Strategic Balancing Initiative

TechnologIST Talks: Why Venture Capital is Indispensable for U.S. Industrial Strategy

November 12, 2024 – In October 2024, IST released Why Venture Capital is Indispensable for U.S. Industrial Strategy, written by IST senior fellows Michael Brown, Partner at Shield Capital and former Director of the Defense Innovation Unit, and Pavneet Singh, member of the EXIM Bank’s Council on China Competition and advisor to the Department of Defense. 

In the first episode of the TechnologIST Talks series “The Strategic Edge in Techno-Industrial Competition,” the authors join IST Chief Executive Officer Philip Reiner for a conversation on their plan for harnessing the power of venture capital. They paint a picture of the “superpower marathon,” in which the United States is racing China for technology leadership, and discuss what makes VC unique. “We’re in a global competition with China, whose aim is to displace us as the technology and economic superpower. So unless we’re happy with that outcome, we better be figuring out what we want to do that would counter those aims,” Michael Brown explained.

How should the U.S. government restructure its current industrial policy approach to attract private investment? What is the importance of team, tech, and TAM? And why should we be ‘waxing poetic’ about contracts? See the transcript.

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Transcript

Philip: I’m Philip Reiner, CEO at IST and your host today. In October, IST’s Strategic Balancing Initiative released, Why Venture Capital is Indispensable for U.S. Industrial Strategy, a report authored by Michael Brown and Pavneet Singh. Today, I’m sitting down with the authors to understand what it will take for the U.S. to maintain competitive edge in the “superpower marathon.”

“We’re in a global competition with China, whose aim is to displace us as the technology and economic superpower. So unless we’re happy with that outcome, we better be figuring out what we want to do that would counter those aims.” – Michael Brown

During the space race of the 1960s, government-led technological innovation. Now, with the passage of major legislation like the CHIPS and Sciences Act and the National Quantum Initiative Act, the U.S. government is again undertaking major efforts to shape the future of deep tech.

“We have these massive interventions that have really drilled down, as we kind of outlined in the paper, they drilled down into a set of core technologies that will lead the fourth industrial revolution, the future of economic competitiveness and military capability…. what we’ve discovered is we’ve made good first steps, but connecting the dots between, okay, so we’ve made this intervention, so how does that tie trade policy to R&D to what is actually going to be consumed?” – Pavneet Singh

In their report, Pav and Mike put forward a plan to capture the power of the venture capital ecosystem to address some of these misalignments. 

“We’re not connecting the dots, as Pav would say, to say, well, what are the incentives of the venture industry and what would we change so we could get the venture industry financing those key technologies we want instead of getting more dating apps or better ad targeting?” – Michael Brown

How would this plan work? What is unique about the venture capital ecosystem? What is the importance of team and total addressable market? And why should we be ‘waxing poetic’ about contracts? Join me for this and more on this episode of TechnologIST Talks. 

Philip: So it’s really great, Mike and Pav, to welcome you both to the podcast. Thank you for joining us!

Pavneet: Great to be here, Phil. Thanks for inviting us. 

Philip: Absolutely. 

I want to dig right in, but I did think it’s important to note, right up top, that as we spend so much time thinking about this U.S.-China techno industrial competition, that the work that the two of you have done together really has been incredibly seminal. The paper that you’re releasing now on the role of how indispensable venture capital is to U.S. industrial strategy, the seminal work that you both did a few years ago, taking a look at the PRC’s tech investment strategies. 

I think this stuff that you guys have been doing has really been incisive and timely to help us identify challenges and opportunities. So thank you to you both and congratulations for the work you’ve been doing.

Michael: Thank you so much. Kind words there.

Philip: I think it really has been incredibly impactful. So. Before getting into the details of this most recent work, I thought it would be helpful for our listeners to hear a little bit more about you and both of your backgrounds. And so Mike, maybe if we could kick things off with you, you’ve got a pretty remarkable and distinguished background, CEO of two publicly traded technology companies, Presidential Innovation Fellow, the Director of DIU, the Defense Innovation Unit, and now at Shield Capital as a venture capitalist. You’ve really helped lead the way, right, when it comes to how DoD thinks about reforming how it does business and thinking about different challenges, particularly those when it comes to the People’s Republic of China, what motivated you, right, what got you into this, and why pursue this work? 

