Posted: January 25, 2010
How to turn a clean tech idea into reality
Pass go, proceed directly to venture capitalGreg Pfahl
It's all well and good to build clean technology that powers the world and makes it better at the same time, but when trying to turn their invention into a business, people run headlong into their biggest challenge: financing.
My firm was a sponsor of the Rocky Mountain Cleantech Open this past year because we think the competition is a great way to help renewable companies get started. If you are thinking of entering a contest like the Cleantech Open, you can learn a lot about - and even obtain - financing in a short time.
Clean tech, alternative energy, renewables, however you want to label the industry, is predominantly a research and development industry at this point. Scientists are not typically businessmen used to the pointed questions and outright challenges to assumptions by bankers and investors. As advisors, we learned a lot and so did the companies. I'll start with my observations of working with the companies and finish with theirs.
Challenging your assumptions, building financial systems
Most early stage entrepreneurs spend much of their energy getting to the table with funding sources. The problem is they are typically not prepared to succeed when they get there. Energy is better spent on making their presentation razor sharp prior to the meeting. How?
Start with the business plan. In the Cleantech Open, entrepreneurs had a hard time understanding how to structure a financing - whether the money is debt or equity, how much of the company is being sold - and how to put together the presentation. Most of the work we did is to get a more professional business plan. A lot of start-ups are founded by scientists who haven't hired a strong CEO. Their idea of a business plan going into the competition was different than how they look at business plans now.
Because these enterprises typically don't have an existing track record, most of the scrutiny and hard questions will come on the financial forecasts. You've got to be able to defend those with steel logic. Challenge your assumptions - or have someone help you - before you get to the negotiating table with a funding source. You need to have projections five years out and in some cases, longer.
Revenue is the most important number. How are you going to get there and what will that cost? Have a good finger on what the capital costs will be. Some of the clients I deal with experience costs in excess of $100 million to get to production. The companies we worked with in the Cleantech Open will spend quite a bit less than that.
You can't attract either equity or debt without a solid financial reporting system. Most early stage companies don't have a true accountant on staff, or know how to structure accounts, what to capitalize, or how the equity structure should be presented.
As the company starts generating revenue, more issues will come up on how to deal with inventory and recognize revenue. Usually research and development (R&D) will be expensed on the income statement - shown as a loss - but there are specific requirements as to when R&D may be capitalized and carried on the balance sheet as inventory.
Deane Little, CEO of New Sky Energy, said that competing - and being one of the three finalists among the Rocky Mountain competition's more than 278 entrants - in the Cleantech Open caused his executive group to sharpen their business plan and presentation and increase the company's overall professionalism. New Sky Energy, which captures and converts carbon dioxide into materials that are used in glass, plastics, building materials and fabrics, was able to raise its profile, including an article on 9News.com profiling the company.
New Sky was introduced to several venture capital firms and discussions about financing are ongoing. In addition, the company is negotiating an angel round for between $500,000 and $1[GP1] million and hopes for up to $10 million in further financing. Little believes that could bring New Sky to profitability, as it has a large contract in California and others in the works.
"The whole Cleantech Open experience was probably worth $1 million in services to us," Little said.
While Energistic Systems/Suntrac Solar vice president Dan Fratello said the competition didn't lead to any direct funding deals, it improved the company's focus on what it was trying to achieve and got it back to its basic business plan.
SunTrac Solar makes highly efficient solar conversion systems for residential and commercial use. It is just entering the revenue stage and the most likely source of funding will be from angel investors, Fratello said. The company's success in the Cleantech Open prepared them to present at the Angel Capital Summit in Denver.
"We learned to focus on those who are passionate about what we are doing. They are the most likely investors," Fratello said. "Don't waste a lot of time hoping for gold at the end of the rainbow. Figure out who realistically will fund based on their past investments and focus on them."
Other than getting a lot of professional services for free as well as the cash prizes, companies in a competition ideally would skip a step in financing - say, the seed or angel levels - and go directly to venture capital funds. Some of the companies in the competition did while others did not. But all of them sharpened their business skills during the competition and it gives them a better chance to succeed.
Greg Pfahl, CPA, is an audit partner in the Denver office of Hein & Associates LLP, a full-service public accounting and advisory firm with additional offices in Houston, Dallas and Orange County. He specializes in financial reporting for complex transactions, including initial public offerings (IPOs), private offerings, and mergers and acquisitions, and serves as a local leader for the firm’s alternative energy practice area. Greg Pfahl can be reached at email@example.com or 303.298.9600.