At the same time, the race to develop new alternative energy sources and other low-carbon solutions is shaping up to be a generational opportunity to put money to work. Companies supplying the technology, products, and services that will drive the shift away from carbon stretch across the global economy. They will need trillions in new capital as the world strives to ward off the worst of climate change.
While ambiguity around regulation, the pace of change, regional politics, and other issues will continue, general partners (GPs) cannot let uncertainty deter action. The firms getting ahead of the pack recognize that managing through the energy transition involves a dual imperative to play offense and defense. There are opportunities to win on both sides of the ball.
The energy transition sprawls across every sector of the economy and is as much an industrial challenge as a technological one. There are massive practical hurdles in taking such a large swath of the global economy from A to B, along with deep uncertainty about business models that are heavily reliant on government subsidies and other factors outside investors’ control. The pace and direction of change can vary across geographies and at the micro level. Politics is all too frequently a disruptive factor.
Yet investors are finding the energy transition space increasingly attractive. Between 2017 and the first half of 2022, according to PitchBook, buyout and growth equity funds had done energy transition–related deals with a total reported value of around $160 billion, the majority of it concentrated in the renewables and clean industries segments (see Figure 1).
The funds finding their way to the most attractive deals aren’t simply trying to increase broad exposure to the energy transition. They are investing with a clear strategy carefully calibrated to take advantage of their unique approach to creating value. Investment approaches can vary considerably based on both tactics and risk. But that means investors can dial in where they want to play based on a firm’s mandate, expertise, and capabilities (see Figure 2).
One practical way to think about risk in this space is to focus less on picking winners in these highly dynamic markets and more on finding the companies that are supplying data and tools to all competitors. The world will need innovation in battery and storage technology, for instance, no matter who wins between Tesla and GM in the electric vehicle market. Similarly, as companies face increasing demands to diagnose the sources and volume of carbon they emit, firms that can supply the software, tools, and services to collect and organize that data should thrive.
This explains the appeal of carbon-tech companies like Persefoni and Watershed. Over the last two years, these two firms have raised $101 million and $70 million, respectively, to fund expansion of software platforms that help companies achieve carbon transparency across their value chains and report the data effectively. (Disclosure: Bain has invested in Persefoni, and the firmshave codeveloped a decarbonization manager to streamline companies’ scenario planning based on relevant subsector experiences.)
Ultimately, however, targeting the right company within these themes comes down to strong due diligence informed by deep expertise in these subsectors. Underwriting risk often boils down to assessing how technology, regulatory, and political considerations may impact a specific target company and when.
Underwriting risk and opportunities to create value within the energy transition involves all the usual due diligence considerations. But experience suggests that it also requires paying extra attention to several critical factors, such as:
Disruptive potential is an especially tricky call. When one fund began looking into an agtech firm’s claims that its real-time soil analysis technology would make farmers more efficient and less energy dependent, there was no question that the technology worked as advertised. It instantly gave a readout on chemical composition, moisture content, and a number of other crucial variables farmers need to know in order to plan effectively.
The bigger question was whether farmers really needed it. Customer inquiries showed that potential users were duly impressed by the technology but not enough to change their behavior. Large farms had in-house testing capabilities, and small ones were happy sending samples to outside labs. Revenues were growing, but projections suggested that breakout growth wouldn’t come within the deal’s time frame. The fund passed, recognizing that the market was happy enough with the status quo.
For Primavera Capital, however, tapping the growth of alternative energy—in this case, a maker of wind turbines called Envision Group—involved a more nuanced appraisal of growth potential. The company’s strong historical performance reflected all the factors that have made the wind turbine business one of the most vibrant in the alternative energy sector. Yet from a diligence standpoint, the potential buyers needed to know how long that growth could continue.
The wind turbine market is highly cyclical and vulnerable to regulatory changes. While the overall market was still growing, installation of new turbines in a critical market had peaked because an important government subsidy was being phased out. That meant the market was bound to get more competitive, raising a pair of questions: How defensible was Envision’s position? And was it developing new revenue streams to offset potentially slower growth?
Due diligence showed that the company’s state-of-the-art products and technology, in addition to providing relative cost advantages, positioned it well to win share as the market matured and growth stabilized. And Envision had made timely investments in key adjacencies like energy storage and wind-farm operations. Those complementary new businesses promised to contribute significantly to gross margin through 2026 and to help improve customer stickiness. They also reduced the company’s reliance on a single technology while protecting it from demand and regulatory shocks.
In ownership, the diligence findings are playing out. Over the past year, Envision has won important new turbine contracts in Spain, France, and India, and it is investing heavily to establish itself as a go-to technology provider for net-zero industrial parks. It also operates four R&D centers globally to innovate new ways to capitalize on the emerging low-carbon industrial ecosystem.
While the energy transition promises to open up new areas for investment, it is also generating new risks and imperatives for PE portfolios. Between the demands of regulators, limited partners, lenders, and customers, demonstrable efforts to decarbonize are increasingly becoming table stakes for PE investment.
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