Yesterday’s post covered how software companies improve their marketing and pricing structures by framing value in revenue growth, as opposed to savings. For the industrial and unregulated energy markets, this framework works about 90% of the time. But, like all good rules, there are a few exceptions. Topline alignment does not work when the product’s value is allocated to any of the following:
Regulatory / compliance
Environmental impact
Cybersecurity
The value-based exception occurs here because the return on investment for each of these product types is either
government defined or
addressing a long-tail, difficult to price risk
Most energy & industrial firms look at spend in these areas like insurance policies. With this uncertainty, firms hire consultants to recommend resource allocation and ensure that the corporation is investing sufficient resources (not more, not less) versus their peer set.
This causes two unique dynamics:
Incredible purchasing influence by channel partners in these areas
Underinvestment in long-term risks… until the risk shows up on the front door. (Think: a cybersecurity hack, long-term emissions impact, etc.)
If you are a startup serving these markets, it is especially important to retain policy advisors, immediately double down on channel partnerships, and most importantly: find a supplemental way to quantify your product’s impact beyond the initial, seemingly arbitrary cost line item. By creating a new form of value, a start-up in these verticals has the potential to control their pricing. I call this “supplemental value” the “Rule of AND”. Here are a few examples:
The best companies in cybersecurity will offer their cybersecruity solution and also create an additional narrative around operational visibility. (positively impacting operational uptime = higher revenue!)
Similarly, the best companies in environmental impact reporting report impact and will attempt to make product and supply chain recommendations to lower materials costs. (positively addressing materials= lower costs)
A (Natural) Resource: Twitter List for Energy Transition
I posted a query on Twitter asking to learn more about the reporters and investors investing in and covering the energy transition.
I started with a few names and then was introduced to an incredible number of new firms and individuals, and created a list on Twitter that can be found here:
I expect this will be a “living” list, and if you have new names to add to the list, please reach out to me on Twitter (DMs open) and I will update the lists.
In the low margin energy & industrial verticals, value-based pricing is a requirement. The usual $/seat pricing accustomed in software industry doesn’t work as personnel levels don’t necessarily map to the value of an operating asset. (Jake Saper at Emergence’s post about AI killing the per seat model is very relevant here!)
Learning of this nuance, many start-ups scramble to create/defend a pricing scheme and default to: “this is how much money we will save you.” Using this savings approach means the software vendors usually tie their own budgets to the operations or maintenance line items. For most markets, framing a contract’s value to an O&M budget is a huge mistakeas the cost curves for the (non-regulated) energy and industrial verticals are deflationary. (h/t to Shayle Kann for helping frame here)
If a software start-up serving the industrial or unregulated energy market pegs its’ value/revenue to a declining maintenance figure, the start-up’s pricing will fall at least as fast as the cost curve. And while it is natural to hope for an increased install base to outpace the $/asset declines, history shows the budget will face intense renewal scrutiny.
Choose The Better Value Based Pricing Structure
For the majority of start-ups serving the industrial, IoT and unregulated markets, I highly recommend you focus your startup’s marketing narrative and value-based pricing structures on shortening time to revenue and/or increasing certainty of revenue. POCs tied to revenue are prioritized over solutions tied to savings – even when savings are material. If a startup documents an ability to bring forward revenue for a customer, the approval process and integrations suddenly accelerate. Why? New revenue is rewarded at slow-growth F500 companies and rising corporate executives are willing to stick their neck out more for revenue, than savings.
Topline alignment means that growth is good for both parties and the software subsequently faces less pricing pressure at renewal. Here are a few examples of areas that the Energize team believes software can help accelerate revenue:
In summary, in the energy & industrial space, make your topline tied to your customers. It’s more fun, anyway.
Follow-up 1: there will be a separate post on framing value for the regulated energy markets
Follow-up 2: There is a specific exemption to the rule I shared above on selling to industrial and unregulated energy. And I will be covering it tomorrow!
