What climate founders should know before chasing venture capital
With over $40B of VC capital invested into climate startups in 2022, it’s understandable why so many founders set their sights on VC as a primary means of financing their climate business. But the competition is so fierce and investors’ criteria so demanding - especially in the current economic environment - that the vast majority of founders who go down the VC path are simply wasting their time.
Brock Mansfield is the Chairman of Meliorate Partners, a family of funds which invest in climate companies at the Founder to Pre-Seed stages. We chatted with him to learn more about the key things climate founders need to be aware of before they embark down the venture path, what’s at stake for investors when they fund a business, and the personal qualities that will help founders deliver the monumental returns VCs expect.
Climate VC is still VC
There is no lack of need for innovation in the climate space. But not every innovation is venture backable, and in fact many aren’t. While Climate VC’s put a specific lens and set of environmental outcome filters on their investments, they are still in the same business as traditional venture, and many of the same rules, metrics and expectations still apply. This is worth keeping in mind as you start your funding journey.
What “venture scale” actually means to investors
Before you start initiating conversations with early-stage investors, it’s crucial that you fully understand the math behind venture capital, and the unique expectations these investors will have. Most venture funds (climate and non-climate) need to return 2-3x their fund to LP’s in order to be well positioned to raise their next fund. Because up to 90%+ of venture investments will ultimately not return capital or return very little, the returns coming from successful companies (the “fund makers”) need to be astronomical in order to ensure the fund hits this overall minimum return level. A pre-Seed stage fund with 40-50 portfolio companies needs its few “fund makers” to deliver at least a 50x to 100x return on the initial investment (i.e. if a first investment is made at $5m post, a $250-500m exit).
When you engage a VC, ask them about the size of their fund, how much they typically invest, what their follow on strategy is etc. so you can understand how they view opportunities. In addition to learning about investor expectations, asking the question will signal to the investor that you’re thoughtful and fully aware of what you’re getting into, likely positively impacting their perception of you.
Questions to ask yourself before you go after venture capital
Is the market big enough?
Your first priority should be making sure your potential market is big enough. You might have the perfect team and do everything right, but if a large market isn’t there, it just won’t be possible to achieve a venture-sized outcome.
Start by looking at your TAM (Total Addressable Market) and factor in whether this is likely a winner-take-all market or one where there will be multiple winners. If you’re in a winner-take-all sector, you will need to be clear about the edge that will make you the dominant company in your space, whether that’s your IP, network effect, or something else. You should also have done a lot of thinking about scale i.e. how are you designing your solution, your systems and your go to market so that you can get big as quickly as possible.
Do you have a solid and realistic growth timeline?
Investors are always looking a few steps ahead– some will never do a deal without calling peers to ask what metrics would make them interested in your company in a downstream round. You’ll need to have a timeline for growth planned out, showing key milestones, some ideas about how you plan to achieve them, and how much capital you think you will need.
While it depends on your sector, an old but still relevant rule of thumb for software or services are “Triple 3 Double 2”, i.e. revenue growth between your A, B and C rounds should be 300%, and 200% for the following two rounds (this is what it takes to go from $1m revenue to $100m revenue over 5 rounds of capital.) For hard sciences, materials or deep tech, growth curves can be slower in earlier stages, but at some point you still need to ramp growth incredibly quickly. Founder to Pre-Seed stage investors know things can be more uncertain as it often involves prototypes (which may or may not work) and product/market/fit with customers (which you may have to take several stabs at before getting right.)
That said, prospective investors need to be convinced you can get to the metrics needed to fund your eventual Series A round, so make sure to have some awareness of what these metrics are for your sector/business model. You should be able to explain your growth plans quickly and succinctly, backed up by some “quick math” i.e. an easy to understand calculation of how you see TAM. Don’t just make this up…a good VC will challenge your numbers to make sure they are defensible.
Are you the right person to seize a venture opportunity?
Running a venture-backed startup is an incredibly demanding task, one that very few people are actually capable of doing well (the high failure rate attests to that). Since an investor doesn’t want to change horses in the middle of a sprint, it is worth doing some introspection about whether you’re truly up to the task before your company starts seeking venture capital. In particular, take a moment to ask yourself if you are willing to give up the next 7-10 (or more) years of your life for your startup. Make sure the answer is a clear “yes” before you go out to raise, as smart investors are definitely going to need to get conviction about your level of commitment before investing.
While there are many qualities that define a “backable” founder, there are a few key elements investors look for:
As well as knowing what you’re good at, you need to know what your shortcomings are and when to ask for help. Investors want to see that you can listen and take advice - which doesn’t mean sitting back and waiting for instructions, but being willing to bring together information across a community of stakeholders, look at it realistically, and make a thoughtful decision.
2. The ability to recruit talent
To successfully take advantage of the market opportunity that’s in front of you, you’ll need to attract the right talent to your team. If your company is successful, some potential hires will come to you, but especially early on you also need strong networks and the ability to persuade partners, customers, and other stakeholders to come on board. Investors need to believe that people will follow you, so look at your track record and ask yourself whether your track record reinforces that talent - for example, have you had difficulty recruiting people in the past, or did anyone from your previous company follow you to your current one?
3. A singular drive and motivation
As a founder, you’ll hear ‘no’ most of the time, and continuing despite this pushback will require an incredible level of persistence and resilience. Even if your product is magic in a bottle, running your business will entail extremely hard work, so you’ll need to be willing to make sacrifices. Once you take venture dollars, your investors will expect 100% of your work time going to your startup for the next 10 years or more. So it’s worth taking a moment to have an honest conversation with yourself about whether you have this drive and are committed to this journey. Better yet, ask some friends or co-workers for their honest feedback.
Hitting walls is inevitable, but successful founders know when they’re being sent a signal that they need to change something. You’ll need to be flexible and open to adapting your product or way of operating in response to these signals. Think back on your experiences to figure out if you’re adaptable. Have you ever had to dramatically change focus on a big project? How have you handled pivoting when things went wrong?
VC is not the only game in town
VC funding has taken on something of a mythical quality over the last decade, and is often viewed as the only way to finance world changing companies. While it’s true that venture capital and VC partners have played a critical role in helping companies become world leaders, there are lots of successful entrepreneurs who have used alternative or complementary routes - grant funding, debt financing, and other forms of capital - to scale their businesses.
Before you build your capitalization strategy, make sure to really think about what you want, and what your company needs. VC investors can be hugely supportive and high value add, but they are also demanding partners with their own incentive structure that can sometimes run counter to your desired path.
Be thoughtful as you decide whether VC is the right path for you and your company. If so, a great venture partnership with the right firm can pay huge dividends, especially in the climate space where values alignment and sector specific networks play such an important part in a successful outcome.
Brock Mansield is the Chairman of Meliorate Partners. Their early stage funds (Meliorate Fund, Salmon Innovation Fund, Blue Innovation Fund) invest in Founder to Pre-Seed innovations that are mitigating, transitioning or replacing the Industrial Economy (high carbon, extractive, destructive to natural ecosystems) with the Environmental Economy (decarbonized, circular/sustainable, nature positive.) Mr. Mansfield is also founder of EnVest, the largest community of early stage environmental funds in the US. As Chairman of EnVest, Mr. Mansfield is responsible for identifying and selecting companies reimagining our future economy. Mr. Mansfield is a graduate of the Stanford Graduate School of Business, where he currently serves as a mentor for environmental startups emerging from the Stanford GSB Startup Venture Studio, and as a finalist judge for the awarding of $500,000 of Stanford Doerr School’s Ecopreneurship program grants.