The Defense Department is trying to renew its once robust relationship with Silicon Valley to find the technologies needed to confront 21st-century threats. The Air Force is taking the novel approach of establishing a venture capital firm within its ranks that locates, invests in, and opens doors for promising defense startups.
AFVentures is a division of an Air Force technology acquisition and development group called AFWerx (the AF stands for Air Force and Werx is shorthand for “work project”) established in 2017. AFWerx is something like the Defense Innovation Unit (DIU) within the DOD, which began looking into the private sector for promising defense technologies back in 2015.
For many years the DOD has relied chiefly on technologies developed either within the government or by a small group of large contractors such as Boeing or Raytheon. There’s a growing belief within defense circles that to address the new nontraditional and cyberwarfare threats on the horizon, the U.S. needs to tap into the cutting-edge innovation happening outside those universes.
Sidestepping the ‘Valley of Death’
One of the biggest things AFVentures does is help small startups survive the brutal process of qualifying for a defense contract.
The DOD’s procurement process is famous for its complexity and slowness. It’s a five-phase affair that starts with technology analysis, then moves to product prototyping, then engineering and manufacturing, then production and deployment, and ends with operations and support—and that’s if the project isn’t rejected or starved of funding. It’s a mind-numbingly labyrinthine system clogged with red tape and paperwork. Larger contractors have large staffs of people to wade through the process, but smaller tech companies face a real challenge managing all the work.
That means a smaller startup might do a successful pilot project for a branch of the military but then parish while waiting for a sustainable long-term contract to materialize. That interim period is known in contractor circles as the “valley of death.” As a result, many tech startups don’t even look at defense as a target market.
Another reason to ignore the possibility of government contracts is the way the venture capital business is set up. Venture capital firms typically look for companies with high-margin products that can grow quickly to produce a return that’s 10 to 20 times the VC’s investment. Startups focused on supplying the government don’t fit that mold. As a result, many technologies that could help in defense remain confined to use in consumer or commercial settings.
It’s a problem of which the military is acutely aware. To help a startup survive the valley of death, AFVentures might award the company a development contract. Since its 2018 inception, it has awarded $710 million in contracts to more than 1,400 small companies, according to its annual report. Or it might try to find the startup some additional capital in the private equity world.
Once engaged with a startup, AFVentures can help cut through some of the red tape involved with government contracting, says the director of the program, Major Jason Rathje. It also helps startups satisfy the government’s requirements, such as cybersecurity standards.
AFVentures has a number of ways of finding funding for startups, whether the startup is doing an initial pilot or is actively upgrading or scaling a product to fit the government’s requirements. In one program, called Strategic Fund Increase, AFVentures can match a certain amount of funding that the startup has already received from a private investor. Or, it might match the amount of a DOD contract the startup has already won.
The big picture behind AFVentures is that the U.S. has a new kind of enemy in the 21st century. Non-state terror groups are no longer the main target, as the U.S. faces emerging threats from China and Russia. The Chinese government in particular has access to the work of homegrown technology developers. People in the defense community have come to realize that if the U.S. can’t find a way to partner as closely with its own domestic tech companies, it may fall behind as warfare in the 21st century goes high tech.
Building for government and beyond
While AFVentures is a strategic move for the military, it also provides a new opportunity for startups that aren’t depending entirely on government contracts to sustain themselves, and are also building technology for enterprises or consumers.
“A sizable portion of our investment is in this dual-use approach to technology development,” Rathje says.
AFVentures is constantly combing the startup landscape for companies building technology that matches the present or future needs of the Air Force. Rathje tells me he talks to private sector VC people five times a week.
“On our side, finding that overlap, understanding where the commercial markets are going, understanding where the smart capital is going, where the Air Force wants to go, and then trying to invest where there’s overlap creates an opportunity for dual-use [companies],” Rathje says.
The government funding from AFVentures can make startups look more attractive to private investors, too. AFVentures’s portfolio companies have received $2.22 billion in private sector investment after receiving funding from contract awards.
“It’s brilliant—they’ve figured out how to make their money go further,” says Brandon Tseng, COO and cofounder of the defense AI company Shield AI, a AFVentures portfolio company. “They are bringing more money to the table for targeting priorities and capabilities that will matter to the Air Force.”
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