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CASE: E404B

DATE: 5/20/2011

ZETA COMMUNITIES - PART B


ZETA (Zero Energy Technology and Architecture) Communities launched in January 2008 with
the goal of creating a new method for delivering affordable, energy efficient, urban residential
and commercial buildings using offsite construction. The founding team included Naomi Porat,
her brother Marc (entrepreneur and chairman of Serious Materials, a green building materials
company), and Shilpa Sankaran (see Exhibit 1 for co-founders’ biographies). The co-founders’
initial research indicated a huge opportunity to improve upon traditional building methods
utilizing factory construction to achieve higher quality, 50 percent faster time to market and
reduced costs, while delivering improved health and environmental performance. Naomi would
serve as CEO, her brother as Chairman, and Shilpa as the Vice President of Marketing and
Communications.

Based on just their initial concept and the promise of future equity, the co-founders recruited an
architect (Dan Smith) and structural engineer (David Mar of Tipping Mar + Associates) from
prior projects on which Naomi had worked to help them turn their concept into a reality. In
parallel, they established a research partnership with the Department of Energy’s (DOE)
Building America program which was engaged in a widespread initiative to promote the
development of cost-effective, energy efficient building strategies. The DOE connected ZETA
with Building Science Corporation (BSC), a private consulting firm specializing in building
science and ―bleeding edge‖ mechanical, electrical and plumbing design. With this small but
highly adept and fully integrated team in place, ZETA geared up to define the scope and process
by which they would develop their revolutionary product.

NET ZERO IS THE NEW GREEN

When the co-founders evaluated the major problems they wanted to address—the high costs of
urban housing, inefficient construction practices and rapidly rising CO2 emissions, in
particular—they concluded that simply developing a green building solution would not be
enough. In early 2008, the California Energy Commission announced the goal that all new
residential construction achieve net zero energy by 2020, where ―net zero energy‖ (NZE) was
defined as a building that generated, via renewable energy sources, as much energy as it
consumed. The American Institute of Architect’s 2030 Challenge, the U.S. Department of
Energy’s Building America Program and a report issued by the President’s National Science and
Technology Council on the federal government’s agenda for high performance buildings all
similarly pointed to net zero energy as the next benchmark in green building performance.
ZETA Communities: E404B p. 2

While ZETA’s founding team certainly supported the intent of these various programs, they were
troubled by their extended timelines. Given the exponentially rising CO2 emissions curve,
achieving net zero energy or carbon neutral housing by 2030 or even 2020 was not soon enough.
They therefore set out to deliver a viable, high performance net zero energy product to market
within the next 12 to 24 months such that once scaled up, they could make an immediate impact
on climate change. Not only would ZETA’s product meet the U.S. Green Building Council’s
highest LEED rating of Platinum, but it would set a model for the industry and lead the way
towards the more rapid achievement of net zero goals.

With net zero energy as ZETA’s central vision, the team set out to develop an affordable, urban
infill multifamily housing product which could be installed in a period of weeks, rather than
months, and was suited for sites with zero lot lines. Their prototype would be a giant leap from
conventional building practices in the process by which it was developed, the sites for which it
would work and the combined price and performance of the final product (see Exhibits 2 and 3).

REFINING THE BUSINESS PLAN

Once the team defined their product scope, they set out to determine exactly how to build to their
specification. The first step in solving the puzzle was to assign the design team two
straightforward but critically important tasks: model a two-story building to determine how to
best achieve net zero energy and begin to define the steps whereby the company could build that
same building in a factory. Together, the Porats put in $140,000 of seed money to launch the
effort, supplemented by another $200,000 from DOE to fund BSC’s engineering work.

While the designers set to work, Porat, her brother, and Sankaran continued to craft the business
plan, drawing from their combined understanding of building methods and technologies. From
Porat and Sankaran’s previous work in real estate and management consulting, respectively, the
duo had developed a seamless working relationship and an analytical approach to evaluating
opportunities and solving problems. In that spirit, they tracked data on a wide range of indicators
including housing starts for both modular and on site construction1, interest rate trends, the
performance of the major indices, and financial institution activity to track where and how banks
were placing their money. Additionally, they visited modular factories to observe their
operations and better understand the economics associated with running these types of facilities.
They connected with experts in the field to gather their knowledge, including an equipment
engineer to help them assess their needs and evaluate prefabrication options from the most high-
tech robotic equipment down to basic machinery required for component assembly. Together,
these data points came together to form the basis for their financial model which, just like their
first product, they would have to build from the ground up.

In parallel with tracking data on market trends, operating and capital expenses, Porat conducted
her own equally important ―informal‖ market research. Taking advantage of the lull in real estate
activity, she leveraged her deep connections in the industry to arrange meetings with a wide
variety of industry professionals to garner their feedback. Her approach was clear—she was not
there to sell but rather to listen, gather information about their needs and understand how and if

1
Housing starts denote the number of new housing projects started per year and act as one of several indicators of
growth or slowdown in the construction market.
ZETA Communities: E404B p. 3

an urban, prefabricated product might fit into their project pipeline. This approach not only
allowed her to gather valuable input that would inform the design and delivery of ZETA’s
product, but would also help to educate a group of industry professionals who could eventually
become customers.