Michael: Well, you know, as with a lot of things in life, this really is a happenstance type of situation.

So I met Raj Shah, who’s now my business partner and preceded me in leading the Defense Innovation Unit, about eight years ago. And at the time, I was just coming off an assignment as CEO of Symantec. And he said, we really need some help. Ash Carter has asked for some insight into what are the Chinese doing with investments here in Silicon Valley?

And I really didn’t know that much about the topic as a CEO. I was more interested in how do we achieve higher market share in China. We knew enough not to be developing software products there when I was CEO of Symantec, but companies I’d been associated with, the hardware company for 20 years, quantum was really interested in expanding the business in China.

And that really was the prevailing sentiment at the time, even from the government, I think as Pav was leading some of that effort, how do we engage more with China? So I’d say this experience of kind of researching that with Pav–again, eight years ago–and it produced something, called the DIUx report, not, not a great marketing name, but it really highlighted.

Philip: It didn’t seem to matter too much on the marketing. I mean, I think the substance…

Michael: It was the right information at the right time, and it really opened my eyes to the fact that China was not just a big market, which is how at the time, a lot of business executives were doing China, but that they have a comprehensive, systematic, long term perspective on how to bring more technology into their country, not just to copy U.S. technology. Yeah, they’ve done some of that, but they’re now innovating on their own, and their plan to displace the United States as an economic and technology superpower, and that seemed dangerous. And that we really need to get our own act together in our country by being more aware of this and thinking about what we need to do to compete better.

So it’s funny how one assignment kind of changes your trajectory professionally. And it certainly did. And so now, you know, since that time, all of my work at the Defense Department and now at Shield Capital was really focused on that competition with China and what can we do to compete better. 

Philip: And as I recall it, I mean, that work really did shift the way a lot of people were thinking about this and the challenges that it created. Talk a little bit, if you could. So as you’ve had that opportunity to help run DIU, right, which is a pretty unique exercise for the Department of Defense, and one that has really, I think, turned a corner and is doing pretty remarkable things at this point, talk a little bit about the similarities you found and the differences between, you know, running a Symantec and trying to get something like DIU up and going. 

Michael: Well, I think what’s similar is you’re working with people to accomplish a mission. So, whether you’re leading a large company or a government organization, you want to make sure you have the best people around you.

I was lucky to, uh, you know, meet Pav in this process and we’ve become friends. Uh, but hiring the best team is critical. And then, you know, as a leader, you need to communicate, what are you after? What’s the vision? What are the goals? How are we going to be measured? And then continue to communicate with folks about where we are relative to those, those goals.

And then give people the freedom to do their best work and clear any roadblocks. Now that turned out to be a lot more difficult at an organization as large as the Pentagon to clear roadblocks. But, the basic activity that you’re trying to accomplish as a leader, that doesn’t change whether it’s a company or a government organization. What’s different of course is the size of the organization can make it difficult.

Uh, so DIU, what’s its role within the Pentagon? How do you communicate to the, you know, the stakeholders, the customers, the folks providing the money, what you’re trying to do? And we have a number of techniques like that, including publishing an annual report, uh, which now you can see online, which you know, refreshes people’s minds on what the goals are, what’s the accomplishment this year, what, what are the metrics?

And then I would say what is also very different is the budgeting process. The federal budgeting process is archaic, ridiculously long in, uh, how long it takes to propose it and then have that approved. And I’d say that’s one of the inhibitors to national security at this point is the budgeting process.

So how long it takes three years to program $1 of spending and then how finely grained the actual appropriations are. So thousands of line items do not achieve any flexibility for senior leaders at the Defense Department to address emerging threats or leverage new technology. And the work of the PPBE commission is terrific. That should be adopted immediately. 

Philip: We know how Congress works. We’ll hold our breath high and can see if some of that actually gets through. 

Michael: They’re part of the problem here. And I, and some members of Congress have recognized that. 

Philip: It’s a huge gargantuan piece of the problem, right? So let me, let me turn real quick though to Pav, right?

So we got to know each other many years ago, toiling at the National Security Council and working on related issues. Tell us a little bit about how your experience within USG has led you to kind of be doing this research to be thinking about these problems and really helping kind of lead the charge on overcoming these challenges.

