A Risky Business?

Decision-making by venture capital funds and other firms on investments for emerging environmental technologies has to take into account significantly more risk than other technology-driven markets. The development of environmental technologies is a high- risk endeavor because the market is driven by government regulations that can change with passage of new legislation at the federal or state level. However, the logic remains that firms will invest in R&D for new technologies where they believe potential markets exist.

The Environmental Business Council (EBC), based on Boston, MA, which represents manufacturers of environmental technologies and service companies, is skeptical of the Clinton Administration's efforts to promote environmental technologies and related R&D as an area of emphasis for growing US exports and diminishing the balance of trade. EBC is critical of "fragmentation of federal programs," which limits the effectiveness of the Administration's initiative.

Dag Syrrist of Technology Funding, a California venture capital firm, has made numerous statments in the trade press that fragmentation of federal environmental programs creates disincentives to experiment with innovative environmental technologies. With so many federal and state agencies having a say in what constitutes compliance, technologies cannot be brought to market with an assurance that they will meet regulatory requirements.

Risks v. Returns

Manufacturers and buyers of environmental, or green, technologies need to know exactly what emission limits they must meet before committing to developing or buying a technology. Given the usual high risks of start-up companies, having certainty that the product will be compliant with environmental regulations is a major issue. Once a technology has been proven in terms of its effectiveness, a firm must find the capital to bring it to market.

Typically, for "seed" investments, e.g., 1st or 2nd round financing, venture capital funds seek to validate their investments in about 18 months. This will determine the potential for start-up financing. For later rounds of financing the "cash out" period for a Venture Capital firm could be as long as seven years seeking a 30% return on investment. Most venture capital firms are actively involved in the management of the firms they invest in.

Public - Private Partnerships

Efforts to overcome these problems are highlighted by the activities of the National Environmental Technology Application Center (NETAC) in Pittsburgh, PA. It is a non-profit cooperative effort between the University of Pittsburgh and EPA to facilitate commercialization of environmental technologies with primary emphasis on hazardous materials. It's work includes finding funding sources, doing market research, and technology assessment. It has produced a database of remediation technologies which is available by subscription.

NETAC has segmented the environmental technology market for hazardous materials into three broad areas: (1) technology equipment providers, (2) service providers, and (3) waste management facility owners and operators. [See the discussion under "Barriers" later in this paper on why venture capital firms shy away from environmental technologies.]

In 1993 NETAC estimated the size of the environmental technology and services market in the US at $13.4 billion. This number may be low based on US Department of Commerce estimates for 1991 noted above. Although NETAC is able to identify $500 million in venture capital funding for environmental technology firms over the past 12 years, this represents less than 2% of all venture capital placements in the US for this period.

According to Venture Economics Publishing, the total for venture capital investments in 1992 was $2.54 billion. Of this amount, software and services accounted for about 25%, medical/health care at 20%, biotechnology at 10%, and energy-related at just over 1%. At this time investments for environmental technologies are not considered to be significant enough by the National Venture Capital Association to be tracked as a separate category. Total venture capital investments in 1992 for all categories at the "seed" stage were just $74 million. So-called "start-up" dollars were $209 million, and the majority of funds, $1.4 billion, were for expansion of established companies.

Government Initiatives

John Gibbons, Director of the White House Office of Science and Technology Policy, describes two types of environmental technologies. These are light green which are designed to achieve waste minimization and pollution prevention objectives and dark green which deal with traditional end-of-pipe technologies that control or eliminate waste after it is created. Gibbons said the Administration is much more interested in light green technologies that improve manufacturing processes and produce less waste.

In FY 1995 Gibbons says the Federal government is requesting $525 million combined for EPA and DOD to conduct environmental technology-related research, an 11% increase over FY 1994. Global change research is requested to increase by 24% to $1.8 billion. About two- thirds of that amount will go to NASA for satellite-based environmental data acquisition. DOE would get $126 million for global change research.

EPA recently announced (2/3/94) a Technology Innovation Strategy to bridge the gap between R&D and commercialization. The program document for the strategy recognizes the market uncertainties which limit entry of investors to the field. Venture capital interest in environmental technologies is growing, but not fast enough where demand for environmental technologies, such as Pittsburgh, outstrips available capital.