Linking the Supply Chain

Integral to building the company’s financial model was the tactical decision of where and how
they would participate in the construction supply chain. To illustrate the shortcomings in the
conventional development model, Porat described her previous experience: ―I had worked with
developers and public agencies as a development advisor and watched this messy process which
was like making sausage. Every new project was custom-designed with the same problems,
same issues and multiple consultants passing the baton at the wrong time.‖ Porat and Sankaran
decided that if instead, ZETA could provide a single-source solution to multifamily developers,
they could potentially overcome many of the inefficiencies that arose in the broken links of both
the vertical supply chain (i.e. design through construction) as well as the horizontally fragmented
supply chain (e.g. architects, multiple specialist engineers, and other consultants during the
design phase; and general contractors that employ multiple specialty subcontractors during the
construction phase). Best of all, they could create a continuous cycle of improvement whereby
every project provided an opportunity to improve upon the design, systems, software, fabrication
and installation process of the one before it.

While the benefits to the single source solution were clear, so were the challenges. Traditional
modular builders released ownership of their product once they loaded it onto the truck (also
known as freight-on-board or FOB). At that point, a modular building set-up company handled
transportation to and installation on the site. The set-up company often worked in parallel with a
general contractor who was responsible for completing all the necessary site work (e.g. site
grading, laying the foundation, utility trenching, etc.) and facilitating the final foundation,
mechanical, electrical and plumbing connections, completing the roof structure, and applying
sealants, finishes and flooring as necessary.

A true single source solution for ZETA would require that the company fold all of these
responsibilities—transportation, installation and site work—under its umbrella. However, the
site work required specific expertise and an intensive resource investment, regardless of project
size, yet earned significantly lower margins than manufacturing. Additionally, bringing the site
work in-house required establishing a general contracting (GC) division and staffing it with
seasoned project managers and field laborers who would be responsible solely for the in-the-field
work. The company would need to make the critical decision whether the benefits of owning the
process once their module left the factory merited the capital investment required to ramp their
resources given the low financial returns the GC work ultimately generated.

THE SEARCH FOR FUNDING

By mid-2008, the ZETA team had completed the building model, secured a pipeline of projects,
developed a scalable business plan and were ready to launch a financing round to continue the
research and development work that was critical to their success. As Porat and Sankaran
ZETA Communities: E404B p. 4

evaluated the various avenues for obtaining financing, they soon realized that their options were
few. ZETA was still too small to be attractive to private equity firms and the various real estate
funds they may have targeted in the past were all but shut down for business by 2008. That left
the venture capital (VC) community which, at the time, was investing tens of millions in capital-
intensive renewable energy companies. Renewable energy was sexy and exciting.
Construction—even if it was ―green‖—was not.

While renewable energy was core to ZETA’s business model, energy efficiency reigned
supreme. Fundamental green building practice dictated that a renewable energy system should
not be installed on a building until and unless the building was as energy efficient as possible.
Otherwise, the solar panels, for example, would be sized, and therefore priced, to meet a larger
load than necessary. On this premise, the co-founders went to the VCs to present ZETA’s
business model. Porat described their conversations:

At the time of our financing launch, the real estate markets were rapidly declining
due to the crash in the housing and financial markets. Although I was pitching a
low CAPEX energy efficiency play, in contrast to the significant investment
required for renewables, the investors categorized ZETA as ―green building‖ and
wrote us off before we could pitch. And I was on a mission to talk about the high
return on investment of energy efficiency and the disruptive technology ZETA
was introducing to an industry that was ripe for major transformation. But ―clean
tech‖ investors were not interested in this space at the time.

After encountering dozens of tepid or noncommittal responses from a range of VC firms, ZETA
ultimately received a term sheet from North Bridge Venture Partners, a bi-coastal venture capital
company, in fall 2008. Porat recalled the reasons for North Bridge’s interest in the company:

Energy efficiency was an important story but that wasn’t why they funded us.
They were interested in the faster, better, cheaper opportunity in an industry that
was ripe for disruption. North Bridge was the only VC that understood how a 50
percent reduction in time to market, coupled with new energy efficient building
technologies, would be game-changers in the construction industry.

The day and hour that North Bridge partners were meeting to decide on the ZETA investment,
the stock market dropped 777 points and Marc Porat called Naomi to tell her that the deal was all
but over. However, and perhaps against all odds, North Bridge did sign the term sheet to provide
ZETA with $5 million of Series A funding.

BUILDING THE TEAM

With their first round of funding closed, the co-founders looked to build out their core team in
three key areas: manufacturing, construction and business development. Since manufacturing
expertise was critical to executing on the business model, they sought a manufacturing expert to
help them set up their factory, build out their operations, establish quality control systems and
simply get them up and running. In searching for exactly the right person, they reasoned that
manufacturing experience was primary and content knowledge—in this case building or modular
ZETA Communities: E404B p. 5

construction—was secondary. With that guiding principle, they looked to one of the premier
manufacturing companies in the world; in January 2009, they hired one of Dell’s senior
manufacturing managers to help lead their fabrication process.

Their second hire in early 2009 was a general contractor with extensive experience in the
commercial building industry. His main task would be to help ZETA develop the processes for
constructing multifamily buildings in modular form, in addition to site preparation and final
installation. Finally, they hired Andrew Silverman, a veteran of the commercial and residential
development world to help them build their pipeline and expand their current business
development efforts.

Within six months of hiring these key team members, the co-founders realized that two of their
initial bets had been wrong. Their new in-house general contractor, while deeply
knowledgeable, could not seem to move away from the processes embedded in the conventional
on-site construction model. Rather than innovating new and better ways of operating, he was
integrating many of the practices ZETA sought to avoid into the company’s evolving workflow.
Realizing quickly that they would need to bring on a more innovative entrepreneurial and out-of-
the-box thinker into this role, Porat and Sankaran began to search for a replacement, confirming
for themselves how vital it would be for each and every employee to embody the spirit of
innovation so critical to their success.

