To execute the mission of the International Space Station (ISS) National Laboratory, we are always looking for promising innovators and entrepreneurs aiming to build great businesses across economic cycles while leveraging the unique conditions in low Earth orbit (LEO). We continue to see significant value creation opportunities in microgravity research and development (R&D) and space-based technology testing in a broad range of areas and, in many cases, at maturity stages that may be too early for private capital.
Although we can work with early-stage innovation and risk, we do need to see a realistic path to private capital traction and resource engagement to build on the significant early support provided by the ISS National Lab toward material economic value creation in the future. We have seen significant startup successes in this realm in the past. However, currently, the S&P 500 Index is down 14% YTD and back to May 2021 levels, and the NASDAQ Composite Index has dropped 23% YTD, wiping out the index gains since November of 2020. Additionally, many of the recently publicly listed companies have seen much steeper declines. Therefore, it is time to revisit the capital access environment for early-stage startups that the ISS National Lab works with. Below, we discuss a few data points and considerations to highlight the current market dynamics.
Private markets take their cues from public market valuation levels, and the current downturn is clearly having an impact, particularly on those looking to raise later-stage venture capital. NVCA data for the first quarter of calendar year 2022 (Q1CY22) showed late-stage, crossover, and growth capital funding declining materially as well as somewhat slowing early-stage funding for the quarter. Per media reports, we have seen some sizable late-stage venture investors cutting back on investment activity for the next 12 months, and some of the crossover investors are facing significant market challenges. There is increasing discussion among venture capital (VC) firms of prioritizing support to existing portfolio companies to weather the storm and of slowed investment activity in the context of heightened volatility in the global economy. Per investor commentary, Q2CY22 is likely to see further declines in the VC funding environment, with later-stage pullback and increased risks to the earlier stages of funding as well.
When it comes to the space industry, the legacy aerospace and defense sector has outperformed the broader markets YTD, but this cannot be said about the recently deSPACed space companies, where the average stock price is now close to a whopping 55% below the SPAC merger price of $10. While questions around the execution risks and eventual achievability of the five-year projections provided during the SPAC merger announcements have been lingering for some time, the risk associated with even downsized prospects as well as related resource access has been repriced further. Additionally, this group is more prone to negative valuation impact from the rising interest rate environment, given their delayed path to positive cash generation. The most recent earnings season indicates that several of the deSPACed space companies may need to return to financial markets, as their current balance sheet liquidity can be counted in just single-digit quarters if recent investment and cash utilization rates are to be sustained. However, strong business execution has still been rewarded in the current environment, as can be seen from the stock price reaction to the May 25 announcement of the National Reconnaissance Office contract award to Maxar, BlackSky, and Planet.
Based on this backdrop, the capital access environment is changing for the pre-seed-, seed-, and series A-level startups in the ISS National Lab ecosystem. From what we see and hear from the investment community, there appears to still be some capital available for early stages of funding. However, the access criteria have started to tighten, and investors are becoming more selective, reversing the trends of recent liquidity-rich years’ significant loosening of investment standards. We are already hearing of “goal posts” being moved; for example, the requirements for a new A round moving toward where B round was just a few months ago.
Balance sheet strength has become very important in the current environment, as is reducing cash burn to extend time to the next capital raise. This topic keeps coming up in our investor discussions, with some investors now looking for two to three years of runway in what promises to be a much more challenging capital raising environment. There is an acknowledgement that many of the opportunities tackled by early-stage deep tech and space startups will require significant capital investment and R&D expenditures to reach and validate their technology breakthroughs (without which there will be no defendable business), and many of these companies are likely to reach their market impact well beyond the current macro cycle. However, the capital-intense models will also be more challenging to fund in a downturn. As per Lux Capital’s recent quarterly letter, “survival is a necessary precondition for growth.”
While the long-term market potential of space and its expanding range of value creation opportunities continues to be recognized, the cost of capital to address them is going up, affecting valuations (driving them lower), and achievable timelines and resource requirements are being scrutinized more. The ability to meet technology and growth milestones will be essential. A faster path to customer traction and revenues will be more so an advantage. This is not just the impact of the macro volatility but also reflective of public investor views towards the fundamentals of the recent wave of space SPAC transactions.
If the recessionary risks in the economy continue to increase, some of the private-sector technology upgrade spending and related demand is bound to pushed to the right, affecting respective customer traction and revenue trajectory. From the perspective of new space companies (and their suppliers), this would imply a further business mix dependence on the government sector, including related demand from primes. This will have implications on organizational capabilities required and on how the business will be valued.
There appear to be some expectations in the industry toward increased consolidation activity, particularly as the inability to raise capital would serve as a catalyst for “sellers.” However, it is fair to question at this point the potential buyers’ willingness to use their equity, which has materially lost value in the recent months, or cash, which has become more expensive if not challenging to raise. Furthermore, similar to prior downturns, the question remains of “how does one catch a falling knife?” With targets getting cheaper by the day, the buyers have less of an urgency to act. That being said, special situations and consolidation will likely create investable opportunities for those with financial standing to benefit from them.
A silver lining to those building a business in a tough environment is that relevant industry talent is likely to become more readily available, as may some of the tuck-in technologies and intellectual property, and weaker competitors will rationalize and create market share opportunities.
We look forward to a discussing the latest financial market trends and more during the upcoming ISS Research and Development Conference (ISSRDC), to be held July 25-28 in Washington, D.C. For more information on ISSRDC 2022 and to register, go to www.issconference.org.