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Startups and National Security | The Hermeus Podcast 12

Check out The Hermeus Podcast’s Episode Page and Show Notes 

Key Takeaways

  • Over the past decade, the U.S. has been left behind by its near-peer adversaries in the area of hypersonic air travel  
  • Hermeus is a Mach 5 startup working to bring hypersonic air travel to the United States a few years (or decades) ahead of schedule 
  • The conflict with China ultimately comes down to technology 
  • Venture-backed defense technology companies are capitalizing on the lack of risk and misaligned incentive structure that’s been present in the defense space for too long 
  • Some military Contracting Officers lack the courage to implement innovative large-scale programs because it is easier and safer to exist within the bounds that have always been there, according to Zach Shore
  • “In the year 2054, the entire defense budget will purchase just one aircraft.” – Norm Augustine, former Lockheed CEO, kind of joking
  • You need to convince one person to buy a commercial product, but you need to convince about 50 people – who rotate out every two years –  to buy a product for the DoD
  • The DoD must step up its spending if they want to have the same level of participation from the startup industry moving forward; the recent economic downturn will stop VC money from perpetually flowing in if the DoD doesn’t take similar investment risks 
  • There is a ton of innovation theater going on: a lot of low-dollar, high-volume capabilities are being pushed out that allow people to pat themselves on the back, but the capabilities aren’t actually moving the needle 
  • The states of technologies are outpacing the states of policy and regulatory frameworks for which they’ve been developed 
  • NASA swallowed its pride when working with SpaceX and Starlink in the early days of their business relationship, and has since been rewarded for taking such risks 
  • The DoD asks its service men and women to take massive risks with their lives, so it should be willing to take some risk when investing in technologies that will help its members
  • “A startup should not exist if it’s not improving something by 10x.” – AJ Piplica, Founder and CEO of Hermeus  

Introduction 

  • Dan Kliman (@dankliman) is Hermeus’s Director for National Security Strategy. He is a leading national security expert, specifically recognized for his work on U.S. strategic competition with China. 
  • Sarah Mineiro is a Principal at Potomac Advocates, a premier defense, intelligence, space, science, and technology research and consulting firm based in Washington, D.C. She started her career with the Air Force, then joined Anduril Industries as its Senior Director of Space Strategy.  
  • AJ Piplica (@AJ_Piplica) is the founder and CEO of Hermeus. Previously, he worked on reusable launch vehicles and hypersonic aircraft for NASA and the Air Force.  
  • Zach Shore is the Vice President of Growth at Hermeus. Previously, he served in the Marine Corps, consulted for Fairmont Consulting Group, and led Anduril’s efforts with JADC2. 
  • In this conversation, Dan, Sarah, AJ, and Zach discuss Hermeus, the urgency of achieving hypersonic flight, China, the challenges of working with the Department of Defense, why venture capital’s involvement in defense might not last forever, how the SpaceX and NASA relationship changed the industry forever, and how next-generation defense companies can correct the misaligned incentive structure of the defense industrial base
  • Check out these Podcast Notes from Palmer Luckey’s conversation about Anduril, China and Taiwan, Russia and Ukraine, and more.  

What is Hermeus?

  • Hermeus is a Mach 5 startup trying to radically accelerate air travel, and in the meantime, will do some great work for the nation as well 
    • At Mach 5 speeds, passengers will be able to cross the Atlantic Ocean in 90 minutes 
  • Hermeus is a startup operating at the nexus of commercial technology and security 
  • The company is working to bring hypersonic air travel to the country a few years or decades ahead of schedule 
  • Reusable hypersonic aircraft will be a critical part of the country’s future
  • Over the last ten years, the U.S. has been left behind by its near-peer adversaries when it comes to progress in hypersonic air travel  
    • Some people believe this happened because the U.S. published all of its research on hypersonics a while ago, and then stopped investing, whereas its adversaries took the information and began building 
  • The country’s near-term focus on hypersonic is hypersonic weapons and defense against hypersonic weapons, but Hermeus is focused on the next step: hypersonic aircraft
  • It’s unlikely that Hermeus will face a direct competitor in the near-term because what it is trying to do is “quite loony toons”, according to VP of Growth Zach Shore 

The China Threat

  • The conflict with China ultimately comes down to technology 
  • CCP forces its civilian companies – to the extent that they exist as independent companies – to work with China’s military 
  • The Department of Defense (DoD)  needed to create a nexus of national defense and technology if it wanted to compete with China 
  • The United States competes with its adversaries because of its dual-use companies: the companies that create technologies for both the public and private markets