The co-founders’ second realization was that ZETA was, in fact, years away from the
manufacturing sophistication of a Dell-like system. Marc Porat’s thesis that ―buildings are
similar to big servers‖ was too advanced for the start-up phase when structural innovations and
building process were the most essential issues. Rather, having previously dismissed the
modular industry as too stagnant in its thinking, they realized that they in fact needed experts
from that field to help them establish their manufacturing operations. Porat and Sankaran
interviewed modular builders across the country, with the goal of finding the rare candidate who
deeply understood the industry’s flaws from experience and could identify the vast opportunities
for improvement and innovation. After multiple interviews, they found Karl Tarango, an
industry veteran who had started his career in commercial construction and spent the previous 13
years working for Champion Homes, one of the largest modular home manufacturers in the
country. Tarango oversaw Champion’s facility outside Denver, which manufactured 1,500 floors
annually, representing $40 million in revenue. Tarango recalled being drawn to the ZETA team
in large part because of the company’s fundamental values: ―…green, clean, low cost and
energy efficient, no price penalty [for green] and completely out of the box thinking. Yes, we
manufacture but we’re not a manufacturer. This is a vision, a culture, and a set of standards.‖

Architects and Engineers

Though the management team was beginning to bring some key functions in-house, contracted
consultants (e.g. architects, engineers, building scientists) had accommodated ZETA’s lean
budget well. However, while financially beneficial, Porat and Sankaran soon realized that their
dependence on consultants obstructed the company’s ability to truly control the end-to-end
construction process. In contrast, it actually replicated the pitfalls of the conventional model in
many ways. Consultants, for example, were paid a fee regardless of whether the project itself
ZETA Communities: E404B p. 6

stayed within budget or schedule. Porat recalled, ―ZETA wasn’t driving the process the way we
should have...and to achieve efficient, repetitive lean manufacturing, we needed to drive the
process.‖

In order to keep pace with their aggressive project milestones, they would need to keep the
model in place for the near-term. However, they knew that in order to achieve the process
control and quality outcomes so core to the company’s mission, they would have to devise a
change in either their personnel structure, business process, or both, to shift the locus of control
back to the company.

FROM PROTOTYPE TO PRODUCTION

With capital and a growing team in place, ZETA began the challenging work of building their
very first project. Though their target product would be a multistory, multifamily building, the
need to stretch their resources out for as long as possible dictated a more practical, lower-cost
first prototype. The result was a two-story, live/work townhome located in Oakland, California
near public transportation and built on a lot owned by the construction manager with whom
ZETA formed a partnership to purchase the land. The actual building fabrication took place in a
30,000 square foot warehouse, dubbed ―zLab‖, in San Leandro, where over the course of six
months the team transformed their elaborate model into a physical building. According to
Sankaran, the process of building this first project was a careful work in progress.

We took our time developing it so the end product would be of the quality and
performance we wanted. It was our opportunity to get our processes in order—
which are still evolving—and to bring the team together to define the design,
pricing, get our R&D facility up and running, work with suppliers and iterate on
our energy model.

By June 2009, ZETA’s first completed building—a 1,540 square foot two-story
townhouse—was ready for public display.

Nine months after securing their Series A financing, ZETA achieved its first major milestone:
they had successfully designed, built and installed a net zero energy residence using a crane to
place the townhouse into the zero lot line site. Among some of the building’s standout features
included: a thermal storage conditioned basement; cost-effective, high impact mechanical and
electrical systems such as a high efficiency heat pump, air-to-air heat exchanger, and a
wastewater heat recovery system which utilized the heat from shower water to pre-heat cold
water; and a heat recovery ventilator which effectively captured heat from the air for more
efficient heating and cooling. The building utilized Serious Materials windows (R-7) and high-
performance insulation to create an ultra-efficient building envelope and maximized energy
efficiency through passive solar design2, Energy Star appliances and LED and compact

2
Passive solar design optimizes the building design to provide maximum exposure to the sun’s heat and light during
winter months and to minimize exposure during summer months, reducing cooling and lighting demands. Examples
of passive solar design strategies include proper building orientation, the use of skylights or clerestory windows
(high windows, placed above eye level), south-facing windows to provide natural daylight and heat in winter, and
window and/or roof overhangs to provide shade in summer.
ZETA Communities: E404B p. 7

fluorescent lighting. Combined with a 5.2-kilowatt photovoltaic system, the building achieved
the goal of net zero energy (and ultimately outperformed the DOE energy model to be a net
energy generator). Additionally, the building included water conserving fixtures, finishes made
from recycled and renewable resources, Forest Stewardship Council-certified wood3, the use of
low-toxicity paints and adhesives and drought-tolerant landscaping (see Exhibit 4 for a detailed
list of features and Exhibit 5 for photographs). The offsite construction enabled approximately
50 percent less waste and 70 percent fewer CO2 emissions (from transportation) than a
conventionally-built product. Combined, the project’s environmental attributes earned it the
U.S. Green Building Council’s highest LEED certification rating of Platinum and kept an
estimated nine tons of CO2 out of the atmosphere every year.

