The clean tech sector has benefited from global decarbonisation goals and climate change commitments. But companies still encounter significant barriers when it comes to securing investment.

Addressing these funding challenges is crucial for the UK and Scotland to maintain a competitive edge in clean technology and achieve its climate goals. As global demand for sustainable solutions continues to rise, this will only become more important.

The UK is failing to deliver the innovation it needs, particularly for growth companies. The country needs to get started as global competition is not waiting
There is scope for new ways of funding and new ways of thinking through how to deliver
Government support is important in more than just providing cash. It can give policy certainty and also provide incentives to back up innovation

Valley of death

The UK has several grant schemes, such as Innovate UK and government-backed green funds. But these are often focused on early-stage research and development rather than scaling successful pilots to commercial production.

Clean tech firms often struggle to transition from small pilot projects to full-scale operations due to a lack of scale-up financing. This gap can prevent promising technologies from achieving the scale needed to reach market viability.

The funding gap, between early stage development and commercial scale production is sometimes called the “valley of death”. Many clean tech innovations, especially those related to new energy technologies, face high upfront costs and long development timelines.

To tackle this requires sustained and often very significant investment. For many private and VC investors, though, this is beyond their risk appetite. This leads to a gap in available financing.

For these projects to be of interest to these investors they will need to have proven commercial and market viability.

High-risk worries

Investors can perceive early stage clean tech projects as high risk, particularly when compared to more mature sectors like software or financial technology. The higher costs to prove commercial viability also compare unfavourably to others.

These risks arise from factors such as regulatory changes, technological uncertainty and long timelines to commercialisation. These risks become more acute on the higher price tag of innovation.

Technologies like new energy storage systems or green hydrogen production have large upfront capital requirements before they can generate any revenue.

The UK financial landscape for such capital-intensive projects is limited. Most VC funds prefer sectors that require less initial outlay and have quicker returns. This suggests the clean tech sector requires more specialist or niche investors.

This is further exacerbated by current global market conditions. Appetite for very large deals has fallen, with a growing focus on opportunities that are closer to delivering a commercial return and overall lower company valuations. Since the peaks in investment activity globally seen in 2020, 2021 and the second half of 2022 there has been an overall reduction in available equity investment, the amounts raised by funds and a growing pressure to deliver returns.

Policy shifts

Government policy plays a crucial role in the clean tech sector, as regulations, subsidies, and incentives can determine the viability of new technologies.

The UK’s policy environment has been uncertain due to political shifts, including Brexit and changes in government.

Shifts in subsidies for renewable energy, tax credits, and changes to carbon pricing can create uncertainty for investors. As a result, they are more hesitant to back projects that may fall victim to future policy changes.

Some of these are not necessarily unique to the UK. However, the policy responses in other countries have been of a different scale and can go some way to mitigate some of these uncertainties for investors. The US and its Inflation Reduction Act (IRA), China’s targeted stimulus backed by cheap debt and the European Union’s Green Deal all aim to boost clean tech and capture domestic manufacturing.

Although the UK government has set ambitious climate targets, there is sometimes a disconnect between public policy goals and private sector investment motivations and incentives.

Time to market

At the E-FWD event, in the Scottish Enterprise-led “de-risking innovation” workshop, there was a consensus: momentum and timing were key. Speed, clarity, and certainty are required to deliver the energy transition at pace and at scale.

There was also an acknowledgement that traditional asset classes might not work for those innovations that are required in the energy transition. Investors require a radical shift in approach and attitude to risk.

Building stronger alliances between the public and private sectors could help de-risk early-stage investments through shared funding models. There is scope to think about the evolution of financing and new models more suited to the need of clean tech innovation.

Blended financing, perhaps involving more sub-commercial government funding, performance bonds, guarantees or equity, is one way to provide some directional support and encourage more private sector investment.

Flexible funds

The public sector can also find new ways to deploy funds flexibly. Initiatives like the UK Infrastructure Bank (UKIB) could be expanded to provide more targeted support for clean tech scale-ups, ensuring that innovative technologies can transition from pilot phases to commercialisation.

This is likely to be an area where the Labour government takes steps for change. Indeed, the National Wealth Fund (NWF) is stepping in to bridge UKIB and the BBB, while also providing an additional £7.3 billion of funding.

Government can play a broader role in reducing risk for innovation. A stable policy environment with clear, long-term commitments and targets to decarbonisation and clean energy incentives could help reduce investor uncertainty and encourage more long-term investment.

And government could help incentivise investors to support these early-stage areas. It could provide additional tax incentives or credits for investments to help offset the perceived risks and attract more venture capital into the sector.

The concept of government providing a catalyst for innovation is a powerful one. And it may be that one significant role it can provide is by bringing different parties together. This aim leans on the reputation of government and its agencies as a convening agent, rather than necessarily having to stump up the funds themselves.

The challenge is not just about money, after all. It’s about how to unlock the barriers that are preventing change.

Company drivers

Another lever the government controls is the contracts for difference (CfDs) regime. These have been an incredible success in derisking large-scale investments in renewable energy technology. But there is room for further modifications.

For instance, the CfD regime could help to provide more incentive for experimentation by industry and/or could provide incentives to work with early-stage innovators, perhaps by supporting the local supply chain and innovation. These larger industrials could also do more on collaboration, offering space for testing and demonstration projects to reduce cost and risks for innovators.

Those larger companies could also do more to support innovation. Playing it safe, and conservatively, avoids risks – although also helps frustrate change. Government support, for instance via CfDs or tax incentives, could help to provide more incentive for experimentation.

A recurring complaint on the night was around challenges of operating under the UK’s planning system and grid restrictions. Delays impact timing of projects, viability and certainty for investors.

There has been talk of changing the planning system, while the TMO4+ reforms aim to simplify the grid queue. Delivering on these reforms will help provide investors with more certainty for projects.

New fund flow

One participant highlighted that, according to the Glasgow Financial Alliance for Net Zero (GFANZ), we’ve got a pot of global cash available. But it’s not being deployed quickly enough.

Providers of project finance are looking for investable propositions, but require projects and technologies that are de-risked, rather than taking a punt on something truly pioneering or game-changing. The availability of risk capital to make manifest changes is still incredibly difficult to secure.

There needs to be a radical shift in how we fund decarbonisation. Traditional funders and government need to take a wider view and do things differently. One way to do this might be via a central pot designated as truly risk capital.

If the GFANZ banks, serious about ESG, for example, could consider contributing 1% of their balance sheet to this pot as a renewables-enabling fund to allow inventors and entrepreneurs to get their ideas to market much more quickly that would be transformative.

Ultimately, it’s clear there’s a need for all parties to do more and for more joined up policy and support. And there is appetite for the energy transition – and net zero – as a whole.

As one person on the night said, “there’s a need to be, as a society, as a government, a bit braver and a bit bolder”. It is only through collaboration and iteration that the UK will be able to achieve its true potential for clean tech innovation.

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