Market Brief – Vertical Farming – Future Bright LLC
Vertical Farming is a technique in Controlled Environment Agriculture utilizing LED lighting and control systems to grow plants with consistent quality, year-round. Interest and investment in Vertical Farming is still in its early stages, and, combined with other CEA techniques, offers a differentiated growth area for investors that is ripe for innovation.
Investment in agricultural technology is growing and reached $4.5B in 2015. Still, Upstream Production Infrastructure, like Vertical Farming, Control Systems and Greenhouse Growing, remains a small part of overall investment for US markets. Indoor agriculture attracted $77M of the reported total in in 2015 (AgFunder). This total grew to ~$250M in 2016, 222% growth and we estimate will exceed $450M in 2017. Globally, this number is likely to be around 5-10X through 2018, with higher end estimates including medicinal crops. The focus of this brief is food.
Vertical Farming is increasingly being seen as part of the puzzle in creating a sustainable global agricultural system, as seen in the needs and opportunity graphic below.
Building a Sustainable Agriculture System (Opportunity / Needs Assessment)
Early Growth: There are a number of secular drivers fueling growth in Vertical Farming. These factors include improved economics, rising demand for local foods, and an increased focus on water and weather-efficient growing in order to improve food security in the face of climate change.
Vertical Farming is reaching economic parity in many markets due to falling costs of technology, the rising cost of water, improved growing expertise and demand for clean, local foods that are non-GMO and produced without pesticides. It is estimated there are 20+ commercial developments underway in the US with dozens more in planning. 2014 represented an acceleration of investor interest with the notable investment of ~$30M by Goldman Sachs and Prudential into Aerofarms, a company that has garnered over $107M in investment as of 2017. Aerofarms is working to develop a 70,000-ft2 facility in New Jersey. Aerofarms, like many of its US counterparts, claims they are building the largest and most productive vertical farm in the world. In our view, the largest and most productive vertical farms operate in Japan, a country with a long history of addressing its resource scarce position through technology. Japan has over 150+ commercial scale vertical farms, many of which have proven profitability while employing leading water, energy and labor efficiency (New Bean Capital, Future Bright). Still, Aerofarms signaled a number of initial and follow-on investments in Vertical Farming projects and companies, including more US investment in Greenhouse growing as well.
Market Signals – San Francisco-based Plenty announced a $200M funding, the largest ever for indoor Ag, led by Softbank’s Vision Fund and venture arms supported by Jeff Bezos and Google. We expect this deal to catalyze further interest and bet placing by investors around the world. 2018 could be US Vertical Farming’s first billion dollar year.
The Science & Tech: Vertical Farming technology is evolving rapidly to meet the needs of a number of market models. While Plant Science relatively well known for standard, quick harvest cycle, leafy greens, the key for vertical farmers is to tune their system to deliver the proper things (PAR or light from LED’s, Nutrients and ambient conditions: Temp, Rel. Humidity) at the proper time. Any investible model should have this process down pat for its’ core varietals. The controlled environment is allowing growers to experiment with things like simulated sunrise/set, strobe lighting, water stress, utilizing ultraviolet and green PAR spectrum and much more. Databases of plant science variables and growing techniques are growing across the industry. Eventually, the industry needs to evolve to grow more robust, value-added varietals from a whole-diet nutritional or nutraceutical angle. Additionally we see systems integration and vertical integration (from energy to seeds to feeds) as all part of the opportunity arc as Vertical Farming evolves.
BREAKOUT BOX – Where Does It Go? Future Bright LLC is focused on a future with healthy food systems. We share the vision of a Berlin think tank that articulates a viable economic global demand for 3000 ‘Whole Diet’ Integrated Agriculture Facilities that have 37 stories, including 5 sub-levels for aquaculture. These farms would each produce 3,500 tons of fruits and vegetables and 1400 tons of tilapia fillets, and cost $200M to construct pointing to an industry need for $600B+ in infrastructure investment. Add services and value-added product and the market for CEA tops $1T, assuming no serious environmental disruption.
Apples to Oranges? What makes one Vertical Farm different from another, or from an investors perspective, a better investment? There are really three aspects to compare: Technology, Strategy and Experience. On the technology front, models should be examined for how efficient they are in terms of water, energy, space and carbon per pound of food produced. There are small efficiencies to be gained from optimizing building envelope, chassis design, HVAC and LED’s and these must be examined fully. The second aspect of the technology is the quality of product that it produces – are the plants nutrient dense and how to they compare to conventional and organic product alike. The dialogue is evolving in this space and is at the heart of the debate between soil-based organic growers and vertical farmers.
Second is strategy and we’ve seen a number of market models from direct distribution to long-term contracts (volume and/or price) with distributors or retailers. The distribution model has a big impact on profitability with higher profit strategies presenting investors with taking the risk of merchant pricing.
If the Climate Change Thesis is correct, taking merchant risk with highly predictable, weather-agnostic food production isn’t a misplaced long-term bet. If the Vertical Farm is relying on premium pricing (up to organic levels) then we’d like to see a plan geared around bringing that price down over the course of three years to de-risk the model. If the Vertical Farm is focused on a few products, is there a plan to expand into higher value varietals or partner with a value-added producer? We also include data and control systems under the strategy umbrella although it overlaps with technology. Are control systems being built in-house, developed in partnership or simply outsourced? Co-development in partnership may be the most ideal given the specialization effect and the ability to raise investment into each entity separately. There’s also the question of database design. How robust are the data sets, do they extend beyond baseline varietals and into the opaque world of distributor and market pricing. Do they integrate with weather; soil and climate data to predict which varietals will be most valuable for the next cycle.