Why the Department of Defense Moves Slow

  • Sarah challenges the notion that today’s red tape in the DoD is a new phenomenon; she believes that the bureaucratic obstacles have been present throughout the DoD’s entire history, to varying degrees 
  • Validating the “requirement step” of the procurement process, which is where the actual operators in the field state the things that they need, is a laborious process that must be improved 
  • These bureaucratic shortcomings are starting to be identified at a faster rate, and institutional workarounds are being created, such as the Urgent and Emergent Operational Needs program 
    • However, this is a band-aid on a band-aid solution: why are institutional workarounds being created when everyone involved in the process knows the process must be overhauled 
  • Venture-backed defense technology companies are capitalizing on the lack of risk and misaligned incentive structure that’s been present in the defense space for too long 

How the DoD Buys Things   

  • “If it were me, I’d take ‘em all and put a match to it.” – Arnold Punaro, Marine Corps General (ret) 
    • A retired General’s answer to the question of how he would fix the DoD’s buying system, shared in a 2012 study conducted by the Defense Business Board 
  • There is a need for overnight and process, but there is also a need to fundamentally rethink the effectiveness of the process, and if it is working as intended 
  • First principle question to consider: is American innovation helped or hindered by these lengthy oversight processes 
  • While Congress plays a role too, the DoD has the authority to change many of these internal processes

The Status Quo is Easier 

  • There is some “absence of courage” from military Contracting Officers to implement innovative large-scale programs because it is easier and safer to exist within the bounds that have always been there, according to Zach Shore
  • Innovation is about challenging and breaking through perceived boundaries 

The Incentives are Off

  • The incentives are off for Contracting Officers: Contracting Officers are likely prioritizing the minimization of GAO protests instead of prioritizing the timely deliverance of new capabilities to the warfighter, for example 

Increasing Costs in the Defense Budget

  • There is a continued increase in cost for the DoD to develop new platforms
  • Projecting out these trends, the entire nation’s defense budget will only be able to buy one fighter jet in the year 2050 
    • A joke shared by former Lockheed CEO Norm Augustine: “In the year 2054, the entire defense budget will purchase just one aircraft.” 
  • Most aircraft projects are driven by the government, which does not share the same incentives as the private sector 
  • You need to convince one person to buy a commercial product, but you need to convince about 50 people (who rotate out every two years) to buy a product for the DoD

“Hot Take City” from Zach Shore  

  • Anduril Industries has had tremendous success since launching in 2017, but it still hasn’t “won”, according to its co-founder Trae Stephens, because it hasn’t gotten its own major program 
  • “There is a ton of innovation theater going on.” – Zach Shore
    • There are a lot of low-dollar, high-volume capabilities pushed out that allow people to pat themselves on the back, but the capabilities aren’t actually moving the needle 
  • This kind of theater could not happen in the commercial sector where there is way more pressure on returns and actually seeing an outcome 
  • The defense industry is not a “defense market”; it is a very complicated customer 
  • The systems that are needed to change America’s ability to win or lose wars are still very expensive; they can be made for less money, but it’s still a large dollar amount 
    • The capital flows into the Defense Innovation Unit are nowhere close to what they should be if the intention of the DIU is to substantively move the needle
  • Venture capital dollars are flowing into defense tech companies, and some of those VC firms like Founders Fund understand the longer time horizons present in the industry, but much of the VC funding is coming from smaller firms and family offices who might not understand the unit economics of the industry  
  • The DoD must pick winners instead of giving every new company a nickel  
  • The DoD must step up its spending if they want to have the same level of participation from the startup industry moving forward; the recent economic downturn will stop VC money from perpetually flowing in 
  • Palantir might be the only definitive winner in the defense industry, a company that had to sue the U.S. Army (its largest customer) 
  • The “defense market” is zero-sum: for Hermeus to get more funding, it must take funding from another company
    • This is not a rising-tide-lifts-all-boats market like many sectors in the commercial space are 
  • Katherine Boyle from a16z has been clear about the urgency needed from the DoD to show private capital that it is serious about taking risks associated with investing in next-gen tech   

Hermeus is Solving Harder Problems with Less

  • Before accelerating air travel, Hermeus must succeed at improving the real capabilities of the defense industrial base 
  • The defense budget increased this year but wasn’t close to keeping up with inflation 
    • We’re solving harder and harder problems with less and less 
  • Hermeus’s product-market-fit is glaringly obvious; asking “why” our nation needs hypersonic aircraft is glaringly obvious 

Optimism 

  • The creation of DIU was a good thing
  • The DoD has implemented the VC model of spray and pray more than it should have
  • Lieutenant General Chance Saltzman was just named Deputy Chief of Space Operations for the Space Force, a person the group thinks will do a great job 
  • Rebellions are built on hope 