A (Natural) Resource: Twitter List for Industrial Technology
I posted a query on Twitter asking to learn more about the reporters and investors investing in and covering the industrial technology revolution.
I started with a few names and then was introduced to an incredible number of new firms and individuals. I created two list on Twitter that can be found here:
Industrial Technology Investors, Operators, & Research Leaders.
I expect this will be a “living” list, and if you have new names to add to the list, please reach out to me on Twitter (DMs open) and I will update the lists.
Start-ups love a common enemy. Usually that villainous figure comes in the form of the old guard. And in the energy transition it is no secret that the old guard was the oil & gas industry.
Over the past decade, our newest energy companies have been in a grueling 10-round boxing match versus the old guard. The metrics that measured progress on the scorecard were terms like. “levelized cost curves”, “fully delivered costs”, and market share. Well, with the recent news that Exxon is halting employee contributions and Occidental Petroleum is selling assets to pay down debt it is increasingly clear that the battle is over. Renewables will win. Electrification will take over mobility. And even the most traditional coal utilities are accelerating their energy transition.
What happens next? How can we unite the old and new guard of the energy transition?
In the last battle the new guard’s tactics to beat the incumbents relied focusing on “reduction“: on lowering a cost curve to beat carbon-based power sources. I believe the focus for the energy transition has to move exclusively towards GROWTH metrics… and specifically economic advancement figures like jobs and training. Why? The most powerful industry movements find ways to simultaneously strengthen their local communities, amplifying the overall impact:
Energy transition requires major capital investment
Capital investment propels corporate growth
Growth creates jobs and economic opportunity
Jobs support families
Families support communities
As a community, we should be carefully tracking and celebrating every new 1 million people employed/supported by the energy transition. I believe we will be getting the best of the next generation to join this opportunity as very few career opportunities have aligned economic, environmental, and social impact. We should celebrate this generation’s arrival.
Recent data from the EDF shows that there are approximately 1 million people working in the new energy industries, while Clean Energy Trust points to over 600k jobs in the midwest alone. Assuming that our energy transition jobs number is 10x in 20 years, what systems can we invest in now to support personnel advancement? These are questions we are thinking about at Energize and if you are working on any of the following digital technologies and how they will educate and grow a workforce, please reach out.
If Detroit in its’ prime was the center of the auto industry, I can argue that there should be 50 smaller “Detroits” around the country at our renewable energy hubs. And each hub will create economic opportunity. That is a goal we can all hope to achieve.
Why BD Partnerships work so well in Energy & Industry
Misaligned incentives make it hard for senior corporate executives to fully lean into championing any new software solution or digital technology. Here is a simple risk/reward matrix for the start-up and enterprise champion:
What is the biggest driver for the delta between the risk/reward of a start-up contract between the two parties? Time.
In the early stage environment the most rewarded moment is the close of the customer sale. In the corporate environment, the winningest moment is potentially years later when the product is implemented and Return on Investment is documented.
Given the big difference in time between the definition of success , employee tenure becomes the 🔑 issue: a Fortune 500 energy, utility or industrial company tenure is between 5-10 years, while a SV startup employee is approx. 2 years.
When an internal champion at at Fortune 500 energy & industrial company is willing to take a bet on a startup, he or she is looking to see if their counter-party will be around for a multi-year engagement. Product implementations on operating assets and systems are complex and require disparate integrations. Unfortunately, most large companies now have horror stories of identifying a start-up only to see the relationship manager … or even the entire company… vanish overnight.
With that scar tissue, most F500 now require channel partners to be the bridge and systems integrator for new technology products being added to their network. Big companies add these partners to buffer against the less stable start-ups. Therefore, I recommend that commercializing startups employ a few tactics to remove the mismatched TIME risk most corporates feel:
Build BD and channel partnership relationships early
Develop implementation and customer success teams early to show your you are committed to the long-term relationship
Feed your channel partner: bringing potential customers accelerates a partnership
Develop co-branded Go To Marketing stories with clear RoI
2 Sucker Sales Fails New Execs Make in Energy & Industry
I see startups make repeated mistakes when they scale in the energy & industrial verticals. Here are a few sales “No-Nos” to avoid…
#1 NO FREE PROOF OF CONCEPTS OR TRIALS...!….!