ZETA scheduled numerous open houses of the NZE live/work townhome, including an event
coincident with a large industry conference hosted by the Urban Land Institute (ULI) in San
Francisco. Over the course of six months, more than 700 architects, engineers, contractors,
developers, and state and city officials subsequently toured what was now known as the
Lancaster Townhome and the event was covered in more than 100 trade and mainstream
publications with headlines such as ―Standard Bearers: Raising the Bar‖.4 The project was the
culmination of the company’s vision to deliver an entirely new kind of product to the
marketplace and won four national awards (AIA, GreenBuilder, Pacific Coast Builders
Conference, SF Business Times) right out of the gate. From all accounts, the feedback they
received indicated that the market was indeed ready for what they had to offer.

Z-FAB

In September of 2009, ZETA announced a second major milestone: they had just closed on the
purchase of a 91,000 square foot factory they dubbed ―z-Fab‖ on the McClellan air force base in
Sacramento. The facility had previously operated as a conventional modular housing factory that
had since shut down as a consequence of the severely depressed housing market. ZETA was not
only able to acquire the building but also the equipment at a relatively discounted price and they
hoped to provide jobs to at least a subset of the laid off workers as their operations ramped up.

The z-Fab production facility comprised 21 stations between which the fabricated building
moved in two-hour intervals for wall framing, window installation, roof assembly, etc., until its
ultimate transfer to a flatbed truck. Throughout the process and in keeping with their mission,
ZETA established manufacturing practices that emulated the environmentally-sound nature of
their products. They strove to generate zero waste from operations by remixing and reusing
paint for future projects and by sorting their waste into separate debris piles (e.g. wood, metal,
glass, plastic) for efficient offsite recycling. In collaboration with BSC, their own engineers and
Tarango’s team, their procurement criteria ensured their materials met both their performance
and cost specifications, a process which required a significant time investment but which was
key to achieving a green product at an affordable price. The factory additionally included an
active research and development lab onsite so that new materials, design features and
configurations could immediately be tested on the factory floor.
3
The Forest Stewardship Council (FSC) oversaw the supply chain for sustainably grown and harvested wood and
was widely recognized as the gold standard for sustainable forestry certification.
4
See article at http://viewer.zmags.com/publication/277aa969#/277aa969/25, pp. 21-26.
ZETA Communities: E404B p. 8

ZETA’s residential units and school buildings typically comprised two to three floors, and
measured 1,500 to 2,000 square feet on average, with the largest modules measuring 16 feet wide
by 65 feet long.5 The factory could accommodate 200 workers at full capacity which, by
Tarango’s estimation, would produce 900 floors per year and approximately $50 million in
annual revenue.

ZETA’s first z-Fab project was a native plant and seed laboratory for the Presidio Trust
Sustainability Center in Golden Gate National Park. Like the Lancaster Townhome, the building
was an even further departure from ZETA’s targeted multifamily, multistory product niche.
However, by the summer of 2009, it was clear that the housing market was continuing to decline
and many of the projects that had previously lined ZETA’s pipeline had not materialized as a
result. Naomi Porat was therefore intrigued when, over the course of lunch with Catherine
Barner, one of her former clients who worked as a project manager for the Golden Gate National
Parks Conservancy, the idea of building a ZETA structure for a new Presidio project arose. A
former army post with national park status, San Francisco’s Presidio included almost 1,500 acres
of beautiful wooded grounds and historic buildings as well as an extensive entitlement process.

Porat and Barner thus devised a plan to bring at least ZETA’s portion of the work to market
months sooner than dictated by the standard Park and Presidio project approval schedule. The
lab was fabricated in four weeks so that it would be ready for display at the October ULI expo in
San Francisco (the very same conference that had drawn people to tour the already-installed
Lancaster project). Though the Presidio project clearly lay beyond ZETA’s residential focus, it
provided an exciting opportunity for the company to demonstrate the commercial applications of
its product with a logical partner who shared its environmental values. Additionally, it raised
ZETA’s visibility in the marketplace by showcasing yet another successful demonstration of the
speed, quality and environmental performance with which ZETA could deliver its product.

With its first two projects complete and a new factory up and running, the company was ramped
up for full-time production. However, the multifamily housing pipeline remained essentially at a
standstill in late 2009. In response, Porat and Sankaran began to explore other sectors for which
ZETA’s product might be a fit, looking first to the classroom market as a potential target.
Applying the same rigor to evaluating this new market as they had to housing, they gathered
extensive data on the size and growth of the modular classroom market, the age of the inventory
and the approval and regulatory process around classroom design. At the same time, they signed
on for a single family home project in El Cerrito, California as well as a duplex in Half Moon
Bay. Though these two projects did not fall squarely in their sweet spot, they brought in
welcome revenue and allowed ZETA to keep the factory running.

Ultimately, the co-founders’ due diligence on the classroom market paid off when they were
contacted by Sustainable Education Environments Delivered (SEED), an architectural firm that
had designed a Waldorf School in Davis, California. After working unsuccessfully with another
modular builder on the school project, SEED contracted with ZETA based on the merit of its
product, manufacturing facility and successful, albeit brief, track record. The Davis Waldorf
5
The width was dictated by the requirement that any truckload wider than 16 feet required a California Highway
Patrol escort.
ZETA Communities: E404B p. 9

School was built in four weeks and installed in the summer of 2010, the first of three classroom
projects for which ZETA would sign contracts in that year.

Though the company maintained a healthy pipeline of projects throughout 2010, the factory
continued to operate at far below maximum capacity, employing 12 to 15 workers on most days.
These workers were contracted through a temporary employment company that would allow
ZETA to adjust its workforce based on its project load. The flexible staffing model allowed
Tarango to achieve nine months of continuous production that year, avoiding the intensive
resource investment required every time the factory had to ramp back up from a total work
stoppage. While the value of continuous, if slowed, production was clear, the management team
faced the constant need to balance these operational tactics against investors’ desires to see
rapidly increasing revenues and product deliveries (see Exhibit 6 for ZETA’s existing and
planned project portfolio).