Technologists are Moving Faster than the Regulators  

  • The states of technologies are outpacing the states of policy and regulatory frameworks for which they’ve been developed 
    • Instead of being afraid of this, the American democracy should cherish, integrate, and celebrate it into the next generation of policy reform 
  • Congress saw how fast the commercial space industry was progressing and realized it needed to be involved 
    • SpaceX has thousands of satellites in space just 8 years after saying it would do so; compared to the DoD launching satellites without compatible ground terminals (the equivalent of building a car without wheels) 
  • SpaceX has fortunately pointed its manufacturing at-scale capabilities to the space industry

SpaceX, NASA, and COTS

  • Commercial Orbital Transportation Services (COTS) is a 2004 NASA contract that was SpaceX’s first big contract 
  • NASA faced a modernization problem: the space shuttle was retiring and it needed to resupply the International Space Station with cargo and crew 
  • NASA giving SpaceX a few billion dollars was a relatively small bet to make for the possibility of getting domestic launch services once again 
    • The Delta and Atlas programs under the United Launch Alliance could not meet NASA’s cost targets 
    • The only other alternative was to continue to buy launch services from the Russians, which it did in the interim 
  • SpaceX and NASA didn’t sign contracts, though; they signed agreements that looked more like agreements prevalent in the commercial sector 
  • NASA swallowed its pride and put design capabilities in the hands of SpaceX
  • Nine years after the NASA and SpaceX agreement, the U.S. has domestic crew launch capabilities once again 
  • What we learned from COTS:
    • Modernization challenges can be overcome 
    • Flexible contracting that mirrors commercial contracting can be effective
    • Leverage private investment for development and R&D risks 
    • Set capability-based requirements 
  • AJ Piplica recommends everyone in the Pentagon read the appendix section of the COTS: Final Report, which starts on page 109 of 146 
    • This appendix has become his Bible 
  • “Starlink wouldn’t be here if it wasn’t for COTS.” – AJ Piplica 
    • NASA took some programmatic risks with Starlink, and was rewarded for doing so 

How the DoD Thinks about Risk

  • Department of Defense investments do not have binary outcomes; there are significant lessons learned, training, and experience gained for every worthwhile investment 
  • The DoD asks its service men and women to take massive risks with their lives, so it should be willing to take some risks when investing in technologies that will help its members
  • The DoD is willing to spend massive amounts of capital on some things that yield little to no rewards but is reluctant to take risks investing in technologies with potentially asymmetric risk-to-reward profiles, according to Zach Shore

Lessons Learned from Working with the Department of Defense 

  • AJ Piplica: “Start Early” 
    • Early and often, articulate the future that you are trying to build, and explain your path on how you will get from A to B 
    • However, do not get too ahead of yourself: it can be tempting to chase revenues in different areas and spread your startup too thin. Stay focused on your core mission. 
  • “A startup should not exist if it’s not improving something by 10x.” – AJ Piplica, Founder and CEO of Hermeus  
  • Incentives and risks must be aligned 
  • You cannot have your cake and eat it too; your company must be all-in when working with the DoD or it will not work out 
  • Everyone that contributes to companies operating in this space are systems engineers, because each person is simultaneously considering a multifactorial set of variables, and how those variables interact with one another, according to Sarah Mineiro 

“Hot Take City” Part II from Zach Shore

  • You cannot view the defense ecosystem as a marketplace 
  • Empathize with the decision-makers risk to reward trade-offs when pitching him or her 
  • You might think you have a great product, but that is “not even close to enough” to succeed in the defense ecosystem 
  • There are so many accounts of the perfect solution being built for a specific problem, and yet nothing comes to fruition because all of the decision makers aren’t on the same page, the dynamics of the situation are too complicated, or the solution is seen as threatening to an existing program  
  • You must have a deep understanding of not only how your product or offering can fit into the defense ecosystem, but how it will add value and how you can give an evangelist (who will have to carry the story for you when you’re outside the room) something to buy into 
  • Your defense company must also have the right investors, optimally 
    • The investors need to be solvent enough and committed enough to play a longer game than they’re used to play when working with the DoD vice the commercial sector
    • You will lose credibility with the department if your investors are flaky 
  • This is the ideal space to operate in if you’re a glutton for pain 

Closing Thoughts from Sarah Mineiro

  • Save some space for grace
  • “Businesses and organizations are not just the products or the processes in which they operate; they are very complex gatherings of people. And at the end of the day, the reason that we do this is for people.” – Sarah Mineiro 
  • Sarah is a fan of investing in vertical integration and supply chain security companies, but she mostly looks to invest in companies that understand that people matter

 

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Notes By Stan Rizzo

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