Sustainable Investments: the role of venture capital and the studies of the MUSA Project

The commitment to achieving climate neutrality by 2050 and other ambitious global environmental goals, such as the European Green Deal, confront us with significant economic changes and the urgent need for technological innovation.

At the European level, the “net zero” target for 2050 requires increased investments in the energy sector, amounting to €350 billion per year in the 2021-2030 period compared to the previous decade. The magnitude of the investment needed also requires a massive mobilization of private capital.

In particular, there is a close relationship between equity financing and green innovation in attracting Venture Capital funding.

The challenge is considerable but also full of opportunities to shape a more sustainable future. We asked Gianluca Gucciardi from the Department of Economics, Quantitative Methods, and Business Strategies (DEMS) and a researcher at the MUSA project for an overview of the ongoing studies.

Dr. Gucciardi, can Venture Capital investments influence the environment?

Several scientific studies have highlighted a growing awareness among Venture Capital funds towards sustainability-oriented startups or those developing solutions for environmental, social, and governance (ESG) challenges. In particular, the main contribution of Venture Capital to the ‘green’ innovation ecosystem is associated with the financial and managerial support provided to startups engaged in the development and commercialization of ‘sustainable’ technologies, i.e., eco-friendly or eco-efficient, especially during the early stages of development when entrepreneurs have limited financial resources.

It is important to recognize, however, that Venture Capital investors primarily aim to foster exponential growth in funded startups to increase their value and ultimately achieve a return on investment through an ‘exit’ such as an IPO, merger, or acquisition of the startup. Therefore, achieving this economic and financial objective may not always be compatible with ESG goals, especially considering the timeframes governing VC investment cycles and the development and adoption of green technologies, which are often complex to realize.

This is an open and highly relevant topic for both the scientific community and policymakers, on which many scholars in the field of sustainable finance are currently focusing their research efforts. In a recent study, for example, we highlighted how investments in venture capital are correlated with a reduction in environmental impact intensity, approximated through an energy efficiency index defined as the ratio of CO2 emissions to GDP at the national level.

However, while emerging from a global analysis, we observed that this phenomenon is mainly concentrated in specific areas of the planet, especially among emerging economies and in countries where environmental awareness and the adoption of green technologies are still in the developmental stage and not fully consolidated. These findings would support the hypothesis of a role for venture capital funds in the transfer of sustainable technologies between countries, but much remains to be studied and analyzed before reaching a definitive conclusion.

Are there specific sectors or types of green technologies that seem to be particularly attractive to investors?

In general, Venture Capital investors are attracted to startups operating in ‘high-tech’ sectors or developing disruptive technologies or innovations, even in more traditional industries, as they promise excellent returns on investment. However, the high capital requirement for the development of ‘green’ technologies and the fact that green investments take longer to reach maturity may be a constraint for the traditional VC business model, which focuses on high and relatively rapid returns.

In this context, some studies have highlighted an increase in investments towards sectors defined as ‘green’, including environmental services, renewable energy production, and new sustainable materials. A 2023 study conducted in collaboration with researchers from other national and international universities and the European Commission’s Joint Research Centre showed that VC investors seem to focus on the ‘green’ characteristics of developed technologies, regardless of the industrial sector to which they belong. Startups with green patents, i.e., those related to technologies to mitigate the effects of climate change, are more likely to receive VC funding than those without patents or with other types of patents. Additionally, a higher proportion of green patents in a startup’s portfolio increases the chances of receiving Venture Capital investments.

These results suggest that green innovation is a preferred and appreciated investment opportunity for VCs compared to other patented ‘non-green’ technologies. This has significant implications in a context where technological innovation is essential to achieving national and international climate and environmental goals that require unprecedented financial efforts.

In this context, what role can private investors and financiers play in achieving sustainability goals?

Several studies have shown that, despite recent efforts, public funding is still insufficient to cover the vast amount of investment needed for a full ecological transition. In response to this challenge, institutions such as the European Commission have developed policies aimed at promoting sustainable finance within a structured regulatory framework, allowing private investors to play their crucial role in initiating and scaling the technological and industrial solutions needed for sustainability.

However, many of these solutions require long-term investments and are not well-suited to the traditional VC business model. A significant example is ‘deep-tech’ startups, which undertake prolonged research and development cycles. Therefore, effective collaboration between public support measures, such as subsidies, and private financing becomes essential. Many countries are adopting support measures, such as tax credits, funds, and grants, to encourage investments in green technologies. In Italy and Europe, for example, substantial funds have been allocated, especially through programs like NextGen EU and RePower EU, which have a particular focus on sustainability.

More generally, favorable environmental policies can reduce the uncertainty and risk associated with investments in sustainable enterprises, especially through long-term policies that promote the creation of markets for environmental technologies. Analyzing the effects of such tools and policies on sustainability is undoubtedly one of the most important challenges for scholars in finance and public economics.

How can research results contribute to guiding strategic decisions on environmental policies and financial institutions in promoting more sustainable development?

Research plays a fundamental role in analyzing and predicting the effects of environmental policies on multiple levels, including ecology and biology, with economics and finance playing a key role in this context.

For example, within the framework of the MUSA PNRR project (Multilayered Urban Sustainability Action), born from the collaboration between the University of Milano-Bicocca, other partner Milanese universities, and various stakeholders, the sustainable finance team, of which I am part, is currently conducting applied research projects with direct implications for the local and international productive fabric.

One of our initial studies focuses on analyzing the most relevant and widespread quantitative indicators among different rating agencies to determine whether a company can be considered sustainable according to various classifications. This idea has practical relevance as well as theoretical, as identifying a limited set of indicators that can effectively represent a company’s ESG performance for different rating agencies could help companies, especially SMEs, navigate more effectively in the context of sustainability ratings. Furthermore, financial institutions could benefit from a tool that helps interpret the differences between the ESG ratings of different agencies more consciously.

Another research strand focuses on the financial cost that companies must bear to access financing for sustainability investments.

The goal is to understand whether more sustainable companies actually benefit from lower financing costs in various institutional contexts, as banks recognize these companies as having a lower level of risk. In this case too, we intend to develop tools useful for SMEs to navigate the sustainable finance context and dialogue with financial institutions. For further information, I refer to a recent video interview of mine and to the activities of Spoke 4 of the MUSA project, which focuses precisely on Sustainable Finance.

Finally, I invite interested colleagues, even from sectors other than economics or finance, to contact me if they wish to share or develop new lines of research, even in the preliminary phase. Unity – and interdisciplinarity – is strength!

The article was originally published on the Unimib BNews website.