TOPICS > Science

Extended Interview: Venture Capitalist Vinod Khosla

June 2, 2008 at 5:30 PM EDT

SPENCER MICHELS: This is an interview with Vinod Khosla, venture capitalist. Where do you think clean tech or green tech is right now? Is there a boom going on or is it just a lot of hype?

VINOD KHOSLA: You know it’s interesting, because I don’t even like those terms anymore. Because they refer to interesting little markets like hybrids and batteries and solar cells and wind farms and corn ethanol and biodiesel, but that’s not where the real opportunity is.

Those are nice markets, nice investments, people make money at it, but the real big opportunities are changing the infrastructure of society. We are talking about things like the $200 billion engines market for automobiles and trucks, things like lighting, billions of dollars spent on lighting. We can completely change that. Cement. Huge multi-hundred billion dollar market that needs to change. Glass. Then there’s replacing all of the oil in the world. Hundreds of billions if not trillions of dollars worth of fuel that needs to be replaced. And there’s gasoline, there’s diesel, there’s jet fuel.

And then there’s electric power generation. Not the kind you get from a PV cell, that’s a good market, but the stuff you can actually store and ship and the utilities meet it at the prices at which utilities can buy power. This is real scale. These are the prices that I call the Chindia price. We are even trying now to replace this renewable coal with this renewable technology because it’s cheaper, not because it’s greener. So power generation, to replace coal. Oil replacements and then efficiencies in engines and housing and the way we build houses is a very interesting market.

SPENCER MICHELS: But you put all of those things together, it sounds to me like if, if they’re all going on, that that’s a boom.

VINOD KHOSLA Well, it’s a massive opportunity. There’s no doubt in my mind over the next 25 years how we drive, how we build our houses, how we fly, how we build our buildings, will all change. And that’s essentially, like I said, the infrastructure of society and just when 6 or 8 billion people in the developing part of the world are starting to accelerate in their consumption of energy, these technologies are coming on and that’s an opportunity. That’s massive long term opportunity.

I have to add a word of caution. It’s an economic boom. It’s probably the largest economic opportunity we’ve seen in a long time, maybe ever. But there are also likely to be bubbles. Anytime there’s a boom, there is a bubble and I like to think not in terms of stock market prices. Because when there’s a boom everybody gets interested, you get false acceleration […] So I suspect sometime in the next 10 years we’ll see a bubble on stock prices. But it won’t change the rate of the development of the basic technologies.

SPENCER MICHELS: It doesn’t look like it’s hurt you in, if you were involved in financing . . .

VINOD KHOSLA: Well […] in this area one has to be careful and thoughtful. One can’t just follow the herd. The fact is lots of people got hurt in the dot com bubble, in the telecom bubble; lots of people made money too.

The most important part of that equation as far as society is concerned is we did not change the rate at which the internet was going. Internet traffic didn’t follow stock prices. It kept increasing. In 2001 after the crash, 2002, every year internet bandwidth has increased, usage has increased, telecom infrastructure has increased and so we have too large a tendency to look at the symptom of stock prices which is almost irrelevant to the basic businesses we are trying to build.

'We have to change our assumptions'

SPENCER MICHELS: Do you think that the use of venture capital is the best way to go about developing all this new technology or is there some better way? Should the government be heavily involved? Should the stock market be involved? Some, I don't know, any of the other way to finance this?

VINOD KHOSLA: Not only is there no better way, there isn't any other way. And for one very simple reason. We can't extrapolate our assumptions. This has got to be what Nassim [Taleb] calls the black swan phenomena. We have to radically change our assumptions. We are very much like turkeys and as Nassim says in his book, Black Swan, "for a thousand days, a turkey's worldview model is it gets fat every day these humans come out and feed it. Somehow [...] before thanksgiving, it's model changes." We have to follow that model. We have to radically change, and that can happen for the negative or the positive.

We have to shift from extrapolating past assumptions, ignore what economists and econometrics tells us about how much oil we need and when we'll run out and what consumptions will be. Because they are based on the false assumptions. Once those assumption change and technology will drive that change, the world will be different. Our assumption was long distance calls cost money. And then the internet came along, changed that assumption, and it didn't matter what AT&T wanted, they disappeared essentially, got sold for a song.

SPENCER MICHELS: Yeah, but the turkey got his head cut off.

VINOD KHOSLA: The turkey did, but there are other people like Google which took advantage. The media companies didn't respond, but Google did. So somebody took advantage. So they're both positives and negatives.

Dislocations will happen but this is about taking risk and risk with your own money which venture capitalists do, is much better talked through than the risk that government will take that they listen to pundits and pontificate without understanding the technology shifts that are possible, thoroughly possible.

