In the last three or four years, the number of top-tier investment firms looking at “deep tech,” National Security and dual-use startups has nearly tripled.
This isn’t what anyone could have predicted 20 years ago. When I began working with Northrup Grumman as an engineer around that time, the government’s way of managing its programs was frustrating and labor intensive. Now, we’ve gone from innovators having to ask permission of the government for even the most minute technological changes that could take months or years to approve, to a culture with systems in place that usher in ideas, ingenuity, and solutions at speed.
How did we get here? Recently, I discussed how the DoD is enabling startups with Ian Vorbach, a rocket propulsion engineer, startup founder, and angel investor who writes about startups in the space industry. You can find the full content of our conversation here.
Investors notice dual-use companies
One thing Ian and I agreed on is that a whole class of investors are starting to realize that commercial technology has the potential to make a difference in national security. They’re finding possibilities in commercial entities that may or may not already be government contractors.
It’s worth noting that the spectrum of “dual-use”is quite broad. Whether they have just provided their first solution to the DoD or have almost completely served government contracts, because they are dual-use, these startups can withstand the sometimes crippling challenges of working with the government, with its slow, unpredictable, multi-year sales cycles.
Because they have commercial support, dual-use companies are less of an investment risk. It’s for that reason, we typically recommend that startups first discover a commercial market, then learn how to tap into and adapt their technology to the defense market.
Investor interest in dual-use options has coincided with some hard supply chain lessons that arose from the Covid-19 pandemic. During the pandemic, the U.S. faced the reality that we had ceded our ability to manufacture overseas yet weren’t equipped or prepared to manufacture domestically at a critical time. The full picture began to emerge about how our supply chain was inextricably interwoven with external, sometimes adversarial forces, and that felt risky. As a result, investors are increasingly interested in existing U.S. and allied companies with technologies that can meet our existing and emerging needs.
Pathways for success
The landscape is also changing for maturing capabilities.
While the Small Business Innovation Research (SBIR) program has historically been a way for government agencies to mature innovative technology, these programs have struggled to see capabilities through full operational maturity. The problem is, they’re not designed or intended to transition everything. They exist to seed and generate options.
Structural changes are beginning to unfold, alleviating some of these hardships for entrepreneurs. In the NASA program in particular, they responded to feedback around the gap in time between completing a Phase I SBIR and starting a Phase II with a new process for their Ignite SBIR program that tightly aligns Phases I and II to avoid a long lull in funding. NASA learned that gaps sometimes cause startups to lose talent and made a correction. Still, while NASA and SpaceWERX look to play a role in funding innovation, they encourage companies to raise money via other channels if appropriate.
For AFWERX and the Air Force, in 2018 they initiated the STRATFI and TACFI programs, which provide larger dollar amounts to support companies getting beyond the prototyping stage. Phase I and Phase II traditional SBIR contracts with the DoD generally focus on research and development, then by the end of Phase II, you are expected to have a prototype. STRATFI and TACFI help with the next step: getting from prototype to a product that is fairly mature enough to then get adopted. Other agencies are also adopting their own versions of those programs.
Other organizations are looking at how to provide greater dollar amounts to companies that compete well and prove themselves. The Navy is targeting commercially available technology at a later Technology Readiness Level (TRL) of closer to 5, 6, or 7. They will pay for customer discovery in Phase I, and then in Phase II they pay for the adaptation of the technology to a DoD need. That adaptation dollar amount for the Phase II can actually vary depending on the system's needs.
NASA, similarly, is blazing its own path with three types of matching programs. In one case, if you are able to complete Phase II and start to show Letters of Intent or purchase orders, you can compete for dollar-to-dollar matching of any revenues and/or private funding. You can be eligible for up to $6 million of that matching.
Finally, the Department of Energy’s ARPA-E program offers a larger scaling opportunity, targeting the types of companies that require a tremendous amount of capital to scale up manufacturing, involving tens or hundreds of millions of dollars.
Advice for the journey
Despite all these significant strides in developing better pathways for innovators to gain a foothold, I shared with Ian my singular guiding philosophy for startups: They should think about their technology roadmap first, then determine the customers that can help bring that to fruition. If you're a technology startup and you’re developing products over time, understand your value chain and all the stakeholders therein. It’s important to keep your eye on the commercial market and Partner! Partner! Partner! to find sources of valuable information.
