Insights from McKinsey’s Climate Investment Analysis – 2023

ClimateAngels | April 03, 2023

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Even though 2023 is slated to be another tough year for the global capital markets, it is unlikely that climate tech will bear the burdens of the economic downturn.

However, at the same time last year – 2022, it was believed that climate tech would be coming down from its high horse in the wake of macroeconomic trends that delivered a deathly blow to several investment verticals.

But data collected over the past year about deal activity, the amount of capital deployed, and capital flows into dedicated funds strongly indicates that things are and would be looking up for climate tech for the foreseeable future.

According to McKinsey’s analysis between 2019 and 2022, equity investors established over 330 new funds focusing on sustainability, environment, social, governance (ESG), and impact.

The Assets Under Management (AUM) of these funds tripled from $90 billion to over $270 billion. It’s worth noting that this amount does not include funds earmarked for climate opportunities in corporate capital budgets, public-equity investment vehicles, and credit funds.

“Climate-related private-market investment far outpaced the broader market in 2022 as measured by deal activity, the amount of capital deployed, and capital flows into dedicated funds.”

Source: McKinsey & Company

The global investment amount of climate equity transactions has significantly increased in the last 4 years. It increased by over 160% from $75 billion in 2019 to about $196 billion in 2022.

This represents an average annual growth rate of about 40%. 2021 recorded the highest investment increase of over 90% reaching $183 billion.

From 2021 to 2022, investments grew by nearly 7 percent, which contrasts sharply with the overall private-market equity investment volume, which declined by roughly 24 percent from its 2021 levels.

Source: McKinsey & Company

The power sector has the biggest share of the pie in the climate equity transaction, it raked in about 50% of deployed capital from 2019 to 2022.

Transportation came in second, with investment increasing by 370% during the same period, driven by the increasing adoption of electric vehicles.

Hydrogen and carbon management, two emerging fields, each represented only 3 percent of investment volume in 2022, but they recorded the most significant growth in investment inflows since 2019.

Source: McKinsey & Company

The inflow of capital into the climate investing space has rapidly increased valuations. The median valuation-to-revenue multiple of climate equity deals increased from about 3 in 2019 to about 9 in 2022 for PE deals and from about 10 to about 22 for VC deals.

Source: McKinsey & Company

All of these findings point to one thing and one thing only, climate tech is not only here to stay but is going to be a major player in the future of investing.

What are the 8 key factors to Climate Investing & How to utilize them?

Investors in climate investments can utilize these eight key factors to assess and evaluate potential investment opportunities in the climate technology sector.

Here’s how to apply these factors effectively:

1. Demonstrated Technology and Operational Performance

– Investors in climate tech sector should thoroughly research and analyze the technology’s performance in real-world conditions.

– Seek third-party verification and objective data on technology effectiveness.
Evaluate the technology’s readiness for commercial-scale production and adoption.

2. Clear Path to Cost Competitiveness

– Assess the technology’s cost structure and its potential for cost reductions over time.

– Consider factors such as economies of scale, learning curves, and design improvements.

– Compare the technology’s cost competitiveness with existing alternatives and market disruptors.

3. Ability to Secure Captive Demand

– Investigate the technology’s market fit and whether it addresses pressing customer needs.
– Examine the presence of long-term purchase agreements or offtake commitments.
– Evaluate how strong demand signals have catalyzed partnerships and growth.

4. Leadership Track Record and Talent Attraction

– Scrutinize the leadership team’s experience and ability to manage rapid growth.
– Assess the team’s capacity to attract and retain talent necessary for scaling.
– Consider whether the team possesses the required skills for capital-intensive climate solutions.

5. Access to and Capture of Policy Support and Incentives

– Stay informed about government policies and incentives that support climate technologies.
– Evaluate how these policies affect the market and the economic viability of the technology.
– Determine the technology’s eligibility for relevant incentives or subsidies.

6. Readiness to Hyperscale

– Assess the technology company’s readiness to scale rapidly in response to high demand.
– Investigate plans for manufacturing capacity expansion, efficient supply chains, and operational scalability.
– Examine how the company intends to recruit, onboard, and manage talent at scale.

7. Financing Road Map and Lower-Cost Capital

– Evaluate the company’s financing strategy and milestones for derisking and growth.
– Determine how the company plans to access lower-cost equity, project finance, and debt as it expands.
– Consider how the company navigates the transition from venture capital to project financing.

8. Ability to Create and Leverage Ecosystems

– Explore the company’s ability to collaborate with other stakeholders across value chains.
– Assess whether the company has established partnerships and collaborations beyond its core business.
– Consider the impact of ecosystem-building on risk-sharing and scaling solutions.

By applying these factors in a conscious manner, investors from diverse backgrounds can make investment decisions more more informed. This framework from McKinsey & Company can help investors identify opportunities that not only align with climate goals but might also have a strong potential for long-term success and impact.

Additionally, staying attuned to climate investment updates allows investors to adapt to evolving market dynamics and regulatory changes in the climate technology sector. If you need more help, you are FREE to contact us. Our team of investment experts will assist you how you want them to. Get in touch today!