Sometimes they're speculative. You don't know where companies will work. We assume there's a high failure rate and we want to invest in the technologies that are high risk, so it's okay to fail, but when we succeed it'd better be worth succeeding. We'd better have very large dislocations with these technologies. We don't need a fuel that's cleaner, we need a fuel that happens to be cleaner, but is half the price of oil and that's very likely in the next three years.

SPENCER MICHELS: So tell me about the three year fuel. What are you talking about?

VINOD KHOSLA: You know today the world is hung up on food-based biofuels. Not only are they the wrong thing, they're the uneconomic thing. And I don't worry about them because the next set of technologies which will all be here within the next year or two or three years [...] will help production costs at a $1, $1.25 a gallon. How can corn ethanol compete with that? In 10 years corn ethanol companies will have a difficult time competing.

SPENCER MICHELS: What will be the alternative?

VINOD KHOSLA: It'll be rice based. It'll be based on wood chips, biomass, it's grasses like [...] switchgrass. In fact, we could grow all the gasoline we import in this country, all of it, without using an acre of land just in something called winter cover crops. The winter period between September and March in this country, when land sits fallow and is subject to topsoil loss, we could be enriching the soil and growing all the biomass we need to replace imported gasoline.

SPENCER MICHELS: So as a VC, I would assume you're looking for big acreage to plant all that and a company who's willing to do it. Is that logical?

VINOD KHOSLA: Well, we take a lot of risks [...] we're used to taking risks. [...] There are many, many opportunities like this. We like to say at Khosla Ventures, and this is one of the reasons to do what we do, we'll take technical risks that nobody else will. In fact, if the risk is going up then a large company might fund it. A Monsanto might or a DuPont might. It's not worth our while. We take the larger risks, real science experiments, and that's been one of the founding pieces in our company.

Risk takers, risk avoiders

SPENCER MICHELS: I talked to some entrepreneurs who say most venture capitalists are risk adverse. They only want products that are already in production and they will not take a chance. Are you all by yourself out there?

VINOD KHOSLA: We're probably not the only ones. There's others who will take risks but it is true that 95 percent of people in the venture business think it's a financial business, it's about investing. It's not. It's about building companies, which is a different thing than investing. It's about taking large risks in science and technology. That's what we do.

So we will fund radical efforts that nobody else will, because if you're a Wall Street investor, first, in any business, no matter whether you're talking about venture capital or hedge funds or plastics or cement, 95 percent of the people are always followers, but they're not really relevant to the future. When it comes to inventing the future, it's about the 5 percent that look beyond today [...] There are a few people around and we are one of them and we look for those people who want to do radical things. In fact, we don't do the traditional things.

SPENCER MICHELS: But at the same time, you are an investor and you do have to make money or you'd be out of here.

VINOD KHOSLA: Yes, but a big difference. We are an investor that tries to build companies. We make money by building entities over the long term. We're not in the business of transacting or doing deals. We don't even allow that word here. It's not buying and selling, that's a transaction. You don't invest in something and say I can sell it tomorrow or next year. We take a five year, ten year view and say we can build a company that can significantly change the landscape. Now if you happen to do that, you build companies of lasting value, make a large impact and if you do, you're going to have a valuable company that you can make money on. So it's a long term versus short term perspective.

SPENCER MICHELS: So in a specific instance, for example, you've invested in Ausra and Bob Fishman comes in and you talk and you're not making deals with him? You're planning for the future?

VINOD KHOSLA: Well surely we are, we are making an investment and you negotiate that. But making an investment is a small part of what we do. We spend an awful lot of time, we invest in Ausra, we spent an awful lot of time recruiting Bob, building a management team, building other parts of the team that can execute on the company over the long run. We didn't say let's package our [investment] up and sell it. We helped it get contracts with large utilities, we helped it plan strategy, that's what we do and that's about building companies and the money comes as a side effect of building a big company not a result of a transaction.

SPENCER MICHELS: Now they make thermal solar. Thermal solar has been around for a long time and I'm sure you know that. I mean I have some pictures in my office that we took in 1984 of a huge thermal solar plant in the Mojave Desert. That ran out of business eventually. What's different now that might make Ausra work that didn't maybe make solar one and solar two work?

VINOD KHOSLA: Well first, solar one and solar two did work. They're still operating today, they're still producing power, and still producing power consistently at the levels at which it was produced back in the '80s. So they are projects. What didn't work is the financial side of it. The price of oil dropped. In fact, Saudi Arabia helped drop the price of oil. And oil went down to $8 so interest in those technologies was lost. Nobody invested in new R&D to reduce the cost of that technology.