INTELLECTUAL PROPERTY

In the process of designing a product which was among the first in the emerging ―green prefab‖
space, ZETA’s top architects and engineers developed a number of key technologies and
processes that would form the basis for ZETA’s intellectual property platform. One of the most
significant of these was z-Therm, the ―brains‖ behind ZETA’s heating and electrical systems. z-
Therm was an energy monitoring and control system that was developed in partnership with BSC
and was installed in the company’s first Oakland prototype. The proprietary system tied into the
building’s mechanical and electrical controls to optimize the indoor temperature and humidity
and allow the building occupants, a young professional couple who ultimately bought the
townhome, to monitor and adjust their energy usage via an online interface. There were
numerous advantages to the system, however, its development had also proven to be one of the
most complex and time-consuming of any single technology which ZETA had created (see
Exhibit 7 for a list of ZETA’s patent applications).

While ZETA was keenly focused on developing new technologies and methods, it was the VC
community at large which pushed the focus on intellectual property (IP) as a legacy of its work
in the software and biotechnology sectors. With future funding rounds in mind, Porat knew that
the company’s intellectual property would continue to be an important element of its overall
business model, though she and the rest of the team would need to be diligent about balancing
the time spent developing new technologies with building and perfecting their core product.

A related, but equally important, issue associated with ZETA’s intellectual property platform
emerged as the company diversified into areas beyond the residential market. Increasingly, they
found themselves working with outside architects contracted by the project developer or owner.
This was especially the case for schools, where the Division of the State Architect (DSA) in
California approved all designs not previously validated through the rigorous Pre-Check
Approval permitting process. In the case of the Davis Waldorf School, for example, ZETA’s in-
house architect partnered with the architect from SEED to ―ZETA-ize‖ the design such that it
could be fabricated in the factory as a modular building. Looking ahead, the company’s senior
management knew they would need to devise a strategy to ensure that they retained as much
intellectual property in-house as possible while not closing the doors on partnerships which
would enable future business.
ZETA Communities: E404B p. 10

CULTURE CLASH

ZETA’s unique approach to solving some of the construction industry’s most deeply rooted
shortcomings brought its own unique set of challenges. Not unlike the conventional construction
industry, ZETA’s team of employees and consultants, from the in-house architect to the
electrician in the factory, came to the table with different perspectives and experiences based on
their functional area of expertise. However, in ZETA’s case, they all worked under the same
theoretical roof and the company’s success was dependent largely on their ability to seamlessly
interact with one another. In addition to their functional differences, these people came from the
vastly different worlds of either modular or site-built construction, creating yet another layer of
divergent perspectives. As an example, design and construction for a site-built project typically
took place in fairly sequential steps that occurred over a period of months and years with the
design changing fluidly throughout. In contrast, modular construction required an upfront design
―lock‖—all design elements needed to be finalized once fabrication began due to the rapid and
often concurrent nature of factory construction. These conflicting approaches contributed to the
―culture clash‖ which manifested itself in different communication techniques, processes,
methods and mindsets between the site-built and offsite construction worlds.

Though they could not have anticipated the breadth of the challenge they would face, both Porat
and Sankaran knew that a firm mission and a strong culture would serve as an anchor to unify
employees to a common goal. As Porat described:

The culture of the company is really critical to the strength of the company. And
the culture of the company is one of integrating those two industries [modular and
conventional construction] which never has been done. And with it comes a great
deal of teaching, learning, collaboration and respect for the other disciplines. I
think we’re in one of the most highly multi-disciplinary companies that I’ve ever
seen. There is a lot of mind shifting and that requires new ways of working.

Defining that culture did not occur by happenstance. Sankaran explained:

We made a decision early on that culture was going to be part of our competitive
advantage, instead of just being a byproduct of something you do in order to keep
people happy. It actually is an effort. There is a resource allocation you have to
make to maintain the company culture. It doesn’t just happen by mistake. But we
see the benefits through and through.

Beginning with a set of core values that showed up in everything from monthly staff meetings to
performance reviews, carrying through to ―lunch and learn‖ sessions and ongoing team building
activities, ZETA prioritized its company culture up alongside energy efficiency and cost
effectiveness (see Exhibit 8 for ZETA’s core values). Though the challenges were certainly far
from resolved, they had established a foundation to which employees gravitated and which they
hoped would ultimately prove to be a competitive advantage into the future.
ZETA Communities: E404B p. 11

COMPETITIVE LANDSCAPE

ZETA’s pioneering role in creating mainstream green prefabricated residential housing and
educational facilities meant that there were few head-to-head competitors in the market.
However, within the broader scope of conventional onsite and modular residential and
commercial builders (including schools), the playing field was vast, and largely fragmented. The
ten largest conventional builders represented only 28 percent of total market share and the ten
largest modular builders represented 54 percent of market share (see Exhibit 9).

