27 November 2023

Financing the 'missing middle' for climate tech

The final COP27 text stated that $4 trillion a year needs to be invested in renewables and decarbonisation solutions until 2030 – including investments in technology and infrastructure – to reach global net-zero emissions by 20501. Scaling the capacity of these climate technologies at a speed never seen before will be critical to the transition, highlighting the importance of the funding challenge, says Barclays' global head of sustainable finance for its Corporate and Investment Bank, Daniel Hanna.

Environmental Finance: Many of the technologies that are required to achieve net zero have not yet reached commercial scale. What are the financing challenges here?

Daniel HannaDaniel Hanna: Globally, only about 16% of climate finance needs are currently being met which means that climate finance must increase by at least 590% – to $4.35 trillion annually by 2030 – to meet climate targets2. Alongside scaling renewables in emerging markets, there is also an urgent need to rapidly finance and deploy the next wave of climate tech that can reduce emissions in hard-to-abate sectors.

The International Energy Agency has estimated that 35% of emission reductions required globally by 2050 will come from these new technologies3. We need to accelerate the mobilisation of different sources of capital to get this technology to scale. In the US, the Inflation Reduction Act has helped, but we need to see that on a global scale.

There is a gap in financing for early-stage, post-venture climate technology companies seeking to rapidly scale-up and move their technologies to a commercial scale. We are seeing that their financing requirements are too big for typical sources of venture capital, but the usual sources of infrastructure finance consider the investments more relevant to a venture capital opportunity.

The key challenge for capital intensive climate tech companies is this 'missing middle' stage where there is a shortage of capital to fund acceleration and adoption, as the technology is not fully developed or commercialised and the companies are not cashflow-positive/profitable.

EF: Do institutional investors, infrastructure investors and other types of capital market providers see these new technologies as too risky?

DH: A lack of understanding of the technology is an impediment. Because much of the technology is nascent, investors don't necessarily have the knowledge or prior experience to draw upon, so there's a degree of hesitancy. Most venture capitalists are used to scaling software companies, not those with physical assets that require significantly more upfront capital to scale.

A differing approach to risk is another driver of the finance gap. Venture capital firms tend to work on a portfolio basis: many small bets and they hope the investments which go on to bring strong returns will offset the risk in the rest of the portfolio. Infrastructure investments take a very different approach, relying on large investments with predictable returns over a long period of time.

Also, as is the case for anything new, history is not a very good judge of what returns might be. Technology is changing rapidly, costs are coming down, and it is hard to predict what the demands on those companies might be in the future. Traditional infrastructure financiers are not used to that.

In addition, the reliance on changing public policy and the need to adapt existing infrastructure adds further perceived risk to climate tech investments; for example, take EVs and the need for charging networks, or hydrogen where policy frameworks are still evolving and investment is required across the value chain.

There is a role for all different types of capital to come together but we also need to reconcile the different fiduciary rights of the different sources of capital and find mechanisms to de-risk.

EF: How can the financial sector come together to find innovative solutions to de-risk these investments, increase the flow of financing and bridge this gap?

DH: The rapid scaling of climate tech requires these different types of capital working together. The market can't operate in silos, there needs to be collaboration between all players – pension funds, infrastructure funds, private equity.

The financial sector needs to collectively find innovative solutions to de-risk these investments, increase the flow of financing and bridge this gap.

Potential options that we are exploring include insurance protection; blended finance together with development banks; assurance around offtakes; and leveraging emerging carbon markets.

EF: How is Barclays trying to address the issue of the 'missing middle' and support climate tech companies?

DH: Climate technology companies are generating economic growth and creating a new wave of green jobs. We are providing expertise to support these companies at each stage of their journey as they scale from idea to IPO.

We have a long-standing partnership with Unreasonable Group to help scale early stage social and environmental companies. Since 2016, Barclays' Unreasonable Impact programme has supported 300 companies who have raised over $11 billion in financing, help avoid 89 million tonnes of greenhouse gas emissions and employ 24,000 people. Over the next five years, a further 200 social ventures will benefit from this support from mentors and industry specialists.

In the UK, we also have our network of Eagle Labs, providing physical workspaces, events, mentoring and access to an ecosystem of like-minded entrepreneurs and investors. With our significant footprint across the UK, we have the convening power to connect founders with others in our network – be that potential investors, industry mentors, or our clients.

We also invest £500 million ($624 million) of our own equity capital into climate-tech companies through our Sustainable Impact Capital portfolio helping scale their technology. We've deployed over £100 million into 20 companies providing hydrogen, carbon capture and other decarbonisation solutions, including ZeroAvia, a green-hydrogen aviation company, and ECOncrete, creators of a low-carbon concrete that improves the climate resilience and nature impact of infrastructure.

As these climate technology companies scale and need larger sources of finance beyond equity investment, our dedicated Sustainable and Impact Banking team are able to advise and raise capital, and support on M&A transactions, with a focus across four key climate tech verticals: clean energy, sustainable materials and recycling, food and agriculture tech and carbon management.

At Barclays, we are always thinking about who else we can collaborate with to unlock more capital. We recognise that more innovation is needed in different types of capital market instruments that can tackle these challenges well.

EF: How should the sustainable finance industry react to the increasing likelihood that the 1.5 degrees of warming target will be missed?

DH: As is evident in both scenarios, we need to focus action on scaling finance into climate mitigation and adaptation at pace. The amount of investment needed in climate finance is already below the level needed and that is particularly true of climate resilience and adaptation. The latest UN report on the subject was called "Underfinanced. Underprepared". The slower we finance the reduction of greenhouse gas emissions, the more we will need to invest to adapt to a hotter and more uncertain world.

Catalysing more adaptation finance will require investment and innovation at the global and community level. On the latter, we are working with the Sustainable Markets Initiative and others to explore new nature-based solutions that can both help store carbon and adapt to climate change. For example, directing finance to protect mangroves that will reduce flood risk and improve the resilience of coastal communities who often don't have financial capabilities to withstand weather shocks, whilst creating a natural carbon sink.

At Barclays, we have committed to align our financing to the goals and timelines of the Paris Agreement and that remains our goal.

EF: What's next for Barclays in this space?

DH: We have set a target to mobilise $1 trillion in sustainable and transition finance by 2030. The 'transition' element recognises the need to accelerate the flow of capital towards technologies that can decarbonise hard-to-abate sectors such as real estate, aviation, or manufacturing.

Our upcoming Transition Finance framework will outline the activities which we will label as aligned to a timely transition in line with the Paris Agreement. The framework, like our existing framework for sustainable finance, will be available on our website – we want to be transparent, shape best practice, and encourage others to direct further capital to real-world decarbonisation.

For more information, see: https://home.barclays/net-zero

Footnotes:

1 UN Framework Convention on Climate Change, 2022. https://unfccc.int/documents/624444
2 World Fund, 2023. https://www.worldfund.vc/knowledge/whitepaper
3 International Energy Agency, 2023. https://www.iea.org/reports/net-zero-roadmap-a-global-pathway-to-keep-the-15-0c-goal-in-reach

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