recently invested in indoor farming company Bowery Farming, says that they will be relying on internal experience building businesses with substantial logistical burdens and physical locations, like Warby Parker, in managing this investment. Warby Parker, which has 44 retail locations and Vroom, which buys and sells used cars, taking physical possession of the cars and refurbishing them between owners.
Cellular agriculture is also likely a field with a similar mismatch for VC funding. Most of the startups in this space — using cells from living animals to culture animal products in a laboratory including meat, dairy, and gelatin — say that a product won’t be headed to market for another four years or so. In that time they must all find a way to scale up enough to get the price on par with conventional meat, requiring manufacturing facilities — likened to breweries — for a completely new process.
But this hasn’t stopped some high-profile VCs making their way into the space — 20 venture capital investors invested in the 10 cellular ag startups that raised $36 million in funding last year including GV (Google Ventures), Singapore state fund Temasek, Khosla Ventures, and S2G Ventures, according to AgFunder data.
Will food tech conform?
Food investors are, however, quick to point out that many food tech investments, even those that do not involve construction, are unlikely to conform to the traditional VC timeline. Most funds have a life of 10 years, meaning that all companies must exit before the 10 years are up, or the fund must be extended. Most venture exits happen four to six years after founding.
Though it’s not technically tech, the successful sale of Sir Kensington’s to Unilever occurred nine years after the company was founded. The Brookings Institute names long development cycles as part of what made clean tech somewhat of a mismatch for VCs. Blue Apron is five years old and it’s IPO is around the corner. Bright Agrotech, which was acquired by Plenty Inc. earlier this month, is six years old.
Plant-based protein startups like Impossible Foods, Beyond Meat, and Hampton Creek have complicated and specific supply chains easily interrupted by regulations change, market fluctuations or even weather, slowing their path to scale along with other essential and largely unknown factors like market adoption.
And, the extremely high tech and pioneering fields like cellular agriculture, blockchain applications, indoor agriculture, and big data solutions are most likely going to take years to mature, requiring a lot of funding as they do so.
Corporates come in
Where clean tech and food tech may differ greatly is in the role of corporate venture funding in the space. Corporate venture funding is credited with reviving the clean tech space in recent years with General Electric (GE), Google, and Duke Energy investing in startups with an eye toward acquisition, says Brookings. Plus GE, BMW, and Chevron have all started their own in-house venture funds.
In food, it’s the likes of Tyson’s, General Mil’s, Kellogg’s, Campbell’s Soup, Hain Celestial, and Coca-Cola getting into the venture game, but the role they are playing in the food tech ecosystem is very different.
“The big strategics are coming in a lot earlier than they used to,” said Brett Thomas of CAVU Ventures from the stage at the Future Food-Tech Summit in New York City at the beginning of June.
Cargill’s Mallett explained that the big food and ag corporates have always been in the mix, but generally brought in new innovation through straight acquisition. Now, with a feeling of the train leaving the station and so much attention on food tech as opposed to traditional CPG, Thomas says that corporates are investing in companies with less and less revenue, lowering the standard from somewhere around $50 million in sales to $5 million or $10 million.
Friedberg of S2G Ventures said at the same event that corporates are contributing to what many see as outsized valuations. For entrepreneurs, he described it as a “halo period” for startups to get in the door with corporates.
“Young companies with really authentic brands, but maybe not big run rates, are going to be bought at sizeable premiums because the big companies really need this [innovative] injection and to communicate to the market that they’re looking to the future,” said Friedberg.
But, CAVU’s Thomas added that the terms and conditions of working with a corporate VC can change the prospects of a startup if the corporate doesn’t acquire it as other investors could see it as a pass from a big player. “Does that leave a taste in other strategic mouths? I think that’s still TBD,” said Thomas.
What to watch in food tech
So with, long development cycles, a penchant in some corners for major construction, and large corporations puffing up valuations, will a cleantech history repeat itself in food tech?
Andy Ziolkowski of Cultivian Sandbox Ventures, one of the most established VCs in the space, says no. But that doesn’t mean that entrepreneur expectations are in line with reality. “I’m hopeful it won’t happen in food tech. I do think this influx of easy money has created unrealistic expectations in many of the entrepreneurs.” But, even without a dramatic change, he says the market is due a little humility, “The companies that have technologies and substance behind them will likely succeed at lower valuations. I think that many of these companies will have to be repriced.”
If a correction is coming, it won’t happen overnight. Stakeholders are keen to make sure that the result is more realistic valuations and more cautious investors as opposed to the narrowing of investor interest toward startups resembling the software-heavy traditional VC tech deals.
Friedberg of S2G Ventures said that a specialization process will have to occur both on the fund side, but also on the entrepreneur side. “For every entrepreneur, there is probably a subset of funds that are perfectly aligned to what you’re doing. Know the funds. Know what their DNA is,” said Freidberg.
“I think there is a correction coming and I’m just hopeful that the great companies that are being built now are strong enough by the time that comes and the commitments of funds like ours stay pretty steady to reward those good companies,” he added.
What emerged from the clean tech rollercoaster is a strong narrative. The story of the clean tech bust was arguably stronger that the actual fallout, but it’s also lasting longer.