In the residential space, ZETA faced thousands of home builders across the country, many of
which were fiercely vying for projects in the dried up market and which had the scale to deliver
projects at highly competitive prices. Pulte Homes/Centex and D.R. Horton led the conventional
home building market with a nationwide presence and $4.5 billion and $4.4 billion in 2010
revenues, respectively.6 Like most production builders, these companies were best-known for
their sprawling subdivisions in suburban areas, but were expanding into the urban infill market
and had started touting green building practices of their own. Pulte, for example, had recently
announced a collaboration with the Residential Energy Services Network (RESNET), a well-
known independent authority on home energy performance, to provide home energy efficiency
labels to help consumers compare energy savings across homes. Practices like this had led Pulte
to be ranked second in a 2010 study evaluating the green building practices of the country’s ten
largest homebuilders based on energy use, building material use, water use and land
use/conservation.7

Though many of the conventional home builders had the scale to achieve very low prices, Porat
described ZETA’s competitive advantages as follows:

We were finding that we were about 15 percent lower priced [than our
competitors] in urban core markets. Part of that differentiation was that any
project that had public financing (city, state or federal) would require prevailing
wages (i.e. union wages required for publicly financed work). Offsite
construction is exempt from prevailing wages, so that would give us an immediate
15 to 20 percent discount. But in addition to that, labor hours were just less.

In addition, developers could quantify savings in lower interest payments on their debt associated
with the almost fifty percent faster construction time of ZETA’s projects (see Exhibit 10 for a
comparison of ZETA’s cost structure compared to conventional developers). Finally, when
competing against many of the traditional site-built construction companies, ZETA could
demonstrate the superior energy performance of its buildings as well as tout the unique quality
control implicit in factory construction.

Among residential modular builders, several of the nation’s largest were also beginning to
recognize the merits of incorporating select ―green‖ features into their design (though most had

6
As an indication of the state of the housing market in 2010, Pulte and D.R. Horton’s revenues were down 68
percent and 70 percent from 2006, respectively. Numbers are taken from each company’s 2010 annual report.
7
―Pulte Homes Ranked as Top Homebuilder in Green Building Study‖, December 13, 2010, http://phx.corporate-
ir.net/phoenix.zhtml?c=147717&p=irol-newsArticle&ID=1506974&highlight= (February 28. 2011).
ZETA Communities: E404B p. 12

not yet achieved LEED certification). Many of these builders had been in business for 30 to 40
years and as such, had refined their manufacturing and procurement processes to the point where
they could offer homes at or below $100 per square foot (not including land, installation or
transportation), while higher end, luxury modular homes were marked up to $150 per square
foot. Palm Harbor, Clayton Home and Champion Homes were just a few of the larger builders
in the space, with smaller players such as Silvercrest Homes having established a dominant west
coast presence.

Founded in 1973, Silvercrest built between 200 to 300 homes every year at a price of $70-$100
per square foot (not including transportation, installation or site preparation costs). Silvercrest’s
homes could be found in subdivisions throughout California and the Pacific Northwest, and
included primarily single family and townhome products. Given the pricing of players like
Silvercrest and Palm Harbor, it was clear to the team that ZETA’s pricing would only be
competitive in select markets, namely dense, urban settings where they were not up against $50
to $70 per square foot costs. Though they were continuously working to improve their processes
in order to drive down their costs, every project was a new opportunity to achieve improved
efficiencies and get closer to the goal of offering a high performing, environmentally-friendly
building at price parity with conventional products on the market.

A much smaller, but still highly visible, group of players in the modular space included design
firms which produced higher-end, energy efficient prefabricated buildings. Living Homes,
located in Southern California, designed the very first prefabricated LEED Platinum house in
California, though their business continued to focus primarily on the custom, single family home
market. Other groups such as Blu Homes, Eco Offsite and Irontown Homes also targeted the
residential market and though not as comprehensive a solution as ZETA, offered an alternative
solution for developers interested in green prefabricated products.

As ZETA began to expand beyond the residential space, it took on competitors playing in the
new markets they entered. The classroom market, in particular, comprised a more populated set
of companies that were in many ways at the forefront of delivering green, fabricated products,
due in large part to the high demand for temporary, portable classrooms, particularly in
California. In 2009, American Modular Systems, a national modular building company that
manufactured commercial and institutional modular buildings, developed a green classroom
product, Gen7. Gen 7 was the first modular classroom to receive the California High
Performance Schools (CHPS) stamp of approval for new school construction. Other players
such as Meehleis, Enviroplex and William Scotsman had been in the modular building space for
over a decade and had just recently begun to adapt their classroom products to a more
environmentally-friendly design. Saramark, focused exclusively on the school market, had
successfully built over 500 classrooms in California using a slightly different approach of pre-
engineered steel frame systems assembled onsite. Finally, Project Frog, founded in 2006, and
backed since late 2008 by New England’s Rockport Capital Partners, had made inroads with the
schools market using state of the art energy efficient and green materials ―kits‖ for advanced
modular buildings. Like ZETA, Project Frog had broadened its focus, first delivering
exclusively to the educational market and more recently expanding to the light commercial
sector (see Exhibit 11 for a graph depicting the competitive landscape).
ZETA Communities: E404B p. 13

CONCLUSION

By spring of 2011, ZETA’s efforts to expand its scope was beginning to pay off; they had
booked and scheduled 100 percent of their 2011 projected revenue. These projects included
energy efficient public school buildings, a net zero energy recycling center administration
building, four-story multifamily efficiency condos in San Francisco and a 22-unit affordable
housing project in Stockton, California that would likely be the first net zero energy affordable
housing community in the country. However, with the factory slowly ramping up, yet still
operating below maximum capacity, and investors seeking indications of quarter-to-quarter
progress, the team’s hardest work lay ahead. ZETA’s most important milestone—the four-story
multifamily prototype—had been delayed for over a year due to financing and building
entitlements. Potential buyers still needed to really ―kick the tires‖ and see what had inspired
the co-founders to start the company in the first place. Additionally, Porat held onto her vision
that all the structures ZETA built should be little utilities that could meet their own energy needs
but recognized that market adoption of that vision may prove slower than the company’s
aspirations. However, perhaps most daunting were those factors that were out of their control.
The real estate market was taking far longer to rebound than anyone had anticipated and Porat
and her team hoped that they could continue to hold on and ride it out until things started to take
a turn for the better.
ZETA Communities: E404B p. 14