Energy and industrial firms broadly act like critical infrastructure providers. These firms are process oriented. Most of these companies thrive off of hierarchy, structure and process. Budget in these verticals for new technologies does not magically appear over night. If there is going to be budget for a real contract, there ABSOLUTELY will be budget for a Proof of Concept. If you are developing your sales pipeline and cannot identify the budget with your champion, move along. (And yes, I recognize that in some other industries a non-paid PoC can generate a contract more easily) In my decade within the early stage energy & industrial market, I can count on one hand the number of free pilots that expanded into an enterprise deal.
#2 Do NOT move your cloud provider for the promise of customers or a re-seller agreement.
I have seen some very lofty customer introduction and reseller promises from the cloud divisions of Google, Amazon and Microsoft. Every one of these firms will say something like this:
“Jeez, we have a Fortune 100 energy company that is asking us to help with their broader tech adoption. Those firms trust our recommendation. We would love to make that introduction for you, but you have to be on our cloud…”
These statements from the cloud sales execs are effectively hollow bribes.
And early start-up execs fall for it, subsequently invest a huge amount of money into transitioning their cloud provider… only to get crickets. You, Mr or Mrs. Start-up executive are the customer, not the provider. Unless they promise you years of free compute, stay away from these discussions.
Early on in my venture career I asked a very experienced VC investor why we were guiding our portfolio company executives to towards an 18 month runway between rounds.
The answer I received was that 18 months is the approximate time it takes for a company to hire and develop a team, and run two successful sales cycles. The reason? Two successful enterprise sales cycles should show market adoption, new feature feedback, cohort growth and, of course, revenue growth and early signs of operating leverage. With success, a company’s progress and team development over the 18+ months de-risks an investment. And the future upside and opportunities available to the company should be more clear, resulting in a higher valuation.
Unfortunately, this timeline prescription doesn’t fit well when a technology company serves the energy & industrial customer base. The fact is that these industries have longer sales cycles: usually around 9-12+ months. While accounts are ultimately bigger and worth the acquisition investment, the sales cycle is deliberately slow. Critical infrastructure firms use a slow decision process as a feature, not a bug. Everything has to work, perfectly.
Given these sales cycles and the need to better curate a startups go-to-market team, I generally recommend a minimum of 24 months runway between rounds for our investments. And for companies early in commercialization, I recommend that the execs slow down sales hires until more of the narrative and value proposition is quantified and marketable. These industries are slow to adopt technology, but once a solution proves value, the broader industry rushes to adopt the solution. And that ultimate payoff is worth the extended runway.
In recent weeks I have been speaking with an incredibly talented investment professional. Our discussions involved her correct observation about the slight evolution of the Energize investment thesis.
During the early days of Energize, our investment strategy was narrow and predefined: invest in digital technologies that make clean energy more affordable, reliable and secure.
Over the past few years we have intentionally moved from that predefined outcome and language. Rather than attempting to monetize a self-selected outcome (clean energy) we now focus our process on enabling the energy and industrial transition. Our new mission is: Accelerating digital innovation for energy & heavy industry. And with this mission, there is no goal line. There is no preordained, final outcome. Just continued improvement and adaptation.
These are big, complex markets that are under stress and technology-imposed change. And when big markets undergo change, technology firms can rewrite existing economic pathways and generate great returns.
I am comfortable saying that we are not smart enough to know how energy & heavy industry’s story will meander over the coming decades. But Team Energize is smart enough to monitor, research and maintain industry connections along the way so that we can make the most informed decisions. Coupling that learning approach with our Energize Engine approach to investment decisions and I am pretty excited for the part that Energize will play in the energy & industrial transition.