Finally, there is experience. We’ll note a number of the notable raises into the Vertical Farming space involve companies which have not yet gone to market. They’ve raised millions but haven’t sold a vegetable or proven they can manage the perishable product supply chain. This presents a challenge, as the food business is ultimately a problem solving exercise built around sales and marketing. By contrast, there are many Vertical Farming companies with years of growing and selling experience, or those developing production assets alongside a retailer, taking the sales challenge out of the equation. From an investment perspective, we prefer putting our money with the later. While no two vertical farms are exactly alike from an investment perspective, they all share a similarity in that they address certain environmental and social challenges.
Environmental Challenge: Vertical Farming is arriving not to soon to address some critical environmental challenges. Numerous causes of disruption to the food supply, like drought conditions, excessive heat, hot wind and dwindling fresh water reserves point to challenges for conventional agriculture. Excessive heat is already leading to significant crop failure, as reported in 2016 by one of the largest South American agriculture companies, AdecoAgro. Soil Health is rapidly deteriorating, with the UN FAO recently stating that the world, on average, has only 60 years of farming left (UN, Scientific American). There is a critical need to implement a hedge against the risks posed to the food system by scarcity and climate volatility. That hedge is Controlled Environment Agriculture, including Vertical Farming, Integrated Aquaculture and other CEA techniques.
A Solution to Urban Decay: While many Vertical Farming models are re-utilizing urban brownfields, and the public money that comes with this strategy, others are building from the foundation up. Regardless of the strategy around the structure, Vertical Farming can bring much needed employment to urban areas that have seen an exodus of jobs for decades or more. The counterpoint to watch is whether automation threatens the bulk of these new roles in VF2.0 or whether these jobs can offer meaningful opportunities for both economic and skills advancement. What the Vertical Farms can solve for is food access into heretofore deserts for fresh food. The lack of quality nutrients is a contributor to many of society’s downstream costs like crime, low education rates and health costs, and many Vertical Farming companies have a stated goal of improved access. But supply, access and affordability is only one aspect of the challenge. Fixing the food deserts, and the long-tailed problems that come with them, is equally a challenge of education and convenience. Vertical Farms, and other CEA techniques, are uniquely positioned to solve this problem because they can be located within the food desert communities, source employment from them, and double as centers of education and community gathering.
A Solution for the Developing World: While the high energy footprint doesn’t make Vertical Farming an obvious choice for bringing sustainable food and purpose to the developing world, we feel that view could change over time given the abundance of renewable energy sources found in many parts of the developing world. Pairing Vertical Farming with a large geothermal or solar plus storage arrays does two things. First, it completes the technology leapfrog for developing communities from both a food and a energy perspective. It also creates the investment scale that could attract development organizations like OPIC and IFC that require large investment sizes to justify participation. Still, Future Bright LLC sees a better fit for another Controlled Environment Technique, Integrated Aquaculture and Hydroponics or IAH. This technology delivers whole-diet, and much needed protein, in the most efficient manner possible. Compared to Vertical Farming, IAH uses 1/3 of the energy to grow ~2 times the food. As we describe in the ‘breakout box’, we see the two technologies combining and are actively encouraging that within our stakeholder groups.
Economics: We propose that Vertical Farming model can achieve mid-to-upper single digit unlevered returns in certain markets through using traditional distribution channels. Returns can be enhanced in a number of ways by solving for direct distribution, accessing strategic channels, like restaurants or D-T-C portals, and through varietal diversification and value-added partnerships. Also, a number of innovative financial structures and project leverage can push returns into low-to-mid double digits, or higher. Certain niche models, in niche markets, can boost returns further but questions arise over scale and sustainability of pricing as the industry matures. Vertical Farming is in the early stages of a secular growth story because it is reaching economic parity in markets around the world, but also because it is a solution-based investment in terms of climate and social restoration.
Solutions-Based: Controlled Environment Agriculture solutions, like Vertical Farming, are economically viable today and will be more so in the future. CEA is a solution for delivering reliable, consistent quality, and food security, in the face of a predictable increase in Climate Volatility. Vertical Farms do not use soil and utilize between 90-99% less water than conventional systems. They can grow year-round in any weather. They shorten food transportation miles, reduce pollution and food waste, and can deliver food that is of superior nutrient quality compared to conventional food. They don’t require the use of pesticides or herbicides for growing and when paired with renewable energy, CEA presents the most powerful economic opportunity for society’s global pivot towards sustainability.
On The Follow: For a deeper dive of the technology, practitioner or investment landscape in Vertical Farming, Aquaculture, Renewables, Energy Efficiency, ESG/SRI platform development and more, please contact Future Bright LLC.
About Future Bright
Future Bright is a think tank and consulting company in the fields of sustainability and sustainable investing. Future Bright focuses on a diverse cross-section of themes including renewable energy, energy efficiency as an asset class, sustainable agriculture, equity strategies and green consumer trends. Future Bright has worked with project developers, fund managers and asset managers in developing frameworks, definitions, structures and investment products.
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