Exhibit 1
Co-Founders’ Biographies

Marc Porat – Chairman, Co-founder

Dr. Porat is internationally recognized for his pioneering work in the information and green
technology sectors. The Silicon Valley business leader and futurist has initiated and led a number
of notable ventures since 1983. Over the past six years, he has created a group of companies to
help mitigate global warming and achieve a net zero energy, low-carbon global economy. Dr.
Porat is Chairman of Serious Materials, and Chairman and CEO of CalStar Cement, both clean
tech enterprises. Prior to focusing on the built environment, his work centered on information
technology.

Dr. Porat was a member of Apple Computer's Advanced Technology Group, Chairman & CEO
of General Magic (an Apple spin-out) and Perfect Commerce, and founder of Private Satellite
Network. In prior work, Dr. Porat was a senior economist at the U.S. Department of Commerce
and Director of the Program on Communication and Society for the Aspen Institute. Dr. Porat
earned a double Masters from Columbia University and earned a Ph.D. from Stanford
University.

Naomi Porat – CEO, Co-founder

As CEO and President of ZETA Communities, Naomi Porat directs the company's sustainability
priorities, high performance building and quality standards and vision for the proliferation of
affordable net zero energy buildings and communities. Naomi has contributed to setting a high
bar in the green building sector through ZETA's award-winning net zero energy projects and
lectures in numerous forums including Fortune Green Brainstorm, Urban Land Institute,
Stanford University Department of Engineering, West Coast Green and AIA.

Naomi is a national expert in sustainable real estate development and experienced executive
level manager of socially responsible business enterprises. Immediately after earning her BA at
Stanford, her work in battered women’s shelters led her pursue a Masters in City and Regional
Planning from UC Berkeley to better understand the interplay between employment and housing
and later earned her MBA from Yale University. She contributes twenty years of experience
with portfolio of projects across the U.S., focusing on large, mixed-use development; affordable
housing; university housing, hospitality projects, reuse of military bases; and other urban
revitalization projects including working as an advisor to the National Park Service on
sustainable development projects. She is an active member of the Urban Land Institute, having
served on a task force in south central Los Angeles during the 1990’s and was nominated to
Lambda Alpha, an Honorary Society for the Advancement of Land Economics, in 2011.

Shilpa Sankaran – Vice President, Marketing and Communications, Co-founder

As a private sector industry expert in scalable business models for energy efficient and net zero
energy buildings, the California Public Utilities Commission appointed Shilpa to their Zero Net
ZETA Communities: E404B p. 15

Energy Action Plan Champions group. Leading the "Path to Zero" campaign she will help to
drive the execution of the plan to help California meet its 2020 and 2030 NZE goals.

Prior to ZETA, Shilpa advised a range of organizations from start-ups to Fortune Global 1000
companies. As a management consultant, she worked with executive leadership, in a range of
industry sectors including real estate, finance, telecommunications, and retail, automotive and
health care. During her tenure at PriceWaterhouseCoopers and Sapient Corp., Shilpa provided
management consulting to General Motors, Wells Fargo Bank, AAA, Nike, Verizon Wireless,
and Blue Cross Blue Shield Association.

Source: Zeta Communities


ZETA Communities: E404B p. 16

Exhibit 2
ZETA’s Primary Market: Urban Infill/Multifamily

Source: ZETA Communities and Peter Calthorpe


ZETA Communities: E404B p. 17

Exhibit 3
Net Zero Energy Building Systems

Efficient Design

ZETA's efficient designs and technology innovations enable us to deliver at overall lower costs.
One of these innovations is our unique utility core. This prefabricated and engineered core
combines mechanical, plumbing, and electrical systems into a unit that easily connects the sites'
infrastructure systems during onsite installation. ZETA also applies efficient design techniques in
our space planning for maximum efficiencies.

Energy Efficient Building Envelope

The interface between the interior of the building and the outdoor environment, or the building
envelope, plays an important role in determining the amount of energy necessary to maintain a
comfortable indoor environment. ZETA's ultra-efficient building envelope design includes high
R-value insulation - R-30 roof, R-22 walls, R-5 exterior rigid foam, R-22 floor, and R-5 and R-7
Energy Star Rated windows - along with natural daylighting and ventilation.

Net Zero Energy Mechanical System

To provide thermal comfort, ensure high indoor air quality, optimize ventilation, and reduce air
infiltration, ZETA designed its HVAC systems for high performance energy efficiency. ZETA's
mechanical system includes a high efficiency heat pump and air-to-air heat exchanger, which are
both controlled by the zTherm™ net zero energy controller system.

Clean Energy Source

ZETA captures and harvests clean energy through photovoltaic (PV) cells, which convert
sunlight to electricity. With a PV panel efficiency of 18%, ZETA uses some of the most efficient
solar energy systems commercially available. PV cells supply approximately 40% of the homes'
energy needs and prevent the release of more than 14 tons of CO2 greenhouse gas emissions
annually.

Net Zero Energy Controls

ZETA has developed a proprietary energy control and monitoring system called zTherm™-the
"brain" of the ZETA structure. This system optimizes energy performance of the whole house by
controlling mechanicals and using a sensor system to improve thermal comfort. Occupants can
monitor and adjust their energy usage using zTherm™ online controls and web interface.