The Advanced Research Projects Agency (ARPA) and the National Institutes for Standards & technology (NIST) have announced fourrounds of Technology Reinvestment Project (TRP awards in 1993-1994. Total funding in FY 1994 for these programs is expected to exceed $600 million. Though the focus has been on technologies other than in the environmental area, the most recent announcements of new funding from NIST includes a track on sensors, which could apply to environmental problems.

Impact of the Global Climate Change Treaty

Environmentally-related energy technologies and their applications for "demand side management" of peak-and-base-load electricity are receiving attention from sources of investor capital. This is due to an international treaty on global climate change which the US signed requiring steep cuts in emissions of carbon dioxide over the remainder of this decade. The US Climate Action Plan requires the nation as a whole to achieve as much as a 20% reduction in CO2 emissions by the year 2000. The plan has been criticized in terms of the slow start of the Administration in implementing its requirements and in funding various aspects of the plan. Some critics also think estimates of reductions in CO2 may not be reached and that expected dollars proposed for investment by industry may not be made available unless the economy improves.

The response from the electric power utility industry to this international agreement has been to seek to develop market-based incentives [described below] as an alternative to government- mandated actions under a command-and-control scenario. The Edison Electric Institute (EEI), which represents 76% of all

electric utility customers in the US (90% of plants coal-fired), developed a cooperative agreement with the U.S. Department of Energy in March 1993 titled "Climate Challenge Program." The Electric Power Research Institute and Gas Research Institute are also involved in this program.

Environment and Energy Alternatives

Environmentally-related energy initiatives in the EEI/DOE agreement include investments of hundreds of millions of dollars into photovoltaics, wind, and geothermal energy technologies.Some of these investments will be cost-shared between the utilities and DOE.

DOE massively reprogrammed its renewable energy R&D resources ($390 million, +15%) in its FY 1995 budget request to Congress shifting funds from nuclear research into alternative energy technologies. It increased its request for energy efficiency R&D by 42% to $978 million.

This industry/government agreement has attracted the interest of venture capital firms and investor-owned utilities. Advent International, one of the world's largest venture capital firms, has expressed interest in energy efficiency, renewable energy, and alternative energy sources such as photovoltaics and fuel cells. The Sacramento (CA) Municipal Utility District (SMUD) plans to supply most of its future consumer demand for electricity with alternative energy sources such as those described in the EEI/DOE agreement. SMUD has set a goal to meet 75% of future demand with these technologies by the year 2000. The firm serves 467,000 customers. It relies heavily on DOE's National Renewable Energy Laboratory in Golden, CO, for key technologies.

Hambrecht & Quist, a leading venture capital firm in San Francisco, has developed a $17 million program, the Environmental Technology Fund. Susan Pfund, the firm's director, sees opportunities in chemical recycling, analytical instrumentation, and software for improving manufacturing and energy use while reducing waste. The trend for this venture capital firm is toward pollution prevention and consumer-related environmental products and away from clean-up, site remediation, and traditional environmental-engineering such as wastewater control. Many other venture capital firms are developing similar investment strategies.

Green Market Potential in Government

Congress is promoting green technologies as a government mission. On 5/12/94 by a vote of 85-14 the Senate passed the National Environmental Technologies Act. Sponsored by Baucus, D-Mt, Lieberman, D-Ct, and Mikulski, D-Md the bill has four key objectives:

1. Coordinate the estimated $4 billion spent by Federal agencies on green technologies [addresses the "fragmentation" issue discussed earlier]
2. Authorize US EPA to match innovative investments by industry with $36M already appropriated for FY 1994 and authorize $80M for FY 1995 [funds the EPA Technology Innovation Program announced last February]
3. Set up a government-wide database of information on green technologies to assist in promotion of exports [builds on the NTAC model]
4. Invest 1.25% of Superfund monies in green technologies [expands funding for the existing EPA Superfund Innovative Technology Program]

Last year the President issued an executive order on recycling and reuse of paper in federal agencies. A primary objective of the executive order is to promote markets for recycled materials.

Department of Energy Weapons Cleanup Program

DOE's environmental restoration program is spending $6 billion annually on cleanup of weapons facilities. However, growth in the program may be flat-lined in future years due to criticism from Congress and the Office of Management & Budget that the program is a "budget buster" and is not producing desired results quickly enough.

