NEWS

POLYFUEL GETS $18.4M
By Clifford Carlsen

Interest among traditional venture capitalists may be heating up for energy-related startups, but fuel-cell developer PolyFuel Inc. decided to stick mainly with specialists when landing an $18.4 million third-round of funding. CDP Capital-Private Equity of Montreal, which has extensive investing experience in the technology, led the round.

The deal included previous Silicon Valley investors Mayfield, Ventures West, Technology Partners, Intel Capital and Chrysalix Energy Ltd. Partnership as well as a broad syndicate of new international investors, including U.K.-based Conduit Ventures Ltd., KTB Ventures and BiNEXT Ventures of South Korea, Hotung Venture Partner of Taiwan and Yasuda Enterprise Development Co. Ltd. of Japan.

“A lot of people talk about being interested in energy but haven't really done much yet,” said David Ladd, a managing director with longtime investor Mayfield, of venture firms' newfound interest in energy-related startups. “But even though CDP is a traditional venture capital firm, these guys have a lot of expertise in energy.”

The new money will advance the development of PolyFuel's fuel-cell membrane materials business as it moves into pre-production programs with several portable electronic device manufacturers. The new round will also help the startup pursue additional fuel-cell projects for automobiles and other possible large scale applications.

The new financing brings PolyFuel's total funding to more than $40 million, and comes at an undisclosed valuation. PolyFuel chief financial officer Mark Campion acknowledged only that the company's post-money valuation with the current round is greater than the $27.1 million it was left with following a July 2002 second round of $15.6 million, but would not say how much the pre-money valuation declined.

“PolyFuel raised this money at a trough in venture capital funding, so from an investor standpoint we are glad, we have a really strong syndicate,” added David Berkowitz, a partner with second round leader VenturesWest. “Are we happy about the valuation? Probably not.”

PolyFuel CEO James Balcom wouldn't comment on terms of the deal but said the addition of international backers was crucial in the company's focus on Asia, where manufacturers as well as consumers are more attuned to the need for new power technology to meet additional demands of new applications running on the 3G wireless platforms already available outside the U.S.

“Asian firms got it right away because they know the device market very well and consumers there are already used to running out of power running the new applications,” Balcom said. “It is not uncommon in Asia to find people buying $2-to-$3 instant battery rechargers at 7-11 stores that they use once and throw out.”

Campion added that the company had a lot of interest from traditional venture firms after the financing was largely completed but said it made sense to do the round with firms that understood the technology. Several firms became interested in participating once the deal had a lead investor, he noted, but added that PolyFuel's previous investors jump-started the deal around the turn of the year by submitting an internally generated term sheet.

VentureWest's Berkowitz explained that the company had made great progress since the last round of funding, and that the new funding gives PolyFuel the capital it will need to consummate partnerships with manufacturers that it's already working with. PolyFuel is angling to have its materials incorporated into methane fuel-cell projects that have been announced by Asian electronics manufacturers such as Fujitsu, NEC Corp., Toshiba and Samsung Electronics Co. Ltd.

Methane fuel cells contain a sophisticated membrane that permits methanol to interact with water and air to produce electricity, but the membrane requires a controlled reaction. Incumbent materials used in membranes to separate different parts of fuel cells traditionally have been uncontrollably permeable, reducing efficiency, but PolyFuel believes its materials dramatically improve on their performance.

The company's proprietary materials technology is designed to replace perflourinated membrane materials produced by several manufacturers off-patent. The company maintains that its technology has been shown to be more efficient than existing materials in reducing the permeability of water and fuel between the two sides of fuel-cell batteries.

PolyFuel produces small amounts of its materials in-house and supplies them to OEMs for testing, but is pursuing manufacturing relationships that could include straight contract manufacturers or licensing agreements. PolyFuel's challenge is to convince manufacturers that the technology will hold up in long term use, and that the company itself is stable enough to take on as a manufacturing partner.

PolyFuel's new funding is expected to carry PolyFuel to positive cash flow if current partnerships pan out, leading to products that could hit the market in early 2006. But the company assembled the syndicate with the possibility of returning for additional capital.

PolyFuel used no outside financial adviser for the deal, and called on Peter Kerman of the Palo Alto, Calif., office of Latham & Watkins LLP. Sam Zucker of O'Melveny & Myers LLP in Los Angeles represented the investors.

Berkowitz said PolyFuel and earlier investors felt fortunate to get the deal they landed in the current environment, adding that the focus was on raising a large amount of capital and finding partners that were willing to fund the company to profitability.