“When scientists approach us for funding, it’s best to start by telling us what problem are you solving. Don’t start with the technology. Start with the problem first. It’s really important… There will be plenty of time during due diligence to get into the technical details. But first, you’ve got to hook the investors.” Nancy Floyd
What Do Venture Capitalists Need to Hear from Scientists? A Conversation with Nancy Floyd, the Founder of Nth Power
Nancy Floyd is Founder and Managing Director of Nth Power, the pioneering energy venture capital firm with $450M under management and investments in more than 60 companies including some of the market leaders in renewable energy, energy efficiency, smart grid, clean transportation and green buildings. A highly respected entrepreneur, Nancy has founded and helped launch 17 companies, delivered an address on green technology at the 2008 Democratic National Convention and served as a judge for idea competitions including the MIT Clean Energy Prize and many clean tech and NREL (National Renewable Energy Lab) events. Nancy sits or has sat on 13 Boards of Nth Power investment companies as well as the boards of the New Leaders Council and the ACORE (American Council on Renewable Energy) and Washington Gas Light Company and its parent company WGL Holdings where she helped orchestrate the $6.4B acquisition of WGL by AltaGas in January of 2017.
An early energy pioneer, Nancy founded one of the country’s first wind development firms in 1982, utilizing advanced technology developed by NASA and Sandia Labs. She developed over $30 million in projects and sold NFC Energy Corporation, generating a 25-fold return on the original capital invested in three years. In 1985, she helped found and launch PacTel Spectrum Services, a network management company for private voice and data networks and a subsidiary of Pacific Telesis. She also founded one of the first non-profit organizations in the U.S. to fund home energy audits.
What inspired you to create a venture firm with a focus on energy technologies?
The idea for the fund was the fact that the handwriting was on the wall in the United States that the electric utility industry was going to deregulate. Having seen the telecommunications industry go through deregulation when I was at PacTel Spectrum Services, I saw the role that technology played in turning the industry upside down. So fast forward to 1992 when it looked like the utility industry in this country was going to deregulate and I thought that the utilities were looking for market differentiating products and services.
At the time there was virtually no venture funding for new energy technology companies. There was R&D money. If you look at DOE (Department of Energy), NREL, and the national labs, the R&D budgets had been pretty flat for almost a decade in energy. There was no source of capital to fund the progression from technology development to product development and the requisite sales and marketing resources needed to have a successful commercial company.
What was your vision when you started Nth power?
The vision was to raise a small fund. Our first fund was $65 million and it became more successful than we had envisioned. We ended up raising almost $450M in four funds and invested in 60 early-stage companies in new energy technology. Even in that first fund, with relatively very little capital, we had a pretty significant impact in terms of launching this whole sector.
We were arguably the very first fund. The market drivers changed significantly as we raised subsequent funds. Deregulation failed in the United States. We had the bankruptcy of Enron. We morphed from deregulation being the major driver for the first fund to it not being a driver at all in the next three. It really was about funding new sources of energy supply, energy storage and distributed generation which is threatening to destabilize the traditional utility model. So it has been an interesting evolution.
How did you determine your investment strategy and where the promising market opportunities were?
You learn a lot about the market when you see a 1,000 business plans a year.
We had, and still have, a very broad, global network. We learned from our investors. We learned from the entrepreneurs. Our network went far beyond that. We got our deal flow out of the universities and the labs, too. We got it from other VCs. We got it from strategic players like utilities, GE, ABB, Dow and energy companies including utilities. When you are constantly in that mix of deals, you certainly have your finger on the pulse of what’s happening. In fact we were being asked to predict what was going to happen in the market because we had this interesting ecosystem that we were operating in and had access to really proprietary information.
In the first fund we saw a lot of companies in renewable energy. That told us that there was something happening in the market. Entrepreneurs would say I want to start a company in solar or energy efficiency and you could then look and see what is happening in the market, the competition, technology advances and the policy and regulatory implications. In the first fund we saw 98% of all the deals there were to see. Up until our fourth fund there was never a deal that we wanted to do that we didn’t have the opportunity to do. That’s very rare in venture capital.
