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Braemer Energy Ventures
Braemer Energy Ventures
Dennis Costello shared insights with Global M&A Network on investing in the clean energy sectors in the heels of oil price pressure fueled by unrest in the Middle East, lack of progress on CO2 legislation, to his insights on spotting investments, elements of due diligence as well as on trade sale vs. IPO's as exit choices.
Q.: What should be the role of government in fostering innovation and investments in the clean energy sectors?
Mr. Costello: The Government's historic role in supporting research in energy needs to continue. The role of the private sector is to turn innovation into products and services. The US is in a very competitive global market for energy and our comparative advantage is in technology innovation and new company creation. The US government needs to look at how it regulates energy and the environment to assure small US companies are not disadvantaged as they compete internationally. Such regulatory changes do not have major impacts on the US government deficit but could help this economic recovery.
Q.: How will the unrest in the Middle East affect VC energy investors in North America?
Mr. Costello: The unrest in the Middle East has already had a huge impact on the price of oil and pressure on oil prices will probably continue as these political issues will take years to fully unfold. Higher oil prices are probably a better reflection of the true cost of oil to the US consumers. That will make alternative energy and especially energy efficiency investments look more attractive, independent of US government actions. That, in turn will spur the creation of more start-up companies, which is always good for VC investors.
Q.: What are the top trends you foresee in the global clean tech investing?
Mr. Costello: Energy will continue to be a dynamic sector for many years. The US political environment, especially the emphasis on deficit reduction, smaller government and the lack of progress regarding CO2 legislation will have a big impact on many energy companies. Countering these trends could be the growing awareness of both political parties to the role of small business in job creation and economic growth. So it will be interesting to see which of these political views will have more influence on VC-backed clean tech companies.
Q.: In your view, what are the changes you expect in the energy subsectors?
Mr. Costello: I think we are going to see a major increase in the use of light-emitting diodes (LEDs) in lighting in 2011, especially in outdoor lighting and inside retail and commercial establishments. This year should also be a good time for advances in the utility implementations of smart grid technologies. Energy efficiency in buildings (better control and monitoring systems, new materials and more efficient building energy systems (including lighting) will become more important as the commercial real estate market improves in 2011 and beyond. I think we are going to see an evolution in electric vehicle markets also, in both the US and in China.
Q.: Does the economic crisis continue to affect investments in the renewable energies especially for large scale projects?
Mr. Costello: There is no doubt that the economic crisis had a strong impact on the availability of project finance and therefore on the development of most large energy projects in the US. There are signs of improvements along that front but debt availability will be more constrained for several years. Energy companies need to plan for contingencies to get large projects completed.
Q.: Shifting gears to talk about the Recovery Act, has the Act made a difference in driving investments in the renewable energy?
Mr. Costello: The Recovery Act has definitely been helpful to those companies awarded funds in the past year or so. Some of that money came at a crucial time just when other sources of finance (especially project finance) dried up. Those companies bidding on government programs that were unsuccessful may have been diverted from their primary goal of serving their target customers. I believe economists will debate the marginal benefits of this program for many years.
Q.: Per disclosure, did Braemar's portfolio companies benefit from the Recovery Act?
Mr. Costello: Several of Braemar's portfolio companies received grants and loans as part of the Recovery Act. It has allowed several of them to accelerate the commercial scale development of their technologies.
Q.: In a competitive environment, how does Braemar team spot investment opportunities?
Mr. Costello: Braemar has a strong network of both entrepreneurs and experienced executives in the energy field. Our successes with companies like EnerNOC have been noticed by the industry and many entrepreneurs seek us out as a result. We also are proactive at many energy trade shows and VC events around the US.
Q.: What do you think is the next big idea you are looking to capitalize on as you have done in the past with A123 Systems, Enerkem and Solazyme?
Mr. Costello: We believe the transition in lighting to LED and other forms of more efficient products will be in full swing in 2011 and 2012. We also see big opportunities in lighting controls, building controls and how both of these relate to the smart grid.