Technology needs continuing investment. People were impatient. In fact, when we met David Mills, the founder of Ausra, he was in Australia in the middle of coal country [...] It was a difficult job getting any funding because Australia loves coal. And so I met him, we moved the company to California, invested in it, and helped build a management team, helped build a research team, helped build a strategy for the long haul. The other thing that's happened is all of a sudden we become a bad word. Oil's price has increased dramatically. In 1980 you could build a plant that could use coal based power for 4 cents a kilowatt hour. Today you're more at 8 or 9 cents. You're in the range where these technologies can compete hence they're in the marketplace on cost.

The climate change incentive

SPENCER MICHELS: Well what happens if for some reason energy prices come down again and they strike a big oil field and the price of gasoline goes down? Do we have a bubble? Does everything you're investing in become irrelevant again?

VINOD KHOSLA: You know, there's always a danger the prices can come down or that they can be manipulated down when this alternative world is perceived as a real danger. But there's one important thing we can't change. Or it's unlikely to change. The world is now sensitive to carbon emissions which means no matter what the price, coal and oil can't be part of the equation 25 years out. We need a cap on carbon emissions.

If in fact oil comes down in price, the price of carbon will go up. Without replacing oil and coal, we cannot on this planet reduce emissions. And so we have a permanent hedge as long as we are committed to carbon cap and trade. And I do believe the world is now committed to that, the next President of the United States will be for it. All the candidates have declared their support for it. Europe is already there, and so we are likely to have a cap and trade system, that is a risk if that doesn't happen. But I believe it will, but as investors we're used to risk. We're used to failing and we learn a lot when we fail.

SPENCER MICHELS: In terms of climate change then, you sort of alluded to it. How important is the fear of climate change and the reality of it in this whole equation?

VINOD KHOSLA: Well it's very important. You know there's one economic argument which is we need to replace oil and coal with something cheaper. There's the national security argument that we need to replace oil. But the most important argument is for climate change reasons we need to replace carbon. And if that is the prevailing reason there is no other solution but to replace them completely. Now there's many solutions that compete to replace oil and coal, and that's a good thing for society.

SPENCER MICHELS: Well be specific about automobiles then, I mean [...] and trucks and buses. They emit a lot of carbon. What's coming down the road that you think is important? We just, because I mentioned we just went to a place where we watched a hybrid plug-in as an interim solution. Does that make any sense to you?

VINOD KHOSLA: You know, people fall in love with ideas and environmentalists especially have fallen in love with the idea of hybrids and plug-in hybrids. I don't believe -- till something radical changes that we are not on track to do -- that hybrids are material to climate change. They're fashionable, everybody loves them, the Prius is selling well, but so are Gucci bags. But they don't impact the way the world carries stuff. You know it's a fashion statement.

McKinsey just did a study that says of the hundred or so technologies they looked at, hybridization of cars was the single most expensive way to reduce carbon emissions per ton of carbon reduced.

[...] But of the billion or so cars we ship over the next 15 years on this planet, most of them probably dropping in price close to below to $5,000 -- Tata's of course introduced a $2500 car -- how can we can lower carbon technologies in 500 million to 800 million of those cars? That's unlikely to be a hybrid or a plug-in hybrid because they're way too expensive for most of the world to afford. They'll take a big share in Berkeley, in San Francisco, there are already cities that lead the world in how Prius sells, but are they going to make sense for the average person in Mississippi or the average person in New Delhi?


VINOD KHOSLA: I believe cellulosic fuels, biofuels made from nonfood crops are the only solution that will make a difference. And before I go there there's an even more interesting first step. The internal combustion engine, we know how to make it, but we also believe -- and this is one of the risks we are taking -- we can double its efficiency so without talking people out of driving SUVs or changing their habits which are very hard to do, we think we can double the efficiency of an engine. That would cut the amount of carbon emissions in half just by introducing a more efficient engine. It would cut worldwide oil consumption in half -- at least for transportation -- if we did this. That's a cost effective solution. It's at a price point where even the $2500 car would adapt it and so it can be in 500 million cars.

Those are the kinds of solutions we need to find, not the solutions the environmentalists push which say oh, this is neat, let's do it at any cost.

SPENCER MICHELS: So you're talking about a car that has a internal combustion engine that runs on some kind of biofuel. Is that what you're talking about?

VINOD KHOSLA: Well, first I'm saying just a more efficient engine can cut oil consumption and cut emissions in half. You then replace the oil with biofuels and then you can essentially eliminate carbon emissions.

SPENCER MICHELS: So why not just go for an electric car. Then that completely eliminates them.

