Next-gen space and defense startups enter a new funding orbit

Key Concepts

• Deep Tech: Technologies that aim for fundamental societal change, requiring significant upfront investment and a longer-term perspective than traditional commercial startups.
• First-Generation Space Startups: Pioneers like SpaceX, Rocket Lab, and Planet Lab that established new models in the space industry.
• Second-Generation Space Startups: Newer companies building on the successes and lessons learned from the first generation, often focusing on niche markets or innovative technologies.
• Public-Private Partnership (PPP): Collaboration between government entities and private companies to fund and develop new technologies or industries.
• Breakthrough Technologies: Innovations that offer significant cost reductions or novel solutions compared to existing offerings.
• Technological Autonomy: The ability of a nation to develop and control its own advanced technologies, reducing reliance on other countries.
• Carbon Composites: Lightweight and strong materials, often used in aerospace, with ongoing research into improving their cost, rigidity, and recyclability.
• Plastic: A type of material being developed for easier manipulation and mass production of space components.

Space Defense Funding: A New Era of Public-Private Partnerships

This episode of Tech Latest from Nikkei Asia, hosted by Katie Krel and featuring Mitsuru Obe, delves into the evolving landscape of space defense funding, particularly focusing on the rise of second-generation space startups and the crucial role of government investment.

The Generational Shift in Space Startups

The discussion highlights a clear generational shift in the space startup ecosystem, not just in Japan but globally.

• First Generation: Companies like SpaceX, Rocket Lab, and Planet Lab in the US, and ICEYE and Spire in Europe, have paved the way. These pioneers have already gone public, serving as role models for the next wave.
• Second Generation: Emerging companies are building upon this foundation. In Japan, examples include Archage (involved in lunar and terrestrial navigation, manufacturing and operating small satellites), Elevation Space (focusing on in-space production, manufacturing, and experiments), and Warp Space (developing light-based communication in space). In Europe, companies like Exploration Company, Isar Aerospace (both German launch companies), and Aurora Tech (a satellite constellation company for wildfire monitoring) represent this new wave.

Evolving Market and Financing Models

The key differentiator for second-generation startups lies in the changed market and business environment. Investors have learned from the successes and failures of the first generation, influencing business and financing models.

• Deep Tech Focus: These startups are often pursuing "deep tech" – technologies aimed at fundamental societal change, which inherently require substantial upfront investment and a longer return horizon. This contrasts with short-term return-focused commercial or e-retail startups.
• Investor Expectations: In Japan, changes in capital markets mean investors have a greater voice. They are seeking "investable companies" with ambitious visions but also a degree of risk mitigation. This includes institutional investors like life insurance companies, pension funds, asset managers, and even retail investors, who want to participate without excessive risk.

Government as a Catalyst: The Rise of Public-Private Partnerships

A significant trend is the increasing involvement of governments in funding these space startups. However, this involvement is evolving from direct control to a more catalytic role.

• Government's Evolved Role: Governments recognize they cannot single-handedly create entities like SpaceX. Their role is shifting towards harnessing market forces and private sector ingenuity through public-private partnerships (PPPs).
• Country-Specific Models: The "right mix" of PPP varies by country:
  • United States: Venture capital still dominates, accounting for approximately 80% of funding.
  • Europe: Governments are acting as venture capitalists, with examples like BPI France and Bayern Capital of Germany.
  • China: Local governments play a substantial role in capital supply, responding to central government directives on industry development.
  • Japan: The "Space Strategy Fund" managed by JAXA (Japan Aerospace Exploration Agency) is a key initiative. It allocates 1 trillion yen over 10 years, with a third dispersed last year and another third expected this year. Most funded projects are anticipated to be completed around 2030. Investment decisions are made by external experts, not government officials, indicating a more mixed approach.

Drivers for Government Intervention: National Security and Technological Autonomy

The Ukraine war has been a pivotal factor in governments prioritizing national security and stepping in as backers for space and defense startups.

• Heightened National Security Concerns: The Russian invasion of Ukraine has underscored the importance of space capabilities for national security. Countries are increasingly aware of threats from drones and the need for robust defense systems.
• Geopolitical Proximity: The sense of urgency varies based on proximity to potential adversaries like Russia and China. Germany, being closer to Ukraine, exhibits a stronger sense of urgency than Spain. Japan faces similar concerns with Russia, North Korea, and China.
• US Security Commitment Uncertainty: The potential for shifts in US security commitments under administrations like Donald Trump's has prompted allies in Europe and Japan to pursue greater technological autonomy and independence.
• Startup's Role in Ukraine: The critical roles played by startups like Starlink and Maxar's Hawkeye 360 in the Ukraine war have demonstrated their value, which traditional legacy defense companies may not be able to replicate. This has increased government willingness to invest in startups.

Private Capital's Cautious Approach

Despite government backing, private capital has adopted a more cautious stance towards space and defense investing.

• Risk and Return Balance: Venture capitalists manage other people's money and cannot afford undue risk. They prioritize a balance between risk and return, with safe returns being a minimum requirement.
• Performance of Public Space Startups: According to Simon Potter of Bryce, a US space consultancy, the performance of space startups as public companies has not differed significantly from other venture investments, even with substantial government support. Failures are common, leading to investor caution.
• AI's Dominance: The current surge in investment and interest in AI companies may also be drawing attention away from other sectors, making it challenging for non-AI space startups to attract capital. However, space and defense are seen as potential pillars for venture investment alongside AI.

Benefits of Government Backing for Startups

Government support offers distinct advantages to startups that private capital may not provide.

• Credibility and Access to Finance: For smaller companies, government backing, such as partnerships with JAXA, lends significant credibility. This recognition by a national space agency makes it easier for banks to provide loans.
• Focus on Long-Term Growth: Public funding allows startups to focus on scaling their businesses and improving technologies, rather than solely on immediate customer acquisition and short-term profits. This aligns with the longer time horizons required for deep tech development.

Focus Areas for Government Investment: Breakthrough Technologies and Innovation

Governments, particularly in Japan, are not investing indiscriminately but are focusing on specific criteria.

• Breakthrough Technologies: The primary focus is on technologies that offer significant cost reductions or novel solutions. While services like global navigation and satellite communication exist, they are often expensive. Startups are valued for their ability to develop rapid, low-cost services.
• Innovation and Commercial Viability: Governments seek companies that are not just replicating existing successes but are creating commercially viable products and services with global market potential. This requires offering something new, not just copying competitors.
• Example: Maruhachi's Carbon Composite Development: Maruhachi, a company evolving from textile trading to composite manufacturing, is developing a new type of "plastic" carbon composite with JAXA. This material is easier to manipulate and glue than traditional carbon fiber, making it suitable for mass production of satellites and rockets. This addresses the cost, rigidity, recyclability, and assembly time issues associated with current composites used in aircraft like the Boeing 787 and Airbus 350.
• Example: Archage's Water Resource Monitoring: Archage is developing technology to monitor water resource movement from rainfall in the Andes through the Amazon to the plains. This capability, providing two months' advance notice of water availability, can significantly aid farmers in preparation.

Conclusion: A New Frontier for Venture Investment

The episode concludes by emphasizing that while the internet previously drove venture business development, space and defense, alongside AI, are now leading the charge. This evolving sector warrants close observation for its potential to drive future innovation and economic growth.