Pavneet: It is interesting. You and I worked on the NSC. I was on the NSC and the National Economic Council dual-hatted and if you’ll remember at the time, we were coming out of a financial crisis, losing something like half a million jobs a month, so the focus really was on how do we create jobs domestically, how do we promote U.S. exports, how do we welcome foreign investment, how do we make sure that countries don’t erect tariffs and cause economic distress during the global financial crisis?

I would say that as we were working on that, the unintended consequence, obviously, as Mike and I uncovered in the DIUx report, was that we were inviting competitors, adversaries, others to invest in our innovation ecosystem as part of a kind of broader strategy to welcome foreign investment here.

I really had a fascinating journey on this after I left the White House, after having worked on China, India, and a range of international economic issues. I learned about the Department of Defense and the Department of Defense at the time, of course, was focusing on this concept called the third offset.

But essentially, how do we get a time advantage? How do we get a technology advantage in the event of a future conflict? And, as we discuss in this forthcoming paper, the nature of the innovation ecosystem changed so dramatically that it became very clear to me that it wasn’t going to be just DoD that could solve this problem.

It was going to be a whole of government, whole of society, whether it’s private sector from the investment banks and the private equity guys down to the venture capital and the family offices, the entrepreneurs, the academics, and then thinking about your international partners. 

And so that sort of lent itself to thinking, how will DoD work with the Department of Commerce? How will it work with USTR? How will it work with the State Department? How will it work with all of the economic and financial entities, which traditionally DoD didn’t do a whole lot of work with outside of, let’s say, export controls and the ITAR system. And I think, since that time, when Mike and I got together, we’ve been preaching this gospel and talking to leaders across the U.S. government and Congress to say, “This is sort of a whole of government challenge where we need to activate the private sector. We need to activate government tools and authorities, not just on the defensive side, but on the offensive side as well.” And so it’s been kind of a huge eye opener and I will second Mike’s statement when you, when you really start to unpack how the DoD’s budgeting process works and how it identifies where it wants to focus, you quickly realize that there is a massive asymmetry between how the rest of society works and how DoD works. And I think there’s a lot of progress being made and, and we’ll talk about that here, about new initiatives and so on and so forth. But there is a huge opportunity, I think, for future administrations, future Congress members, to think about DoD’s preeminent role as a market maker, a market shaper, and a market influencer. And hopefully some of the things we talked about in our paper can uncover some of that. 

Michael: I think there’s a growing recognition across the government and, uh, even in the Defense Department, even among our military leaders. I happened to be with Admiral Paparo, who is the commander for INDOPACOM. They’re talking more about economic statecraft. Chairman Brown is too. So they’re realizing that we need to have a strong military. That’s our hard power. 

But there’s an increasing role to coordinate the tools of government so that from an economic statecraft, they’re all reinforcing and accomplishing a broader government-wide goal, as Pav was alluding to.

Philip: Maybe we dwell on that for a second. I think for quite some time, for, for years, right? I think of the Bob Blackwell book, War by Other Means. So much of that conversation, though, was about sanctions, right? Export controls. I think what you both are talking about is a much more substantial shift in how the USG structures itself, how it approaches these problems. Maybe DOD is coming around to it. What do you both see in terms of how the USG more broadly is coming around to it? Does that seem to be sinking in at the, say, the NSC level, at the NEC [National Economic Council] level? Just think about the fact that those two things are structurally separated from one another, where NEC doesn’t do NatSec.

How do you see that ground shifting, if at all at this point, rather than just DoD starting to pick up on it? 

Pavneet: It’s a great question and something I’ve thought a lot about over the last decade or so. The truth is, at the tail end of the Trump administration and into the Biden administration, they have made some transformational investments and interventions into the domestic economy.

So you think about the Chips and Science Act, $50 billion for semiconductors and microelectronics, the Infrastructure and Jobs Act, the Inflation Reduction Act, the Industries of the Future Act. I mean, these were bipartisan interventions, legislation in the multi trillions of dollars. The first time, let’s say since the Roosevelt administration, you could say the global financial crisis interventions were as large as well… but the point is these emanated from both a domestic economic impetus and a national security impetus.

So in theory, we have these massive interventions that have really drilled down, as we kind of outlined in the paper, they drilled down into a set of core technologies that will lead the fourth industrial revolution, the future of economic competitiveness and military capability.