Q.: What principals drive your due diligence process?
Mr. Costello: We try to keep pricing discipline and not get drawn into irrational valuations for young companies. We spend a lot of our time on customer due diligence and put a lot of value on the economics of the innovation to customers. And of course, we are very sensitive to the management team and how they deal with us during the due diligence process. We view our investment as the beginning of a relationship, not a transaction. The team we are backing must have the same view for us to proceed.
Q.: Could you provide an example of"economics of the innovation to customers" to help better understand why this is important part of your diligence process?
Mr. Costello: Our due diligence always includes an analysis of the costs of the technology as seen by the customers. We are trying to better understand the life cycle costs of these innovations to the customer and what alternatives they can use to solve the same problem. The appeal of many of these technologies goes well beyond merely saving energy. Benefits such as reduced maintenance, longer life, and other performance features are drivers in these markets. It is important to understand the value of these other benefits from the customer's perspective. Those cost and benefit tradeoffs are the best predictor of the rate of market penetration, especially in commercial and industrial settings.
Q.: How are investment decisions made by your team?
Mr. Costello: We have an investment committee comprised of all the partners in the firm. Investment decisions require a multi-step process that is highly documented. We believe there is value in a formal process, even with a small team of professionals.
Q.: Is the"multi-step" process a checklist?
Mr. Costello: Our multi-step process is not a checklist. Rather, it is a series of memos and group discussions that start at a general level and get more detailed each step. In the early stages, we are trying to understand the real value proposition of the target company. As the process continues, the inquiries get more pointed around the key risks of the deal, including competition, IP, management, time to market and the other key success factors of the deal.
Q.: How do you and the team interact with the management of your portfolio companies?
Mr. Costello: We are active with our portfolio companies. We typically have a Board seat and try to add value to the enterprise wherever we can. Our involvement is at the strategic level and we do not get involved in operations or tactical management of the Company. Our role is to support the senior management team to achieve success.
Q.: What is Braemer's preferred exit strategy - sale to another fund, find a strategic buyer or an IPO?
Mr. Costello: We remain open to either type of exit and have used both IPOs and corporate sales numerous times in the past. There are pros and cons to each. We think it would certainly help the entire economy if regulations surrounding public offerings were simplified to better match the needs of smaller public companies. We think that could be done without compromising any safeguards to small investors in these public companies.
Q.: you elaborate on the above mentioned"pros and cons" of the exit strategies?
Mr. Costello: The major pros of a trade sale, which would include a sale to either a strategic buyer or a private equity firm, are that it usually takes less time from inception to closing and the buyer is providing cash or a similar asset that can be easily valued and immediately distributed to our Limited Partners. IPO exits sometimes yield higher valuations to the selling VC but restrictions on the sale of the newly listed securities delay our ability to distribute the proceeds to our Limited Partners. The performance of the Company and overall trends in public markets after the IPO become a strong determinant of the value of our investment, which adds another risk. The valuations can go up or down after the IPO, but in either case, our ability to influence that outcome has been eliminated.
Q.: What sets Braemer Energy Ventures apart from other venture capital firms in the energy sector?
Mr. Costello: Braemar's most unique feature is probably the many years of experience in the energy field, some of it dating back to the 1970s and 1980s. That experience gives us a unique perspective on current energy trends and a realistic view of the pace of change to expect in various energy subsectors. We also focus on energy technologies for both new and conventional energy sources which differentiates us from many others in the clean tech space. Finally, we have devoted much more of our resources to energy efficiency companies than many of our colleagues.
Q.: In closing, what book are you reading right now?
Mr. Costello: I have been enjoying Breakfast with Buddha by Roland Merullo. It is a great combination of a travel book and insights into Zen philosophy. It helps you separate observation from personal judgments that can often prevent one from seeing reality. That can come in handy in venture capital.
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