Venture Capital: Fuel cells pique investor interest
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By JOHN COOK
SEATTLE POST-INTELLIGENCER REPORTER
Friday, July 25, 2003
Hydrogen fuel cells have been touted as a revolutionary energy source that could eventually power everything from cellular phones to fighter jets.
So it should not be a big surprise that venture capitalists, always on the prowl for the next big thing, are trying to figure out how this emerging sector will play out in the next decade.
There's a lot at stake. After all, portable fuel cells alone -- tiny devices embedded in laptops, cell phones and other hand-held devices -- are expected to top $2 billion in sales in the next seven years, according to the U.S. Fuel Cell Council. Global demand for all fuel cells -- including those that would power buses and cars -- is projected to reach $46 billion by 2011.
Fuel cells also received a big boost earlier this year when President Bush called for $1.7 billion to study how they could be used in automobiles.
Those developments should wake up most VCs.
But fuel cells -- which generate electricity through an electrochemical reaction using hydrogen and oxygen -- have not been on the radar screens of many venture capital firms. Part of the reason is that venture capitalists have been cleaning up their existing portfolio companies, leaving little room for new investments in nascent markets. Furthermore, many venture capitalists emerged from the software, biotechnology and semiconductor industries and therefore do not have expertise in fuel cells.
In 2001, only three start-up fuel-cell companies attracted $8.7 million in venture capital financing, according to VentureWire. So far this year the floodgates haven't really opened. Spokane-based Avista Labs raised $7.5 million this week, bringing the grand total to $24.9 million.
To put that in perspective, consider that biotechnology companies received $563 million and semiconductor start-ups attracted $324 million in the first quarter.
But some who follow the fuel-cell industry say venture capitalists are starting to awaken to the opportunity.
Cascadia Capital's Kirk Van Alstyne, who helped Avista Labs secure the $7.5 million round, said there have always been a few venture capital firms that specialize in energy deals.
But in the past year, large Silicon Valley venture capital firms such as Technology Partners, Mayfield, Draper Fisher Jurvetson and Kleiner Perkins Caufield & Byers have started exploring fuel-cell deals.
"A lot of these firms are looking at areas where they can start to diversify, especially given that some segments where they used to be very active like telecommunications have dried up," Van Alstyne said. "The overall interest level is up remarkably, and I think it is going to be a very active space."
While the larger venture firms are showing interest, Van Alstyne said they can be reluctant to pull the trigger because partners do not posses the expertise. That is leading some of the big firms to take a more cautious approach by looking at later stage deals or partnering with energy specific firms such as Nth Power or Chrysalix Energy. Avista Labs, whose fuel cells work as an emergency power source for universities and other facilities, received its financing from a diverse syndicate that included Chrysalix, Buerk Craig Victor and Wall Street Technology Partners.
Jesse Berst, co-founder of The Athena Institute, a Redmond research organization that recently completed a study on fuel cells, said it may take a while for venture capitalists to get involved. Investment dollars flowed into the sector in the late 1990s as the economy soared and the promise of the technology was hyped. But fuel cells, like other parts of the technology economy, have been stuck in a downward cycle ever since.
"It is not the flavor of the month amongst investors," Berst said. "... We are just starting to come out of the bottom, but it is still going to be a ways until we hit some equilibrium."
He said valuations are way below 1999 levels and many companies are struggling to find financing.
Neah Power Systems, a Bothell company that is developing micro-fuel cells for hand-held computer devices, is one of the fortunate companies that received financing this year. Backed by Alta Partners, Intel Capital and Frazier Technology Ventures, Neah Power is still two years away from commercializing its technology.
That's not unusual in the fuel-cell industry, where most start-ups are still in the research and development stage. David Dorheim, president and CEO of Neah Power, admits that the long-term horizon can test the mettle of venture capitalists who want quicker paths to profitability. But he also said venture capitalists -- who have watched the growth of the laptop computers over the past decade -- are intrigued with a new energy source that could provide longer-lasting power to portable devices.
"Generally there is a receptive audience to discussing fuel cells as an alternative," said Dorheim. "As a result of that we have good discussions with many people when we talk to venture capitalists."
Nu Element, a seven-person start-up that is working on a hydrogen fuel processor to power instruments on military aircraft, hasn't received any venture capital backing. But the 4-year-old Tacoma company, which received a $1.8 million contract from the Navy, has noticed a surge in enthusiasm in the sector in the past year. The Boeing Co. recently joined Chrysalix Energy, a Vancouver, B.C., venture capital consortium backed by Ballard Power, Duke Energy, Mitsubishi Corp. and others.
"We are starting to see some signs of life and certainly interest from VCs about fuel cells and where that is going," said Karen Fleckner, president and chief executive of Nu Element. "Energy is an issue and the president's position on the hydrogen economy has definitely been a forward push for fuel cells."
That could be a good sign for the Pacific Northwest. While there are only a handful of fuel-cell start-ups in the Puget Sound region, Washington state is located next door to the world's leading research hub for hydrogen fuel cells: Vancouver, B.C.
"If you look at the Northwest as a whole, it is a very vibrant area from a fuel-cell perspective," said Berst, pointing to the leadership of the Pacific Northwest National Laboratory in Richland and Ballard Power in Vancouver. "I think there will continue to be interesting opportunities because you have an installed base and infrastructure of skill set around that particular science."
Other states are trying to participate as well. Michigan -- through its NextEnergy program -- has devoted $79 million and a 700 acre research zone for alternative energy projects. Ohio plans to spend $162 million on fuel-cell initiatives over three years.
But some believe the Pacific Northwest is still well-positioned.
Jack Robertson, the former head of the Bonneville Power Administration, thinks there is an opportunity. At a conference last month in Seattle, he said the Pacific Northwest has the opportunity to be "the Saudi Arabia of hydrogen."
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