So at a high level, you could say, you can make the argument that, look, the government has this notion–and it’s the correct notion–that we need to orient our domestic economy so that we can have supply chain resiliency, that we can have competitiveness in these advanced industries, which will then contribute to our national security. I would say sort of in the weeds, however, what we’ve discovered is we’ve made good first steps, but connecting the dots between, okay, so we’ve made this intervention, so how does that tie trade policy to R&D [Research & Development] to what is actually going to be consumed?

Are we writing the contracts for many of these deep technology areas? And the truth is, I don’t think we have yet approached that point where we’ve connected the dots and made this kind of as frictionless as possible to contribute to a humming economy that leads to military strength as well. 

Michael: To connect those dots and really have the nation working together on a bigger plan to increase our competitiveness globally, we really have to bring in the private sector. So it’s one thing to get the government more coordinated. And as Pav said, there’s growing recognition that would be beneficial. It’s now not a dirty word to start talking about industrial policy in our country. Again, people wouldn’t have taken you seriously had you done that a decade ago, but we’ve watched what China’s done, and you can’t argue that some of the things they’ve done, coordinated as a nation, have not been successful in furthering their aims. 

So, point being, since they are a much more tightly integrated society between the government, academia, and business–and I’m not arguing for their system, none of us want to live in their system–but we do need to think about how do we bring in the private sector and academia more to accomplish bigger goals. 

Philip: I think that’s actually a perfect segue for us to turn to the paper itself and some of what you all have, what you guys have discovered and presented. I think much of what’s necessary here, Mike, as, as you just pointed to, is a deeper, more intimate understanding of how the private sector operates and what, you know, maybe some of the misalignments are between the two. So building on your time at DIU, uh, at DoD, and now in the VC ecosystem, you’ve got a firsthand view of how this works and what the incentive structure looks like for investors, for customers. I think that really strongly comes through in the paper. It is not a conversation that happens often enough.

That’s why I think this paper is going to be so important for everybody out there. But can you give our listeners a bit of the broad contours of what you guys uncovered in the paper and why it’s important? 

Michael: I think we’ve already started that here by saying we’re in a global competition with China, whose aim is to displace us as the technology and economic superpower. So unless we’re happy with that outcome, we better be figuring out what we want to do that would counter those aims. 

As Pav mentioned, the innovation landscape has changed dramatically over the last 50 or 60 years. And we go back to the space race with the Soviets, the government was really leading technology development.

If you take the semiconductor industry that came about because of government investment, the government was the first customer. Both, uh, at one point, most of the chip industry was going to the Apollo program. And what wasn’t was going to the Defense Department to miniaturize nuclear warheads.

So the government created that industry, and now we can see how important chips are–Pav mentioned the Chips and Science Act–chips are fundamental to all of the technologies that you want to talk about for the future, whether it’s AI, synthetic biology, on and on. Chips underlie all of that. 

So if we look at the ecosystem today, it’s changed. Global consumers are driving the innovation ecosystem, the flip between the government being the primary funder of R&D to now businesses being the primary funder; two thirds of the, or three quarters of the R&D now is coming from the private sector, not from the federal government. So that’s changed how we need to think about being successful for the future.

And the venture capital system in the U.S., which basically has come about since the semiconductor industry was formed–the industry got started to fund the semiconductor industry–is a major asset. It’s a world class asset to be leveraged by the U.S. So the question is, okay, with this different ecosystem that we have now for innovation being led by the private sector, if there are key technologies that we know we need for economic security and national security, things like fusion, synthetic biology, if that’s going to be important for our future, again, not only for the competition with China, but how to make our own economy stronger and create more high paying jobs and a booming economy, what do we need to do to bring those technologies to the fore and make sure that they are widely adopted, which would lead to a productivity boom in our country and further increase our economic security?

Well, we probably would want the venture system to be more aligned to the technology that will really make a difference. If we leave those completely separated, the venture ecosystem and the government… the venture ecosystem is completely focused on profitability, that’s our capitalistic system, return on capital. And we’re as likely to get a dating app as we are to get a technology that’s important for the future. Some, you know, new battery chemistry. So is that the future that we want? If you go back to the purist view from Milton Friedman, he might say, yes, I don’t think he was correct.