When we started our first fund, there was about $50 million a year in VC dollars being invested in what I’ll call cleantech. That number jumped to $11 billion by 2006-7. What happened was just phenomenal! And the fact that we were the first stop for entrepreneurs meant that we really had a pulse on what was happening.
With 1,000 business plans a year, how did you decide where to invest?
We invested in less than half of one percent of all business plans that we saw. That brings up a very important point. A couple of times we invested in companies that probably shouldn’t have raised venture capital. We generally want to be out of an investment in five to seven years, either because it failed, or went public, or we sold it to a public company or to somebody for cash. I think we ruined a few businesses by injecting capital into them with the kind of return criteria that we have. We put a lot of pressure on companies to grow.
When should scientists pursue venture funding?
Venture capital dollars are there for product development, not technology development. They are for sales and marketing and building out that infrastructure. So there are a lot of great businesses that should never raise venture capital. They don’t have to grow 200% a year for five years to be successful.
Even though we were very selective, there are 10 or 15% of business plans that we saw that were really good businesses – they just weren’t going to grow fast enough and generate the returns we were looking for. I always tell entrepreneurs that if you get rejected by a VC firm, that doesn’t mean you don’t have a good idea.
So where should those people go to find capital?
I’ve seen many companies be successful growing on SBIR (Small Business Innovative Research) and ARPA-E (Advanced Research Projects Agency-Energy) type of grants or other programs like that. I’ve seen very successful companies bootstrap their way to success by investing when they had the capital to invest. In other words, these companies either took their profits and reinvested in the business or went to friends and family for capital. Generally they were capital efficient businesses that didn’t need a lot of capital, say less than $10 million. Of course today, you have a couple dozen crowd funding sites that can be tapped for investment.
We opted not to fund capital-intensive businesses because our funds were small. We had an opportunity to invest in Tesla A123, Brightsource and more. Even before these companies went public, they had raised well over a billion dollars each. For each deal, Nth Power was investing between $1M and $7M in initial funding and reserving 2X of that initial investment for follow on investments. We were too small to buy a meaningful enough stake in these companies and to maintain that ownership over time. So we focused on capital efficient companies, companies that needed $50M or less in total funding. By the way, when we invest, we expect to earn over 10x our investment in our successful companies. That’s because almost half of the companies that are venture capital funded fail outright.
What do you recommend scientists focus on when they start a discussion with venture capital firms?
When scientists approach us for funding, it’s best to start by telling us what problem are you solving. Don’t start with the technology. Start with the problem first. It’s really important. In cleantech, we funded companies that addressed a critical pain point, not a nice to have product. That’s because there is no sense of urgency to buy something that’s just nice to have in the energy sector.
Which technologies have you funded over the years?
It’s a very long list that includes micro turbines, proton exchange membrane fuel cells, solid acid fuel cells, high-throughput experimentation for nano-materials, several advanced solar companies, lithium ion batteries, LED lighting, HID lights, dimmable electronic ballasts, several versions of energy management software, lots of green building materials like bricks made from fly ash. We’ve also invested in advanced biofuels – both biodiesel and ethanol, thermoelectrics and concentrating solar technology. Advanced catalysts for the refining process is one of our current deals so, for every barrel of crude oil, you get 10 percent more finished product, more diesel and gasoline. Also, we’ve funded smart energy meters, waste-to-energy technologies, data center energy efficiency software and sensors, wind and hybrid power systems, transformer monitoring systems for big substations. This list is only partial and gives you a sense of why energy is such a tough venture area. It’s so broad. Nobody can be an expert in every single technology.
How did you narrow your list of companies to consider funding?
With 1,000 business plans a year, we took first meetings with maybe 200-300 companies. Our initial screen of a business plan was anywhere from five minutes to an hour. You’d read the executive summary and go to the management team and you would make a decision to put the plan in the “pass” pile or the “spend more time” pile. Every week we were reading a lot of business plans and meeting with a lot of companies. We typically did deep due diligence on about 75 companies a year.
You’ve had to come up the learning curve on so many technologies. How do you become familiar enough to be able to evaluate these opportunities?