DOE Assistant Secretary for ER&WM Thomas Grumbly has responded with statements to the press that, "DOE can no longer pursue a strategy of 'suck, muck, and truck' for cleanup." He said that innovative technologies to remediate mixed waste sites must be developed to cut costs.

Role of DOE National Laboratories

In August 1993 Los Alamos National Laboratory (LANL) hired a private firm to help start-up companies develop around the spin- off of technologies from the lab. LANL engaged an Austin, TX, firm, MCC Ventures Inc., to spend six months and $1 million investigating which LANL technologies have commercial applications. MCC will focus on electronics, software, environmental, and manufacturing technologies. MCC will work with LANL to attract venture capital to start-up firms to commercialize the LANL technologies.

Also in August 1993 the Sandia Laboratory contract was awarded to Martin-Marietta Corp. Part of the agreement with DOE stipulates that the contractor will establish a $40 million venture capital fund for technology transfer start-ups. Environmental projects are part of the investment portfolio. Martin-Marietta also manages DOE's Oak Ridge National Laboratory.

At Argonne National Laboratory ARCH Development Corp., in cooperation with the University of Chicago, raised an additional $30 million following the successful placement of $9 million in 13 new spin-off companies. Examples of successful projects include materials for superconductor applications and resins which are selective for certain radioactive metals. The resins are useful in weapons' project cleanup activities at DOE facilities.

New Paradigms

New paradigms for balancing trade-offs between development and environment have emerged over the past four years. These are interrelated because they seek to balance benefits of development against destruction of ecological / environmental resources. However, there is no free lunch in that the 2nd law of thermodynamics remains intact. All processes which use energy produce residuals, and management of residuals will always require new inputs of energy and resources to prevent harm to the environment and human health.

Sustainable Development

In June 1992 the United Nations sponsored the Earth Summit in Rio de Janeiro. The nations attending the Earth Summit produced several key international treaties on biodiversity and global warming which affect traditional natural resource industries such as forestry, mining, and agriculture. These treaties contain written sets of assumptions concerning transfer of technologies and resources from industrialized nations to lesser developed countries (LDCs). They include a vision that the LDCs will not travel the road to environmental degradation experienced by industrialized nations.

Not all LDCs or developing nations agree with this vision. As far as the biodiversity treaty is concerned the destruction of the rainforest continues in Brazil. As far as the global warming treaty is concerned fossil fuel electric power development is growing in China.

Is Sustainable Development Possible?

US involvement in the conference was minimal due to opposition from then President Bush to the biodiversity treaty. Nongovernmental organizations were incensed by the low level of official participation and follow-up to the Earth Summit. Encouraged by then Senator Albert Gore, who attended the UN meeting, they developed their own alternatives to it. Proclamations on sustainable development were issued by an international coalition of environmental groups. In a separate action an organization called the Business Council for the Earth Summit led by firms such as 3M, DOW, ABB, and Nippon Steel developed a business vision of sustainable development. They argue that long-term economic growth and environmental protection are inextricably linked. In 1993 the Clinton Administration developed a commission on sustainable development, chaired by now Vice-President Gore, but the commission lacks funds to implement programs for developing nations and LDCs.

Is sustainable development possible in business? In the US, in a McKinsey survey, [HBR; 6/94, Walley & Whitehead], while 92% of top corporate managers believed environment was a relatively important factor in decision making, only 85% listed it as a major goal, and only 37% believed they were successful in integrating environmental issues into daily decision making. Further, many companies treat environmental compliance as a functional activity outside of the core business activities of the firm.

It appears that the lessons learned by the total quality movement have not yet been widely transferred to the field of environmental compliance. As long as "environmental" is treated as an "add-on" instead of being integrated in business decision making, new environmental technologies may be a tough sell to management.

Natural Resources and Sustainable Development

Is sustainable development possible in the western states in the US? Bitter controversies continue over logging and forest management in conflict with protection of endangered species. Disputes over declining salmon have triggered conflict between users of hydroelectric power and environmentalists. Attempts to increase public lands grazing fees for cattle ranchers have encountered stiff opposition. Proposed new mining ventures have run into trouble because of their proximity to wilderness areas or national parks.