There are nearly 300 companies within the Fortune 1,000 that are broadly characterized by an industrial focus. The medium revenue for these economy-anchoring firms is nearly $4.9 billion, resulting in over $9 trillion in market capitalization. But revenue growth in this space is a far cry from the 20%+ range of the high-tech software companies beginning to dot the economy.
Given the total addressable market and slow-moving perception of these industries, many market-hungry start-ups attempt to attack (or serve) this industry. But, running a technology company to serve the industrial verticals contains many hidden traps. In fact, the slow operating and decision pace employed by industrial or critical infrastructure companies is a feature to their modus operandi, not a bug. Due to the large installed or operating asset base, industrial companies think in decade-long, multi-cycle returns and the capital and customer decision procedures are not meant to reflect one particular market moment.
The entrepreneurs that best address the industrial verticals tend to bring some domain-specific frustration, and many are returning to their materials-heavy industries with innovative software services and platforms in an attempt to modernize operations and add value to customers. And while meaningful change can appear frustratingly slow, industrial incumbents that operate primarily in atoms are beginning to feel the attention of bit-bearing software companies.
But just how much Series A-C venture capital attention have the construction, power, & energy, logistics & transportation, advanced manufacturing, and resource industries received?
That’s right: last year nearly $6 billion went into Series A, B & C start-ups within the industrial, engineering & construction, power, energy, mining & materials, and mobility segments. Venture capital dollars deployed to these sectors is growing at a 30% annual rate, up from ~$750M in 2010. And while the $6 billion figure is notable due to the growth of VC dollars invested, this early stage investment figure still only equates to ~0.2% of the revenue for the sector and ~1.2% of industry profits.
The number of deals in the space shows a similarly strong growth trajectory. But there are some interesting trends beginning to emerge: the capital deployed to the industrial technology market is growing at a faster clip than the number of deals. These differing growth trajectories mean that the average deal size has grown by 45% in the last 8 years, from $18 to $26 million.
The Detail by Stage
Median Series A deal size in 2018 was $11M, representing a modest 8% increase in size versus 2012/2013. But Series A deal volume is up nearly 10x since then!
Median Series B deal size in 2018 was $20M, an 83% growth over the past 5 years and deal volume is up about 4x
Median Series C deal size in 2018 was $33M, representing an enormous 113% growth over the past 5 years. But, Series C deals have appeared to reach a plateau in the low 40s, so investors are becoming pickier in selecting the winners
These graphs show that the Series A investors have stayed relatively consistent and the overall 46% increase in sector deal size growth primarily originates from the Series B & Series C investment rounds. With bigger rounds, how are valuation levels adjusting?
Growth in pre-money valuation particularly acute in later stage deals
The data shows that valuations have increased even faster than the round sizes have grown themselves. This means that management teams are not feeling any incremental dilution by raising these larger rounds.
The average Series A round now buys about 24%, slightly less than 5 years ago
The average Series B round now buys about 22% of the company, down from 26% 5 years ago
The average Series C round now buys approximately 20%, down from 23% 5 years ago
Some of my conclusions
Even with the growth in capital deployed, dollars invested as a portion of industry revenue and profit allows for further capital commitments. More entrepreneurs (& VCs supporting them) are likely to come knocking on the industrial gate
There is a growing appreciation for the industrial sales cycle: investor willingness to wait for reduced risk to deploy even more capital in the perceived winners appears to be driving this trend
Entrepreneurs that can successfully de-risk their enterprise through revenue, partnerships, and industry hires will gain access to outsized capital pools. The winners in this market tend to compound
Uncertainty still remains about exit opportunities for technology companies that serve these industries. While there is anecdote (PlanGrid, Kurion, OSIsoft), we are not hearing about a sizable exit from this market on a weekly or monthly cadence. This means that we won’t know for a few years about the returns impact of these rising valuations. Grab your hard hat!
*Data pulled from Pitchbook, scope available by request