Potato chips are not the same thing as semiconductors in terms of what they do for our economy. So we need to be thinking about what incentives would we give to the venture capital industry so they’re investing more in the technologies that are going to make a difference. 

So the total government R&D budget right now, just figure of merit, 200 billion, the largest part of that, the Defense Department, well over a hundred billion. It was a record level of spending for the Defense Department in terms of R&D. We’re now spending a smaller proportion of our GDP on long term research than we ever have. Going back to the 1960s, that was 2% of GDP. Now it’s 0.6%. 

So we’re spending less on some of that long term research and most of the capital that’s commercializing technology is coming from the private sector. Well, as the government thinks about this, we’re not connecting the dots, as Pav would say, to say, well, what are the incentives of the venture industry and what would we change so we could get the venture industry financing those key technologies we want instead of getting more dating apps or better ad targeting?

And that’s what the paper’s about. The paper’s really, what are the things that we need to do? And in summary, it’s how do we prioritize the tremendous federal research that’s being done to really focus on what’s most important for national security? What are the biggest breakthroughs that would create the productivity gains? Once we’ve identified those, how do we get venture capital to be funding that? $350 billion a year that could be unlocked funding the technologies that will really matter. 

And if we, we looked at the incentives that the venture industry has, which is really about returns and eventually, to get those returns, we focus on teams, founding teams, technology, maturity, and how big is the market.

The government can play a key role as, as Pav alluded to, the Defense Department was a market maker and still is for many of these technologies. But we have to do more to make sure government TAM (the total addressable market) would be visible. Have we helped in the government to put a team together? IP on its own is not really worth much to the venture industry, it’s really the team that is familiar with that IP and can develop that. And have we done enough to make sure that the tech maturity is shown? Because one thing I know in the venture industry is we don’t like to take a lot of risk, even though it’s risk capital, focused on things that still need invention. So the basic technology really needs to be proven so that it really is about executing on commercializing that rather than an invention. So if we think more about making the investments we make in the technology more exciting for the venture industry, we’re going to unlock a tremendous amount of capital to commercialize that technology.

Philip: Pav, real quick, let me ask you this. And this, I think comes out in the paper and I think it’s actually an incredibly important point vis-a-vis where we were even five years ago, three years ago. The demand signal from the venture community, how strong is it for that shift to come from the government side, such that those incentives are better aligned? Is that demand signal ripe? Is the moment there? 

Pavneet: Phil, I think you’re just as kind of aware and seeing these phenomenon as many of us. Big venture firms like Andreessen Horowitz have launched these things called American Dynamism. Mike at Shield Capital is focused on technologies that are both critical to national security, economic prosperity, and a return for his limited partners and general partners.

I think this is a function of one, a technological renaissance that is occurring right now, the rapid advancements in artificial intelligence, machine learning, large language models, and how that is overlapping with advancements in quantum computing and synthetic biology, as Mike has mentioned, is leading to the view that a lot of things are possible. We just need to get the economics right. 

And so, what we have been noticing is over the last decade, where once you were coming out of a Snowden era where the private sector and others were saying, I don’t want to deal with the U.S. government if they’re doing X, Y, and Z to now companies are looking at the federal government, especially in light of competition with China, Russia, and others, to say, look, we could help you. We have technologists that are developing innovative things at the front end. What we need to understand is, and have more visibility into, is what is the business opportunity? What is the total addressable market? What is the opportunity for us financially to engage with the U.S. government? Because we can do this for a certain period of time, but we can’t take a loss for an extended period of time because we have to pay our bills and we have to pay these salaries and so on and so forth.

So I would say that in very strong pockets, there is very strong demand, and people are recognizing that the U.S. government has made all of these interventions. So clearly there is a desire by the U.S. government to be a leader and cultivate a robust industrial base. But I think the piece that is missing, and Mike has alluded to this and we talked about this in the paper, is how do you make sure that these interventions have sustainability and they endure without further interventions?

And so let me, let me take a second and look at the flip side of this question, which is: Mike talked about team, technology, and TAM. And the truth is the U.S. government has the infrastructure there, at least to support good growth in each of these areas, but currently it’s happening in silos, or it just doesn’t realize that it needs to be working together.

So let’s talk about team. 