Sustainable Materials

ZETA uses sustainable materials throughout its structures and provides several options for
customization according to design finish preferences. Our sustainable materials package includes
FSC certified lumber, low cement/high flyash concrete, recycled cellulose insulation, engineered
ZETA Communities: E404B p. 18

lumber, fiber cement siding and sustainable finishes, including locally produced ceramic tiles
and 100% recycled glass & cement composite countertops.

Mold & Moisture Prevention

ZETA has achieved the highest rating of indoor air quality from the EPA's Indoor airPLUS
program. With the assistance of the Department of Energy's Building America team, ZETA has
implemented mold and moisture prevention strategies such as mold resistant and dry lumber,
GreenGuard-certified insulation board, and commercial flashing techniques.

Wastewater Heat Recovery System

Any hot water that goes down the drain carries away energy with it. That's typically 80%-90% of
the energy used to heat water in a home. Drain-water (or greywater) heat recovery systems
capture this energy to preheat cold water entering the water heater or going to other water
fixtures. Using a wastewater heat recovery system, ZETA buildings capture this energy by
preheating cold water with wastewater from showers, sinks, dishwashers, etc.

Source: ZETA Communities


ZETA Communities: E404B p. 19

Exhibit 4
Lancaster Townhome Unit Features

Zero Energy System: High Indoor Air Quality


 Passive solar design  Whole-house integrated fresh air system
 zTherm: automated energy controller  MERV 13 filters
 Thermal storage conditioned basement  Natural ventilation and natural lighting
 Ultra-efficient envelope: R-39 roof, R-25  Low VOC finishes included Green Seal
walls, R-5 rigid foam, R-22 floor, Serious certified 0% VOC paint (interior and
Materials windows exterior)
 Air-to-air heat exchanger  No added formaldehyde
 High efficiency heat pump  Sound attenuation
 Heat recovery ventilator  Mold and moisture prevention strategies
 Wastewater heat recovery system o Rain screen siding system
 High efficiency lighting – LED and CFL o Mold resistant and dry lumber
 EnergyStarTM appliances o GreenGuar-certified insulation
 100% photovoltaic power board – Mold Resistant, R-.5/in
 Rigid insulation wrapped building system o Commercial flashing techniques
 High performance cellulose and spray foam  Hardwood and flyash/low-cement concrete
insulation floors
 ―Free‖ cooling system  Garage Exhaust Fan
 Testing performed by DOE Building
America (Building Science Corporation) Resource Conservation
and National Renewable Energy Labs  FSC-certified lumber
(NREL)  Resource efficient framing
 Low cement, high flyash concrete (25%
flyash foundation)
 Recycled cellulose insulation
 Engineered lumber
 Sustainable finishes including locally
produced artisan ceramic tiles, 100%
recycled glass and cement composite
countertops, locally fabricated casework
and salvageable and recycled materials
 Fiber cement siding
 Low flow plumbing fixtures
 Drought resistant landscaping
 Waste diversion and recycling

Source: ZETA Communities


ZETA Communities: E404B p. 20

Exhibit 5
Lancaster Live/Work Townhome
ZETA Communities: E404B p. 21

Exhibit 5 (continued)
Lancaster Live/Work Townhome
ZETA Communities: E404B p. 22

Exhibit 6
Existing Portfolio and Future Pipeline

2010 Square
Completed Location Type Buildings Modules Feet
Lancaster Live/Work
Townhome Oakland Single Family 1 4 1,800
Presidio Plant and
Seed Lab San Francisco Commercial 1 2 961
Davis Waldorf
School Davis Education 3 8 4,000
Bay Home El Cerrito Single Family 1 4 1,800
Half Moon
Poplar Duplex Bay Multifamily 2 4 2,279
Shakespeare Festival
Building Berkeley Commercial 1 1 500

2010 Total 11 18 13,695

2011
Under Buildings
Construction/ / Square
Booked Location Type Units Modules Feet
Tierra del Sol Stockton Multifamily 22 44 28,292
Live Oak Child
Development Center Santa Cruz Education 1 5 2,400
Tierra Pacifica K-8
Charter School Santa Cruz Education 1 2 960
Classroom Sacramento Education 2 10 3,840
El Cerrito Recycling
Center El Cerrito Commercial 1 3 1,800
Classroom Sacramento Education 2 10 3,840
SmartSpace San Francisco Multifamily 23 16 11,500
Redwood
Private City Single Family 1 6 2,500
Private Utah Multifamily 1 8 3,000
Native American
Commercial Utah Commercial 1 5 2,500
Private Palo Alto Mixed Use 2 4 tbd

2011 Total 52 116


Source: ZETA Communities
ZETA Communities: E404B p. 23

Exhibit 7
ZETA’s Pending Patents

Source: ZETA Communities


ZETA Communities: E404B p. 24

Exhibit 8
ZETA’s Culture and Core Values

Source: ZETA Communities


ZETA Communities: E404B p. 25

Exhibit 9
Conventional Home Building Market
2009 Market Share (Revenue, $ billions)

Modular Home Building Market


Market Share (by Revenue)

Source: HousingZone.com 2009 Annual Report Giants


ZETA Communities: E404B p. 26

Exhibit 10
ZETA vs. Conventional Construction Cost Structure

Source: ZETA Communities


ZETA Communities: E404B p. 27

Exhibit 11
Competitive Landscape

Note: Vertical Axis is selling price in dollars per square foot.

Source: ZETA Communities