More and more environmental groups, such as the Greater Yellowstone Coalition, appear to be "drawing a line in the sand" rather than seeking solutions. On the "wise-use" side the so-called "Sagebrush Rebellion" of the 1970s appears ripe for a comeback albeit sparked by fringe political groups in addition to traditional stakeholders such as ranching, mining, and timber interests. Sustainable development, which depends on development of trade-offs between economic growth and environmental protection, is not likely to be widely accepted soon in the current political climate.

Despite the intensity of these political conflicts, the actual economic importance of extractive industries is declining in the West. It is more likely that the real issue of sustainable , development, at least in Idaho, will be water use for agriculture. Pumping of groundwater for irrigated agriculture is starting to impact the allocation of surface water in the Snake River plain. Almost 90% of Idaho's agricultural lands depend on some form of irrigation.

The major engine of economic wealth creation in Idaho continues to be agriculture. Idaho is ranked 19th in the nation (1992 data) in terms of the value of farm markets with $2.62 billion of which crops were $1.55 billion and livestock $1.07 billion. A total of 21,000 farms cultivated 14 million acres. By comparison, Illinois ranked 2nd in the US in terms of agriculture had 81,000 farms cultivating 29 million acres with a total 1992 farm market value of $7.5 billion. Significant factors in the differences between Idaho and Illinois include length of the growing season and average temperatures, annual rainfall (40-44 inches annually in Illinois compared to Idaho's 10- 12), and quality of the soils. California is ranked 1st for agriculture in the nation with $18 billion in farm market value.

Industrial Ecology

Looking 20 years into the future some analysts see a merger among several streams of environmental technologies including cross-and- multi-media (air, water, soil) analyses of residuals transport and fate from multiple facilities and solutions that integrate ecology, economics, business management, and systems thinking. Today, these ideas are loosely connected by a field of research called "industrial ecology." It is positioned by its adherents as a framework for environmental management which is based on a straightforward analogy to natural ecosystems.

In a conference held in 1992 the National Academy of Engineering (NAE) described three stages in measuring progress towards this kind of approach to environmental technologies and management decision making.

1. The first stage, which represents in time industrial development up to about the 1970s, is characterized by linear, one-way flows of materials and energy. Production, use, and disposal of goods occurs without reuse, recycling, or recovery of primary materials, energy, or residuals. This paradigm continues in Eastern Europe, the countries formed by the breakup of the Soviet Union, and China.

2. The second stage, which represents in time industrial development since the early 1970s, is characterized by some internal recycling of materials, but there is still heavy demand for virgin materials and energy. This paradigm represents the regulation of industry in the US through 'command-and-control' policies that mandate dark green technologies. Some wastes continue to be disposed of without regard to impacts on human health or economic consequences.

3. In the third stage, which is located in time at some point in the future, industrial development is characterized by a very high degree of recycling, re-use, or transformation of waste materials. New energy inputs are needed to achieve these results and economic costs and benefits can be quantified to measure results. Movement towards this paradigm is represented by current efforts in the field of pollution prevention or waste minimization. Not everyone thinks this is the wave of the future. Critics feel that conventional pollution prevention processes provide immediate, measurable benefits and that industrial ecology is at best an item that belongs on long range research agendas.

Will Industrial Ecology Work?

Both the Japanese and Canadian governments have expressed strong interest in industrial ecology and have committed funds to research projects designed to produce benefits within the next five years or less. In the US in 1993 AT&T gave $300,000 in six research grants to US universities (MIT, Princeton, NYU, UCLA, U. Mich, & Spellman College) to support research in this area. AT&T said in its press release (WSJ 11/12/93) that "industrial ecology will be a guiding principle for sustainable development in the 21st century."

Hardin Tibbs, an expert on industrial ecology and consultant with Arthur D. Little & Co. says there are three steps companies must take to move from dark green to light green environmental technologies. First, companies must find ways to stop wasteful practices that lose money.

Second, they have to reconfigure their production processes for waste minimization. Third, they must design production processes and products in terms of environmental issues as a major concern. This is sometimes called "design for environment," and is illustrated by efforts of manufacturers of electronic circuit boards to find substitutes for CFCs as solvents.

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