VINOD KHOSLA: What if it's too expensive for people to adapt? Battery technology is not on path to reduce the cost of an electric car to below say $1000 above the price of a regular car.

SPENCER MICHELS: Well maybe not this week, but maybe in the future.

VINOD KHOSLA: Well those are the kind of breakthroughs we are aiming for and the kinds of investments we are making in batteries, but it is not likely to happen any time soon.

Not only that, if you have an all electric car, you're really running on coal because most of the electricity in this country is generated by coal, so you really have in an electric car you have a coal powered car, not this clean vehicle people think it is. Of course you can put wind farms and solar farms to feed it, but then you're adding a very expensive car and very expensive electricity that's all green and you can be green but if it costs twice as much to drive, and it's an expensive way to reduce carbon, will it be adapted in India and China? No, it won't, and then we won't meet what I call the Chindia price, be cheap enough to be adapted voluntarily.

SPENCER MICHELS: What do you call it, the Chindia price? China-India?

VINOD KHOSLA: Yes. I say most effective climate change technologies have to be on trajectory, they don't have to day one be cheap enough, but they have to be on trajectory to meet the Chindia price, the price at which India and China would adapt these technologies for economic reasons. Because without India and China adapting these technologies, there is no cost effect, there's no real climate change solution.

The government's role

SPENCER MICHELS: In terms of the motivation for this and how that gets into the economics, is there some altruism here or is this hard business decisions all the way?

VINOD KHOSLA: Well, the solutions have to be driven by hard business decisions. The problem of carbon emissions is a problem of social benefit. It is very clear that increased carbon emissions are causing a problem, at least it's clear to me.

But even for the most skeptical person I say if your home has a one in 500 chance of burning down we buy insurance. There's some probability, depending upon which scientist you believe, between 20 and 90 percent that our planet's going to burn up. Why aren't we doing insurance? And so there are whole economic reasons to reduce carbon emissions and reduce the risk of catastrophic change.

Even more critically, the economic damage [...] from extreme weather related events [...] has been climbing dramatically. The economists did a recent analysis. That's hard financial numbers. And those costs to society will go up. In the end consumers will pay, insurers are no longer insuring, are increasing their rates for climate sensitive regions, like in Florida.

And so this is about economics. Some of it is longer term, some of it is short term. But the solutions to these will be driven strictly by short term economics by consumers buying a cheaper product that happens to be much greener. Now technology will play a key role in that but I do believe policy is important. I don't think subsidy's as important, but policy is very important.

SPENCER MICHELS: Government policy.

VINOD KHOSLA: Government policy.

SPENCER MICHELS: Which was going to be my last question. How important is the government, you said earlier the only way to finance the kind of change you're looking for is through venture capital. And I was going to say, well, what about government? Government has a major role often in other countries especially but how important is government policy versus money?

VINOD KHOSLA: Well government policy is absolutely key. If you have a carbon cap and trade system there'd be an agreed-to limit the amount of carbon we emit. That changes the economic picture for fossil technologies and for the renewable technologies. It makes the renewable technologies more attractive and the fossils less attractive. That policy's very important. Now an industrial plan can't spew wastewater contaminated with arsenic out in the stream. But it can emit carbon dioxide into the air. There are pollution control requirements which are good for society. Carbon dioxide is just another pollutant and we ought to limit it. So policy's very, very important. In addition by having things, by like the renewable fuel standard, or the renewable portfolio standard, we can create incentives in the marketplace to invest in certain areas and then rely on a good old capitalist system to make that work.

SPENCER MICHELS: Well, the solar people are very hungry for either tax subsidies or tax credits. That seems to be very important to them.

VINOD KHOSLA: Well you know, the thing to realize about tax credits and subsidies, everybody always wants them. I will tell you that today the fossil energy industries, both coal and oil are highly subsidized. Coal, there are three times as much sludge coming out of coal power plants, dumped out in open fields, than all the municipal sewage in the United States. They don't pay for it.

The nuclear power industry, risk-insured by the federal government won't take care of your waste disposal problem, you don't have to pay for it at market rates. Or you don't have to buy a financial debt at market rates. Nuclear power would be far more expensive than solar power if it had to pay market rates of borrowing and didn't have federal insurance.

So traditional industries are heavily subsidized. Oil is heavily subsidized. All kinds of tax credits and incentives, far more than biofuels. So one, we have to level the playing field, but it is true that certain industries need subsidies or tax credits to get started. I don't believe any technology should get a subsidy beyond 5 to 7 years. It should get help getting upscale and getting started and then be able to compete. The other way is to do, to mandate say 20 percent renewable energy, renewable fuels, or renewable electricity and that will eliminate the need for subsidies, so one of the two.