The federal government funds, basic R&D, applied R&D, early applied R&D. And often they do this in the form of they push grants out to performers at universities and national labs, but they also have a lot of some of the highest talent that sits within the military service labs or the DOE labs.

And the problem is they’re doing this fundamental research, but then they’re not necessarily saying, okay, how do we want to potentially commercialize this? How do we want to make sure that this technology gets beyond the early research stage? And so, places like the National Science Foundation just launched the Technology Innovations and Partnerships Directorate, the first directorate launched at NSF in half a century or more. It has roughly a little over a billion dollars in budget. And they are starting from the premise of, if we’re going to fund research, we want to make sure those researchers are surrounded by the ecosystem that can contribute to commercialization.

It’s not a guarantee, but at least they’re starting from the premise of how do we provide them with access to networks? How do we introduce them to investors? How do we create the infrastructure that they can do test beds and, and really get to form factor on their, on their technologies? 

Similarly, you know, at DoD, on one side, it’s a litany of programs that exist in the innovation world, 70 plus at the last count. But the point is big programs, DIU being one of them, the Office of Strategic Capital being another, are very concerted in how do they sort of engage the key actors in the innovation ecosystem. And so there is an effort on the technology maturation. 

Now, another big question is the TAM. So Mike will wax poetic on the need for contracts. Like how do we write contracts? And I’ll, I’ll leave that to Mike to talk about. 

Philip: Not Mike alone! 

Pavneet: A lot of people will. I, here’s something that I think the government is uniquely positioned to do, which I don’t think people have connected this thread, which is to say, if we are making these massive interventions for chips, for novel energy solutions, how are we ensuring that we have the trade policy lined up, the market access lined up such that when our entrepreneurs and companies are ready to sell into these markets, that they’re not blocked by indigenous requirements in those countries. Because, keep in mind, a lot of these countries right now are doing their own CHIPS Acts, they’re doing their own clean energy, sustainable aviation fuel requirements. And so, there’s going to be a tension in five years or ten years based on the investments we’ve made today. What are we doing today to make sure that that market is open to our investors and our companies? Because that’s the only way, or not the only way, but a principal way in which you’re going to motivate them to invest. So we have the tools–USTR, the Commerce Department, they negotiate trade agreements… I know trade is a very toxic term these days, but if it’s wrapped in this context of, you want to be competitive in these industries and you want to stimulate the investors, so you have to do the early work now and clear, clear the markets so that our companies and our investors know that there is an end goal they’re trying to achieve. Let me stop there and kind of turn to Mike on the big goose here. 

Michael: If I think, uh, as Pav alluded, I think the government can play a much stronger role.

You have to be proactive in both stimulating the demand globally. And Pav talked about that in terms of what we need to do now to make sure that markets are open, especially with our allies. And of course, in this competition with China. The U.S. and its allies dwarf the economy of China. So we, there’s a lot within our control if we collaborate with allies. 

But then domestically, as Pav mentioned, contracts, contracts, contracts, the government can stimulate demand. It has in the past, we talked about the growth of the whole semiconductor industry. So thinking about where that would be beneficial for the future, whether it’s energy, the department of defense is the largest energy consumer in the world. Okay. So a huge role to play in terms of what type of energy is being required, what are the technologies to be more energy efficient? 

So the Department of Defense not only should be doing that to reduce its own bill for energy, but it also can be leading the way in terms of bringing new technology that then can be used by the entire nation and the globe. So if you pick some of these markets, you know, air taxis would be another one.

The Chinese have a much more concerted government effort to bring air taxis to market then than our own government does. Some forward thinking, letting these contracts is what stimulates the private investment activity to wrestle, really commercialize these activities so much more efficient than what we do with large defense platforms, where we basically pay companies like Lockheed or Northrop Grumman to do the R&D.

And a cost plus to deliver these large platforms. Why not have the private sector finance technology for us? But the incentive has to be, there are contracts there to win. And then we could flip, kind of, the competitive, so the whole defense industrial base on its head, if we start to operate differently.

But the key is the private sector needs to see that the market is there. So domestically that’s contracts and internationally, it’s the opportunity for global markets to be open. 

Philip: And there’s such a consistent conversation around this, right, within the defense tech space, right.  What’s going to help ensure that these technologies get brought to the warfighter at the end of the day?