We relied on our network and our strategic investors to help us in due diligence. It’s not really about doing a lot of “library” research. There is a lot you are just not going to know when you go into an investment as an early stage investor. You don’t know whether the technology can actually scale from the lab to the field, because the entrepreneur who is more expert than anybody doesn’t know that either. You can look at a technology roadmap and decide whether it’s reasonable or not. But, there’s no guarantee you will be right. So you just have to look at and evaluate what you can. Evaluate the strength of the team and the basic principles of what they are doing. Does it break any of the laws of thermodynamics for example? In our due diligence, we would talk to potential customers. For the catalyst that increases the yield of gasoline and diesel from a barrel of crude we reached out to two of our investors; Chevron and Dow. We were not necessarily consulting them on the technology because the startup wouldn’t let us share details of the technology with our strategic investors for competitive reasons. But we wanted to get our investors to give us their best answer to a hypothetical question – “if this works, how does it get adopted?” The technology is obviously important but in the end you have to get commercial traction or the investment is a bust.
What did you have to see to compel you to take a first meeting?
First, it’s the quality of the team. The team is the most important thing to evaluate because they are the ones who will either be successful executing on the business plan or fail. Second, we like to see a concise and compelling executive summary including a clear answer to the question “This is the problem I am solving.” Too often we see technology looking for a problem to solve. We want to see the exact opposite – a solution that the entrepreneur has developed to solve a critical problem.
An early stage technology company won’t always be able to quantify what the customer value proposition is, but the entrepreneur should give a sense of what it would be. Also, the founders have to show that they understand the competitive landscape. One of the big mistakes that scientists and management teams make coming in to an initial meeting is to say “I have no competition.” It’s classic. They overlook the fact that customers are doing something now to deal with a problem or issue, so a customer NOT changing what they are doing is always competition for a new product. Doing nothing is always an option and it’s the easy path forward for a customer. It’s really hard for scientists who have spent their lives on something to understand this and to know the phrase “no competition” is one of the biggest red flags for an investor.
I spend a lot of time counseling young scientists that if you don’t have any competition, maybe it’s because it’s not a good idea.
How much detail should a scientist or founder cover when they talk about the technology?
The technology is only one leg of the stool so to speak. You have to show equal appreciation for market, customer value proposition, competition, market opportunity and, oh by the way, we want you to come in thinking in terms of profit and loss. In other words, we want to know that you are thinking about how to build a successful business, not a business you would love to own for 20 years but a business that is going to grow rapidly over five to seven years and generate the kinds of returns that our investors expect. So, to come in and spend three quarters of the meeting on technology is a sure way NOT to get funded. You are thinking in technology terms when you need to show you are thinking in market terms.
Before a scientist comes in to pitch for funding, what homework should they do?
In the Internet age, there is no excuse for not having some level of understanding of what the VC firm does. It’s usually easy to find out what a firm invests in because most firms will publish the list of their investments on their websites. And, most firms will list the criteria they are looking for in a potential investment. You don’t really want to go to a firm that’s invested in one of your close competitors and you look naïve at best, and unprepared at worst, if you go to a firm that only invests in companies that have revenue when you have none.
If you think you need small dollars then you need to go to a different type of VC fund than if you need multiple millions of dollars. There’s a broad range of firms with some investing in profitable companies when there is less risk and some that like to invest in pre-revenue companies. So you need to do your homework and identify which firms are willing to make seed or Series A investments.
Often scientists don’t think enough about audience and where to start or how to build a bridge to understanding when explaining something that people are not familiar with. Have you seen that done well? How can scientists do that better when they recognize there is a gap in your understanding?
I’ve only seen it done well about 5-10% of the time. I’d say that 90% of the time, we get inundated with a lot of technical detail. In some ways that’s understandable coming from technologists and scientists. But that’s a big mistake.
Know your audience. In a first meeting, you’ve only got 45 minutes to cover the technology, market opportunity, the customer, competition, sales strategy and who you need to hire. What are the key milestones you’ll hit if you raise this funding? How much more will you need to raise to get to a liquidity event where you are mature enough to get bought or go public? You’ve got to cover all those topics to have a complete presentation and you only get an hour.
If you spend all 45 minutes or even 30 minutes covering material that – if you had done your homework – you would know that the people you are meeting with already understand, then you’ve just wasted time when you could have gotten into a really good Q&A with the potential investors.
Why do scientists need to limit the amount of airtime for technical information?
