Essential Approaches to Ushering in the New Era of Public-Private Technological Innovation
Peter Krow has has focused on investing in technology businesses for over 20 years and is currently the Managing Director of Direct Investments at a single family office. Prior to his current role, he was a Vice President with Vector Capital, a value investor in private and public technology businesses. Before Vector, Mr. Krow worked at Google in sales and operations and at Atalaya Capital Management, a special situations investment firm. He also worked at Alta Communications and started his career in the TMT investment banking group at JPMorgan.
Peter Krow
Member, CMP Advisory Board
Bio | LinkedIn
Chris Moran has been investing for 15 years in leading technology companies through corporate venture capital. He is responsible for leading corporate investments in small technology companies which support strategic business objectives. Prior to his roles in corporate venture capital, he served in a variety of increasingly responsible positions in his 32 years at Applied Materials, Inc.
”It’s worth examining which types of technology public-private efforts should prioritize, the unique approach each type requires, and their limitations.”
There is increasing acknowledgement that we need linkages between the Department of Defense and private capital markets to fund and onboard the most cutting-edge and impactful technologies. As China prioritizes the development of advanced technologies to gain global influence – including their explicit strategy of “military-civil fusion” — the urgency grows.
The U.S. government’s well-intended response has led to a proliferation of programs seeking to address this challenge, but they don’t necessarily recognize where these programs can work and where they cannot. Even with that awareness, we’ll still need to get on the same page with solving the highest priority issues.
History has shown us that fostering public-private collaborative innovation works. In early government and commercial joint initiatives that aimed to solve large-scale issues through long-term strategies, the Manhattan Project was born. The foundation of Silicon Valley sprouted from military technology research. And, more recently, we’ve seen the success of public-private collaboration in aerospace technology through organizations like SpaceX.
How can the DoD not only continue to reap the benefits of public-private partnership, but amplify them in the face of Chinese innovation? In two ways: by accessing the best, most efficiently sourced technologies that align with their needs; and by re-building bridges between themselves and private capital, solidifying partnerships with entrepreneurs and venture capital groups working on shared missions around U.S. security and safety.
“Technology” is a broad term, so it’s worth examining which types of technology public- private efforts should prioritize, the unique approach each type requires, and their limitations. There are three fronts of technological innovation on which the government should capitalize:
Commercial technology is devised in the interest of business, but often can have defense applications. These technologies currently focus on software (where capital efficient business models have attracted large amounts of venture funding), as well as hardware and electronics solutions. These types of solutions are generated at high volumes, to address large opportunities, which allow for capturing efficiencies in production driving down unit costs.
The Defense Innovation Unit (DIU) can play a vital role in transferring the use of commercial technology into the public sector by placing orders to these companies for products or services. Though these orders, of an often unproven technology, are typically small, the DIU order allows the start-up to work directly with a DoD customer to find product-market fit. More importantly, they have a footprint in innovation centers such as Silicon Valley, Austin, and Boston that help create linkages between the DoD and entrepreneurs. We should expand this program to align innovation growth in secondary and emerging technology markets. But, we also need to examine the methods they use for acquisition to see if they can be more aligned with the needs and methods of the private capital they seek. DIU still operates in a solicitation, select, and fund methodology; whereas the venture capital community tends to have a larger aperture for innovation and will fund opportunities that have the best chance of returning a multiple on their investment. Start-up companies often “pivot” from their original intent in order to maximize value creation. So, the clear challenge here is how can the government attract more private capital to problems it needs to solve? Or, can the government be more opportunistic in acquisitions to access great tech in quantity that was not in its plans?
Key limitations: We can’t use technology that our adversaries could end up controlling, and therefore need to source technology exclusively from credible companies (the Trusted Capital Marketplace is a strong example of this playbook). There’s also the broader issue of procurement; we need to ensure technologies are not over-specified so that the government can leverage it across the higher volumes produced for commercial applications, and provide cost-efficient access. Venture backed technologies are solutions looking for markets; whereas the government focuses on problems for which they need to find solutions. A greater openness to a solution not specified in RFPs will give the government greater access to commercial technologies and increase alignment with the Venture Capital community.
Dual-use technology is funded with the intention of having both commercial and defense applications. Pursuing this vein of technology can mean finding companies that may not have a large enough market for purely commercial applications, but adding the defense market would make development more viable. In-Q-Tel is one such (highly successful) model; it originated as a partnership with the CIA to advance dual-use technology in accordance with intelligence and defense needs. It has recently expanded to include some smaller initiatives with DoD. Additionally, the potential applications of these technologies can be broad. In harmony with the United States’ 2018 National Defense Strategy, we need to hone in on how the defense sector can specifically benefit from “large” innovations like AI, automation, and quantum computing, as well as large “potential” categories like biotech. Most importantly, we need to identify them early on to leverage both public and private use to increase viability. It would be a decades-long process for the DoD to re-create In-Q-Tel, so for now their best course of action is to start multiplying partnerships with entrepreneurs and VCs to learn from their successes — and failures.
Key limitations: The scale of In-Q-Tel’s model is small; they only invest $100M annually, which limits them to earliest stage companies.s. While it would be challenging for a government organization to scale up to meet these needs, the government must make it attractive for start-ups and commercial companies to work with the DoD. Since start-ups fail at a very high rate (>90% don’t return investor capital), the government can instead foster start-up attention by organizing markets, creating large opportunities, and working with solutions as presented, rather than focus on specific problems and needs.
Defense technology is developed for our military, and typically has additional commercial applications. Many of the most innovative technologies to come out of Silicon Valley have their origins in Defense tech, such as computers, silicon chips, the internet, RF communications, and more. However, there are some ways in which traditional private growth capital markets are not suited to support them, and even long- term investors (e.g. endowments, foundations, family offices) focus on returns within a timeframe (e.g. ten years) that is generally not compatible with military innovations. Some defense technology projects are necessarily longer-term focused, so the two approaches are at odds.
To open up the potential of defense technologies in dual-use markets, we need to recognize which companies will not find outside venture funding and would be open to DoD funding. It is critical for the DoD to fund technology, using VC methods, where traditional VC have no interest in. These areas, such as hyper-sonics, directed energy, and missile defense have little to no VC traction. The unknown size of the market, unclear product differentiation and limited commercial application make these unattractive investments for VCs.
Perhaps the most crucial benefit to public-private collaboration is the experience and credibility — not just the capital — that the government can acquire. We can outpace China with a sophisticated strategy that moves away from the mentality of DoD as a customer, and toward DoD as an investor by growing its awareness of best-in-class, off- the shelf technology. Technological innovation in the interest of defense is important to our national safety, but there is a bigger opportunity to replicate the advantages beyond government, and advance our nation as a whole rather than in part.