What you note in the paper I thought was really interesting and maybe we can spend a little bit more time on this, that there is no more powerful action that the U.S. government can take than to set up what you were just talking about. To signal that those contracts are going to be there, to demonstrate that market demand, but you also note that these tools are not currently coordinated nor deliberately applied to nascent industries. And this again comes back to, Pav, what you were talking about in terms of connecting the dots. 

What needs to happen from your perspective and what you put down in the paper as to how that bridge is actually going to get built? You mentioned the programming that they’ve now stood up at NSF that maybe could help. What other ideas are there that are going to, or what that you’ve put forward in the paper, they’re going to help kind of bridge that, that final, I don’t know, it’s like a last mile, like how do we actually connect them directly in the way that’s necessary?

Michael: One thing for sure is a little more planning on what are the technologies that we need. This is why the first recommendation was to kind of prioritize the federal research. That goes hand in hand with understanding what could make the biggest difference from a national security or economic security standpoint.

If it’s a technology like fusion, it’s going to require a lot more in the technology demonstration area. There are other technologies where they’re fundamentally here–air taxis, I mentioned–but they’re waiting for, where’s the demand? And that’s where the Defense Department could get involved and say, no, let’s, let’s create that as an industry. Let’s make sure we have that capability ahead of China. 

Well, that will take the effort to say, we’re going to write some contracts. We’re going to get going on it. Same thing, frankly, with the drone industry. We ceded that to China, all the technology components for small drones were developed here in our country, but because we didn’t think at the time manufacturing was all that important and a lot of the components shifted overseas, we let China pick that up… DJI, the biggest drone manufacturer in the world, we’re talking about small drones now, not, not big drones like a predator and reaper. So rather than the U.S. government saying, no, that could be an important technology, let’s start writing some contracts and giving our war fighters the opportunity to experiment with that, we sat back. And the more you sit back with an air taxi market, drones, important energy markets, and say, no, let’s wait and see what happens.

The space industry is going through the same thing right now, waiting for the government to take stronger action to create a space economy. If the government takes a lead role, again, back to the semiconductor industry, these industries can be created for massive benefit for our own economy. We develop the technology, our companies are the ones that are setting the standards then.

And of course, uh, we create a tremendous economy and look what happened with semiconductors in the, while the government started the demand there with the cost reductions that then put that in every product we interact with in the world. So I would love for the Defense Department to take the lead within U.S. government to be thinking about how do we lead and create these markets.

That’s a little bit of a different role for the Defense Department to be thinking about versus just how do we protect the nation? But we’ve done that in the past. The space race proved that and all the technologies now that it came from that arguably the chip industry, the software industry, the internet, all of that came from the tremendous amount of investment and market leadership positions we took going back to the 1960s.

Philip: There’s a lot of recommendations that you’ve put forward in the paper. We’ve talked about a good number. We’ve talked about the founding teams. We’ve talked about the federal TAM. We’ve talked about the technology maturity. The piece that you, that we may want to delve into a little bit more here before we wrap up is the need to really develop this capital framework.

And so Pav, maybe if I could ask if you could speak to this a little bit, I know this is something we’ve talked about quite a bit. you’ve already spoken, I think, a bit here today about how we’ve begun to reorient as a federal government to be better postured for this. What else needs to happen to kind of bridge that gap that still currently exists?

Pavneet: People are thinking about this topic, obviously, with the launch of OSC, the Office of Strategic Capital at DoD, there is some thinking around it. The EXIM Bank has a Make More in America Initiative, plus a China & Transformational Exports Program, where they have identified some of these deep hard technologies and are offering various loans. The SBA, the Small Business Administration, has created the SBIC program, which if you remember back to the semiconductor days, the launch of the semiconductor industry, the SBICs were quite important at that time.

So from a public capital framework, what we really need to think about is, what are the tools that we have? We have a range of non-dilutive financing, whether it’s grants, loans, loan guarantees, or equity investments in the case of SBICs. And we have contracts, procurement and contracts on the right side.

And this all flows from this idea that Mike has identified, which is if we’ve already determined that there’s a range of technologies–16 to 19 on any given list that the White House or Congress or DOD has put out–which of those technologies is going to be well funded by the commercial sector?