There will be plenty of time during due diligence to get into the technical details. But first, you’ve got to hook the investors. You’ve got to show you can cover all the bases, all the major headings in a business plan. Hook them up front and there will be plenty of time to dig into the technology. They’re going to do that by coming into the lab, coming into your offices or going into your garage.
Tell us about a memorable experience in a garage.
The most interesting and frightening garage experience I’ve had was going into a big garage where they were building an advanced flywheel –a very dense, rotating disc that spins very, very fast. We walked into the garage and the guy wanted to spin up the flywheel for us but there was absolutely no containment or safety protection, nothing. You hear stories about flywheels spinning out of control and creating major destruction so we took a pass on seeing that particular flywheel in action.
What compels you to invest? Does passion make a difference?
You know if a team is passionate or not, based on how they communicate. Though often technologists aren’t the best communicators. You can see when someone has put a lot of thought into something, even if they don’t present with a lot of “pizzazz”.
Specific to deals coming out of labs and universities, we want to see that there is no safety net, meaning the team doesn’t come in and say “oh we are taking a five-month sabbatical from the lab and we’re going to try this but if it doesn’t work, we get our jobs back.” We want to see that the team has put everything on the line, including their jobs, benefits, etc. In other words, that the team is 100% bought in.
So, in a real sense you’ve got to cut your economic ties, though not all of your ties. We’ve had plenty of companies continue to use resources at the labs and universities. In fact, we encourage that for a while. It keeps the costs of starting the business low, upfront. But, we do want to see that the management team is equity driven and will do absolutely everything they can to make their company successful. And, by the way, that doesn’t include a balanced quality of life. We want entrepreneurs to go to bed at night thinking about the company and wake up thinking about what they are going to accomplish that day and that week. So, to us, any safety net is a negative.
So it’s not just about passion and how they communicate, it comes down to demonstrating their commitment and belief in the promise of success. What other guidance do you have for scientists seeking venture funding?
I encourage technologists and scientists to ask the potential investors for references during due diligence. I offer to provide references on our firm. Many times companies don’t take us up on it but I think it’s wise.
When you are investor in a company you are tied at the hip with the management team. Who you are taking investment capital from is part of charting your course. The investor may have a representative on your Board of Directors. You want to know that you are going to be able to work well with that investor. I think it is a good sign that an entrepreneur has his or her act together when they ask to talk to some of the CEO’s from a VC’s other companies. It shows confidence, strength and that they are pretty sophisticated. If a potential investor takes the request for references the wrong way, then it’s very likely you wouldn’t want them to be writing checks for you.
So much of getting a deal is about relationships. How do you get a sense that you can trust people and their capabilities? What is it, aside from them having a comprehensive and succinct business plan?
We do the best we can to get comfortable with the team and that includes a significant amount of due diligence on the individuals. We do background checks, credit checks and criminal checks. We verify education. Our screening is similar to a recruiting firm’s. You hope that you won’t find that someone has overstated what he or she has done but at times we do. We’ve walked away from more than one deal that we were prepared to fund because there were misstatements by the entrepreneur.
You can’t believe the things we’ve found doing background checks. We found one individual who filed bankruptcy three times. We found people who had been in six or seven lawsuits. And, it’s astounding how many people still make false claims about what they studied, what degrees they have and where they got their degrees. That’s the easiest thing to check out in the world these days! When LinkedIn first came in, it was phenomenal for us. Now we could go into LinkedIn and see the relationship ecosystem of the person we were screening and often found we knew colleagues or professional acquaintances of the entrepreneur.
How do you get comfortable when there are only two or three people on the current team?
No founder or founders will have anything 100% put together. We understand that. It’s ok that there are only three people on the team right now. But, we want to hear how you plan to add to the team, over time, and what triggers that hiring plan. No early stage technology company is going to have 30 people on their payroll because they haven’t raised any significant capital yet.
One thing that’s tough for scientists is striking the balance between being entirely honest — as in telling someone everything that might be a negative — with being optimistic about the future. How do you like people to balance knowing what could fail with the promise of success?
