ARPA-E's Cleantech Investments Show Early Signs of Success

ARPA-E's Cleantech Investments Show Early Signs of Success

Good news on the ARPA-E front (that's "Advanced Research Projects Agency -- Energy", for those whose professional life isn't one big acronym ... ahem) -- six of the 37 entities receiving government funding have subsequently closed additional rounds of follow-on private funding:

In late 2009, the >federal government gave $151 million in grants to advance 37 clean energy ideas deemed too radical or too preliminary to attract much private financing -- like electricity storage that mimics photosynthesis and batteries that double or triple the energy stored per pound.
Since then, six of the projects have made enough progress to attract $108 million in private venture capital financing -- about four private dollars for every dollar that the taxpayers spent to get them rolling -- the Department of Energy plans to announce Thursday.

(Some background with a range of perspectives on ARPA-E here [PDF], here [PDF], here and here [PDF]).

For those investing in early-stage technologies/companies, demonstrating the wisdom of that investment can take a long, long time (VC investments, for example, typically have five- to eight-year horizons, depending on the round). But there are a number of milestones along the way that can indicate movement in the right direction -- e.g. proof of concept, pilot demonstrations, market entry, and, in this instance, new rounds of funding from other investors.

These first few investments from the private sector, while a small sampling, provide ARPA-E optimists with evidence that the first rounds of ARPA-E investments have been allocated well.

A couple other things are worth noting:

One is the large size of each follow-on round ($10 million, $33.4 million, $9.5 million, $12 million, $27 million) indicating that investors are coming in at a later stage in the investment cycle for these start-ups.

Very, very generically speaking, a start-up company's funding comes in stages, with early, early funding from family/personal investments and maybe an angel investor, and then a Series A round that's large enough to demonstrate the tech, followed by B and C rounds as the company scales and starts to commercialize, then D to fully scale.

My original understanding of ARPA-E was that it would focus on the very early stages of investment. It appears, both from the size of ARPA-E's original funding, and these later investments, that they've funded later in the cycle, meaning that (again, very generically speaking) they're hitting companies closer to commercialization. This isn't necessarily a bad thing -- and in fact could prove useful in demonstrating to Congress the value of continuing to fund ARPA-E (which currently only has funding through 2012). But it's definitely a metric worth looking at as evidence of ARPA-E's longer term innovation strategy.

The second item of note builds off the good quote in this article from Josh Lerner which touches on another useful metric to measure the success of ARPA-E:

Josh Lerner, a professor at the Harvard Business School and an expert on venture capital, said he would have been surprised if most of the projects had attracted private financing quickly.
If all the projects had quickly drawn private money, it would have suggested that the projects would have happened without government intervention, Mr. Lerner said.
With a track record of six of 37 being picked up, "it's hard not to feel it's a reasonable indicator that they're doing something right," he said

The unfortunately reality (at least from a political perspective, not necessarily a policy one) is that you really do want to see some failures, to prove ARPA-E is funding risky technologies and not just those technologies that likely would've received private funding anyway. But for political sustainability, that needs to balanced with a healthy mix of companies getting funding over time. So far, six companies receiving follow-on funds at a four to one multiple, is a good early sign that ARPA-E is finding that balance.

Finally, there is one caveat in using private funding as a metric of success. Any ARPA-E funding is going to be considered by the market as a validator of that technology, meaning that a VC/PE investor is more likely to fund an ARPA-E project, believing that the government due diligence, especially on the science side, is a "stamp of approval". Given this, "ARPA-E companies" are more likely to get follow-on private funding that they would have without that ARPA-E validation, and therefore, ARPA-E could have a sizable artificial impact on VC/PE investment. From an innovation perspective, this ability to drive private capital in certain directions will add to the pressure to fund good ideas. But provided it continues to allocate smartly, doesn't crowd out private sector capital, and instead accelerates the deployment of riskier, potentially breakthrough clean energy technologies, ARPA-E should continue to receive strong, bi-partisan support.

This article originally appeared on the NRDC's Switchboard blog and is reprinted with permission.

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