Defense is Not a Sector or an Industry

We often use the term “Defense Industry” in conversations. I’ve done so, too, when talking about primes and their defense products — where armed forces are their only customers. And I think I am doing a disservice to my LPs. As an investor, it’s a bit more tricky: What about militarization of civil infrastructure? Or hardening your IT against industrial espionage? Or changing your hiring practices and background checks in DeepTech investments/assets? And what about NextGen energy production, engines, solar, propulsion, defending against energy dependence? Material design, chipset manufacturing, high performance magnets, mining, supply chain control, social media control, managing fake news and fake accounts, … the list goes on.

Defense is not a single industry. It’s a characteristic. A national need. A category of consequences.

Why am I bringing this up? Because in almost every “Defense and Private Equity” call the questions comes up which areas of Defense I find most promising to invest into. Or worse: “We are thinking about 2-3 sectors to invest into. Which ones should we pick?” ugh. As NATO has emphasized, “resilience is the first line of defence” in modern conflicts. In highly interdependent societies, defense now includes the ability to maintain critical infrastructure, civilian continuity, and cyber-resilience—often in domains far removed from traditional battlefields.

Here is a different approach when I get the question which “sector” to pick.

1. What Is Your Risk Profile?

The obvious question. Which will determine early vs. late stage, private equity vs. alternatives, credit, incremental innovation vs DeepTech innovation, new markets vs existing markets, …

2. Who Are Your People?

Who do you know and trust? How would they add value at any sector or tech area you are thinking about? Do they have knowledge or know-how? (hint: you need both!) are they specialists? Do they have traits that are transferable across many areas? Where do you find new people?

Many people will be falling out of the current org at various defense organizations — both in civil governments, military, and public markets. Given the change in the ecosystem, there will be new Military Academies for Cyber, Space, and Robotics… what an opportunity!

• Talk to them and determine overlap in ethics, values, process, leadership style, attitude. Are they aligned with your goals and how you want to reach those goals?
• With these people, map out their area of expertise and network regarding potential asset appreciation timelines: Do value creation timeframes align with your investment product? Does it have the right risk tolerance?
• Do you think you can explain that focus and roadmap to investors or stakeholders?

3. How Do Your Investors and Stakeholders Think?

I feel like a broken record: private equity is a service product. You’re designing a cadence and character and process with a promise of future returns (monetary and/or “strategic” for corporate venturing) for stakeholders — risk-adjusted, of course. Do they think in asset classes, in tech, in defense needs, in political frameworks?

• Asset Classes: Credit & Lending, Private Equity, Venture Capital, public equities
• Tech Sectors: Vertical AI, Future of Compute, Energy, SpaceTech, CompBio/ChemBio, Robotics
• Defense Needs: Novel Materials & Manufacturing, AI, Autonomy, Energy, Quantum, Space, BioTech, Hypersonics, Next-Gen Comms
• European Commission Joint White Paper for European Defence Readiness 2030: Air and missile defence, artillery systems, ammunition and missiles, drones and counter-drone systems, military mobility, AI/Quantum/Cyber & Electronic Warfare, critical infrastructure (a catch-all that includes ”Strategic Airlift and Air-to-Air refueling aircraft, intelligence and surveillance, maritime domain awareness, use and protection of space and other secure communications assets and military fuel infrastructure”)

4. Venture Capital and Defense Investing. Same Old.

Successful enterprise venture capital investments take 10-15 years from inception to exit. Perhaps even longer until you see a distribution of there is some sort of lockup period involved. perhaps shorter if you are a pre-seed fund that takes some money off the table (and you have the opportunity to do so). And there are exceptions, of course.

But I didn’t see any reliable signal yet that would make me believe Defense Investing is any different. In contrary, Defense-focused venture capital often needs groundbreaking scientific discoveries that might take longer to productize for a mass market… so perhaps rather longer than shorter.

5. Avoid One-Trick Ponies.

My point: you will be dependent on many macro events that are out of your control, in addition to the typical organizational failure risks and product risks. In that case, you want to be more than a one-trick pony. If one plan fails, you want to have a plan B that is somewhat orthogonal to plan A as not to be negatively impacted by any negative event for Plan A.

What is your effectiveness that would lead to faster-than-average asset value creation, or lower-than-average asset risk?

Some investors focus on dual-use (de-risk customer focus of your assets). Hexagon’s use of sensor fusion in both public safety and agriculture is a good example. Keep in mind that in dual-use ventures, credible Plan Bs are rarely “backup plans”—they are complementary capabilities that future-proof the core (!).

I like to think longer and de-risk the organizational risk for the people I trust and work with and whom my investors underwrote with their LP commitments: If my Plan A fails, can learnings and know-how and networks be leveraged in other areas? If I can do that, then I can help both my assets (aka startups ;)) and my LPs.

6. Focus on Judgment, not Technologies

In his 2021 memo Something of Value, Howard Marks reminds investors that long-term success lies not in following style boxes but in making “superior judgments regarding the relevant inputs.” This applies acutely in dual-use investing, where current financial metrics may lag the strategic relevance of a breakthrough.

“The key to success lies not in the ability to perform a mathematical calculation, but rather in making superior judgments.” — Howard Marks, 2021