I like to know that people are realistic. But frankly they also have to be optimists. Scientists have to believe that even if there are significant technical hurdles ahead, they’re going to be able to knock them down. They’ve got to believe they are going to succeed. I like to hear people say, “we know these are hurdles and have thought about ways to deal with them”. Confidence yes. Overconfidence no.
How much are you willing to invest in a new company?
The way I always think about a company is dollars invested and milestones to get there. For an early stage investment, sometimes we’ve invested as little as $250,000 because the entrepreneur has told us if you give me $250,000 I’m going to be able to hit a key milestone. Otherwise, we usually do Series A investing when the company is past “proof of concept”. Series A investments are usually between $1M-$5M. Once a VC makes an investment, they usually reserve 1X-2X their original investment so they can continue to support the Company, if they are pleased with the Company’s progress.
What do you need to see to decide to make a small go/no-go investment decision?
It’s not black and white. First you have to have a credible group of technologists in front of you. For us, generally there has to be some proof of concept, like a prototype, because in five to seven years we need to see significant commercial traction.
A prototype helps us evaluate how much money we think it is going to take and how much time. If it is a really credible group, we might come back and say we know you asked for a million dollars but let’s put in $250K right now and we won’t price it, we’ll make it a bridge loan to see if we can get past this one technical hurdle. If that’s the case, then we’re prepared to write another check for $1.75 million. If it’s a good team, we’ll listen and we’ll be creative.
Can you characterize what you are looking for when it comes to the mechanics of using effective graphics or iconic analogies or stories to make the most of the short technical part of the discussion during the first one-hour meeting?
I always love “Show and Tell.” I don’t really care what it looks like as long as it helps me see beyond the prototype. Good show and tell graphics matter. Help me see that this is Generation 1, this is what Gen 2 will incorporate and this is what Gen 3 will look like. We also want to know how much time will be required to get from Gen 1 to Gen 2. And along the way tell us what you think the market will be – even if there is only a handful of customers — and what additional features you’ll offer. For fuel cell technology, for example, going from Gen 1 to Gen 2 might deal with the reformer. Will you have to build your own reformer or can you buy one? It’s a way to say, here’s where we are now and then add meat to the bones. Here’s what it looks like now and how it will look in a year and in two years. Be very clear about what gets added with each generation and what that means in terms of market opportunity and product cost. Often your initial product may speak to a specific application or market that might be quite small. That’s ok as long as you can say, that’s going to bridge me to a much larger opportunity for our product in two years.
Can you give us some examples of great Show and Tell?
When it comes to influential Show and Tell, I recall a lighting deal. Lighting makes for great demos. This one was a high intensity discharge lamp that usually takes awhile to warm up. They were able to show that this bulb could turn on within 20 seconds. That was very impressive. We also had a microwave excitable bulb that made for a pretty impressive demo. I’ve seen a flywheel demo that was very impressive because the scientists were able to show us what was really going on even though it was in containment. All kinds of software make for great demos, even when software is only a part of the overall product. With software, you can show how you can remotely talk to a machine, remotely control a building environment or map real-time conditions on a grid. When we invested in Capstone Micro Turbine, they had a very impressive working prototype (they had raised some capital before we invested). We went to their office for the first pitch meeting because we knew there was something to see. Usually the first meeting is in our office but we made an exception and got on a plane and flew to Southern California.
So scientists need to figure out how to tell the evolutionary story of what they are developing and make sure that as they tell it, they talk about the value to society and customers. They need to convey their vision of success.
For them to graphically depict their evolutionary story is great. Just one caution for pitches made in the U.S., and this is sad but true and could be investor specific. On the first slide or two don’t say how great your product will be for the planet or the environment. That’s a big red flag. Doing good is great as a byproduct, but that shouldn’t be on your first slide. Your stated goal needs to be to solve a real problem with a differentiated solution that you can sell profitably and, hence, build a successful company.
When I’ve listened to pitches in Europe it’s just the opposite. In every single presentation I’ve seen, whether it’s in France, Germany, Sweden, Norway, Spain, the first slide says something about helping the environment or the planet, or humanity. It is ok in Europe but not in the U.S.
What else do you look for when you evaluate the team in your initial meeting?