So that sort of identifies all the software ones. Those don’t need non-dilutive financing from the government. What they need is contracts. Okay, so you put that in the bucket of the contracts, but don’t spend any of the government’s money on funding software because even the most expensive LLM developers are going to be able to raise private capital, we’re seeing that in spades today. 

So that really leads you to, okay, where are the deep tech technologies on these lists? And so that’s when you land on things like quantum, synthetic biology, various materials, robotics, in some cases, a lot of the space-related technologies, even though you could say the cube satellites are not actually that expensive to produce.

And so when you really hammer down on what are the technologies you need, the framework basically says for those that have high capital intensity, meaning it’s going to cost a lot of money to build machinery, to build equipment, and it’s going to take time, and there’s a lot of uncertainty and risk. The government should either provide equity investments to offset the risk and then potentially get a return on the investment at some point in time, or they should strategically deploy the loans or loan guarantees so that these companies can take a lower interest rate, potentially pegged to the to the treasury bill and be able to develop these technologies over time, get prototypes, get manufacturing at scale, and then start to sell. 

But in all of these cases, the contracts are going to be important, the contracts and the accessibility to global markets. And so the capital framework really keeps in mind all of these factors to how do you think about the technologies you’re going after, be very thoughtful about that, and then understand what tools you have in your toolkit, and they have to be coordinated. 

So just one more point on this, and I’ll invite Mike to weigh in. The Department of Energy has done probably the best job in linking and building the scaffolding for financing of very expensive energy projects. They start with ARPA-E and they have grants. Then they go into what they call the SCALEUP process where they provide you scaling up money. Then they have the Office of Clean Energy Demonstration, which provides even larger amounts of money. And then finally the program that many of us are familiar with is the Loan Program Office. 

So within the energy sphere, over time, we’ve kind of figured this out. Like how do we get these companies to go from basic R&D all the way to deployment? This is something that we need to do, rinse and repeat, across the range of deep tech. And so let me turn to Mike, because he’s foundational on the thinking on this framework. 

Michael: Yeah, I think, well, Pav described it very well. I mean, really it’s a framework using tools that correspond with the risk involved in developing the technology.

So most risky would be the R&D itself. So if there’s big capital required and invention required, that’s where there is a role for the government to come in. Projects that are, it’d be billion or more. Software, as Pav mentioned, doesn’t need any government help, except the contracts to start purchasing more. I’d love to see the DoD be more, be more aggressive with AI contracts, for example, to support development from AI companies for a national security application, but you don’t need anything beyond that. And a lot of technologies will fall into that category of if the contracts were there, you don’t need anything else. Air taxis would fall under that market. 

And then in between would be the loans that I might need just for scale up. Maybe I don’t need government money for the R&D, but the scale up is going to be a little more capital intensive for these hardware products, there, a loan program, like what OSC has in place, will be very beneficial.

So, an array along the risk spectrum to invite more private investment. And I would view the capital framework as what is the minimum that the government needs to do to bring more private capital in versus what can the government do to actually commercialize the technology? No, I’d rather see the government dollars spent on more basic research and where we need to add more research dollars to commercialize a highly capital intensive or risky technology. Then you could bring in the other tools, the loans for the scale up and the contracts across the board, that will really be a pull through mechanism to get more private investment to fund the technology development.

Philip: So as you both did with your paper, I can’t believe it was eight years ago already, as you both did back then with, with that work, I think with this work, what you’ve highlighted are such absolutely critical elements of how do we actually accelerate American competitiveness. And so much of the conversation around innovation and national security, I think, has really moved over the last few years.

But it doesn’t matter if you can’t actually make it happen. 

Michael: That’s so true. 

Philip: That’s why this is so exciting. I think it actually begins to pinpoint what are the things that will help us get there. And so, thank you both for the research, the time, the analysis that you’ve put into this. Thank you for coming in and joining us on the podcast to have this conversation and get the word out.

Michael: Thank you so much for the opportunity. I mean, it’s such an important topic that motivates all three of us. And whatever we can do that adds to the conversation, and to your point, Philip, gets things moving. We need to be executing on this, not just talking about it, is pretty exciting. 

Pavneet: Thanks Phil. This was a lot of fun and I’m looking forward to seeing Congress and the next administration basically take our paper and turn it into exact recommendations and policy programs.