Reaching Net Zero by 2050 requires huge leaps in innovation and trillions of dollars invested into hardware climate tech startups. This brings both high risks with potentially high rewards – an opportunity that screams venture capital.
Climate tech VC firms have traditionally favoured software startups since they’ve got low upfront costs, high-profit margins and short development cycles. In other words, SaaS products are quick to ship, cheap to produce and can quickly be amended.
But climate change is largely a hardware challenge: the need to completely change systems, infrastructure and industries to create a sustainable future.
As more firms turn their lens to climate tech, this article guides investors on how to think about scaling hardware versus software startups. Let’s dive in.
Climate tech hardware startups have longer development cycles
Unlike software, hardware startups take considerably longer to design, prototype and bring products to market. Scaling hardware products into commercial viability takes years, and the road isn’t linear. Since they are difficult to change post-production, the upfront R&D costs are high, making it a capital-intensive journey.
Their supply chains are complex
Most hardware startups require specialised manufacturing with a mix of components, which adds complexity. Sourcing materials from around the globe can add logistical headaches, while regulations make things even trickier. Plus, keeping materials sustainable remains a constant challenge. To tackle these issues, startups should plan their scaling strategy from the start, choose production locations wisely, and build strong partnerships.
The funding trajectory is different
Hardware startups require a lot more capital. Compared to software, hardware requires substantially more funding for manufacturing, production facilities, and physical infrastructure. Typically, climate tech hardware startups raise 20-50% more equity and nearly double when including non-dilutive capital. They also undergo more funding rounds, with a mix of grants, equity, and debt. Battery developer Northvolt for example, raised 14 rounds in total – including 8 equity and 6 debt rounds. This is a stark contrast to software startups, which often raise 3-4 equity rounds before exiting.
Raising capital is harder, in particular in Series B
Raising a Series B round as a hardware startup is so challenging, it has been coined ‘The Valley of Death’. At this stage, many climate tech startups need to secure €30M+ in funds to build pilot facilities and scale technologies with their eyes set on launching a first-of-a-kind (FOAK) plant. But growth stage infrastructure funds – that would typically step in at this stage – tend to be risk-averse. Failure at this stage is costly, making them stick to traditional renewable projects such as wind and solar power. This means that many climate tech hardware startups find themselves in a ‘missing middle’ – too mature for early-stage but not quite ready for grants and PE. As a result, debt financing has emerged as an option to equity. In Q1 2024 alone, European climate tech startups raised €12.5bn in debt, significantly more than equity funding. Recently we’ve also seen VC firms like the World Fund raise and reserve more capital for follow-on investments to close this gap.
Climate tech hardware startups road to exit
Because of those long development cycles, complex supply chains and intense capital needs, climate tech hardware startups usually have longer paths to exit. When they do, their exit strategies look quite different from software startups too. They often opt for private equity buyouts over IPOs, since PE firms are better positioned to provide continuous funding than public markets. Climate tech companies Climeworks and H2 Green Steel recently secured investments from PE firms, for example, illustrating the trend of PE firms backing de-risked, scalable technologies. When it comes to acquisitions, software companies often get snapped up by tech giants, while hardware companies often attract large corporations that are looking to diversify their portfolios.
High risk = high reward
Despite these challenges, the growth of the climate tech industry presents lucrative opportunities. Hardware investments, while slow to mature and tricky to scale, can address fundamental climate challenges and offer substantial long-term value. The very things that make them hard to build also create powerful moats with high barriers to entry. They also bring more diverse exit options than software, including PE buyouts, strategic acquisitions, and IPOs. Successful hardware startups have the potential to become industry leaders, tapping into large, previously untapped markets. While scaling climate tech hardware startups can be daunting, the potential rewards in financial returns and environmental impact make it a compelling arena for VC investment. With over 50% of the world’s most successful companies being hardware, it’s an opportunity that is hard to ignore.
To learn more about how to scale hardware startups in climate, check out BUILDING AND SCALING CLIMATE HARDWARE: A PLAYBOOK by Planet A Ventures, SpeedInvest, and Norrsken. The playbook is based on dozens of interviews with founders and investors, surveys and historical data from our platform – which covers over 3600 climate hardware funding announcements in Europe between 2015 – 2023.