Part of what inspires confidence in a team is when a founder brings a team and then let’s everyone on the team participate in the presentation. We watch the interpersonal dynamics very carefully. How does the team hand off to one another? How do they answer questions? Does everybody defer to one person? If so, is that person too dominant? We may also test the team by asking questions we know will not be well received to see if the team reacts defensively. We may already know the answer to the question but ask it anyway just to see how the team reacts. That’s really tough but it is part of getting to the bottom of can we work with this team, can we trust this team. If the founder says it’s my way or the highway, we’re likely taking the “highway”.
Here’s something else that scientists don’t always know. There is an unspoken rule that the team should not include family members or married partners. Investors in Silicon Valley and in Boston and elsewhere don’t want to take that risk. The risk is higher because a wife will not fire a husband, a husband will not fire a wife or a father or brother. So if they are not performing, it’s harder to get rid of a family member. And, by the way, the risk is even higher with married couples because something could happen to their relationship.
How many meetings does it take before you say yes and what transpires at these meetings?
After the initial one-hour meeting, there are two or three additional meetings. We’ve done deals all over the country, companies in Jackson Mississippi, Warren Vermont, Detroit, Boston, Atlanta, Texas. For the second meeting, two of us would typically spend two full days with everyone at the company at their location. We would get to dig into the technology and spend time with the entire team.
Before we made an investment decision, everybody in the firm had to meet the entire management team or founding team. Every Monday morning we would report out on any deals in active due diligence. So by the time we brought the full team back in, everyone at our firm was up to speed and ready to make a decision. That last meeting is slated for two to three hours.
What kind of communication approach are you looking for?
I’ve had CEOs who were switched out of their roles because they wanted to manage all communications with the investor. I want to be communicating with the entire team. If I have a marketing question I want to go that person. If I have a technical question, I want to go to the CTO. If I have a general business question, maybe I do want to go to the CEO. I want to know this is a real team pulling in the same direction and that somebody isn’t controlling the conversation.
If you bring four people out to pitch us then I want to hear from all of four. If the CEO is doing all the talking, then why did you bring the other three people? I want to see how everybody relates to one another. Doing a startup is really, really hard and everyone hits a speed bump along the way. The most successful companies hit a speed bump and I want to know how they are going to pull together as a team. I may have a unique vantage point about the importance of relationships because I’m a women but my entire team wanted to know what the team dynamic is because that matters.
So, the relationship you have with the people you are working with when you take an idea forward for funding, and your ability to demonstrate the respect, the camaraderie, the expertise and that everybody knows their roles, that’s as much what you are making a funding decision on as the capability of the product they are envisioning for the future. Essentially you are making a decision on a composite view. For scientists who are often not relationship driven, they may have a complete blind spot on how important this is and the implications for finding the right partners.
I think most every VC would agree they would rather have a “B” technology and an “A” management team versus the other way around. It comes back to management, management, management.
I’ve been a judge for the MIT Energy Prize, for many clean tech competitions and for NREL events where you are judging ideas. Even in a 20-minute presentation, we are always looking at the team and what the dynamic is within the team.
What other advice do you have for scientists?
Know your audience because that’s going to drive the type of presentation that you do. Just as you research your technology, it’s equally important to research your audience. Find out what their baseline of knowledge is so you can give a really targeted presentation.
Know your audience as potential partners, too. You will be partners with anyone who invests in your company so it’s wise to do your own due diligence because you really are joined at the hip. I’ve seen horrible things in the Boardroom –like oil and water between the management team and the investor.
You are basically sharing your crown jewels with somebody. So I want to encourage scientists and founders, as you get into the process with a potential investor, to figure out if the investor is really somebody you can work with, just like we are figuring that out for ourselves.
What should a scientist keep in mind as they prepare for the first investor meeting?
You only get one shot. Even before you come in for your first presentation, usually you have already submitted a business plan and you can ask the person you are dealing with at the firm, “what do you want me to cover?” The good entrepreneurs are the ones who establish a relationship with that partner in the firm and treat them as their champion.
When I spend a lot of time on a deal, I want to win my partners over. I’ve seen something in a deal that I really like. I’ve probably spent weeks and weeks working on a deal and I want that deal to go through. There’s nothing worse than when one of your own partners turns down your deal. So as a scientist or founder, you are a partner with that champion within the venture firm and you want to make them successful.