Sunday, May 23, 2010

Angel Funding Better than VCs?

The Kauffman Foundation’s Paul Kedrosky reviewed the Inc. 500, a list of the fastest growing companies. Over the last ten years, 800 hundred firms made that list. 645 firms were either bootstrapped or angel-backed. Only 155 firms took VC money. 81% of the fastest growing companies on the planet did not take VC money! 

I spoke with Jay Turo, the CEO of Growthink, a investment banking firm located in Southern California.  He shared the matrix below (again from the Kauffman Foundation) on the danger of taking Venture Capital. A big take away from this matrix: a firm achieves the highest financial return by NOT taking VC money.

The data was self-reported (this may bias the data, although I am not sure which direction). Also, this data set includes a lot of deals done in the 1998-2000 period which may influence the data also.

But what does this mean for the Space Entrepreneur? Let’s look at the Suborbital industry as an example. Most of these young suborbital companies are bootstrapped or Angel-funded. But over the coming years, the profile of the industry will rise through mission success, the potential for increased NASA-funded projects, and increased speed to market of derivative products/services. As industry awareness grows, VC interest in the industry will undoubtedly increase. But do these young space firms want money from venture capital sources? But if not from the VC's, then from where?  With young software/Internet firms: a few hundred $K, a good idea, and frugal management can get you to market. As a general rule, Space entrepreneurs will need more capital to bring a product to market. I envision scenarios where these companies demonstrate a significant milestone like a flight to XX altitude. To go higher and faster, they need more capital for additional equipment and personnel. Will Angel funding be large enough for the needs of these growing firms? If angel funding is insufficient to reach the next major company milestone, the siren call of VCs will be alluring. If VC funding can taint a company (for reasons I am not going to get into today), what can be done to insulated the New Space industry from that siren call of VC funding while still promoting Industry growth?

Here are some potential solutions:
  1. For a generic list of suggestions, see my overview post on the Seven Signs of a Growth Industry.  Read below for some specifics.
  2. Increase Angel Activity. Again, let me recommend Angelsoft and its tools both for deal analyzing and its Angel groups to consolidate and focus funding toward worthy entrepreneurs. Growing the power of Angels will allow them to participate in larger subsequent funding rounds.  Although Angelsoft is not exclusively focused on the space industry, there are Angel groups using Angelsoft that are space focused.
  3. Increase Mergers and Acquisitions. Between 2001 and April 2010, Google acquired 57 companies. These firms developed a technology that Google wanted and sold their company to the giant search engine. They started their companies with a sale in mind! They planned the liquidity event from the beginning. Aerospace firms built on winning Government contracts shy away from this model because their name recognition and Past Performance are key elements in them winning future business. But suborbital firms (and most of New Space in general) are a part of a new generation of aerospace startups leveraging more than Government research grants to close their business case. I do not hear Armadillo, Masten, or others positioning themselves for sale upon reaching 100KM. I would like to see more space firms abandon the assumption they are building a company that will last 100 years. Once you develop a successful product, sell the company or spin off the technology and then sell the spin-off company. The cash generated both bounds a firm’s need for outside capital (dampening the allure of VC-backed capital) and can serve as the seed funding for the entrepreneur’s next venture. And young space/defense companies ARE being acquired within the space industry. From 2001 through April 2010, General Dynamics acquired 31 firms, Northrop Grumman, 14 firms; Boeing, 13 firms; Raytheon, 13 firms. One of Northrop’s acquisitions was Scaled Composites.  Look for large aerospace firms to duplicate Northrop Grumman’s strategy over the coming years – buying the innovations of the young and risk tolerant.

Venture Capital is like fire, a very powerful tool allowing some firms to achieve the impossible and change the world. But it is fire...I just hate singed eyebrows.

Sunday, May 16, 2010

Lunar Property Rights - A Moon Base Business Case

My interview with Alan Wasser on Lunar property rights definitely generated discussion (including recommendations for changes to the draft bill - thanks everyone). For those not familiar with the space land claims recognition bill, here are the three main points:

  • Establish a Lunar/Martian/Asteroid base and US courts will recognize your claim for up to 4% of its surface (600,000 contiguous sq. miles, 384M acres).
  • Sell the land claims to people on earth (defended by US courts) to immediately recoup investments in the base.
  • Maintain your claim to this real estate by sustaining the base indefinitely with “regular” missions to and from the base.
Again, if you want more details, read the draft bill here. Or comment on the draft bill here. Since this blog focuses on the business side of the space frontier, what would a successful business case for a moon base need to look like (assuming Alan’s draft bill were passed by Congress)?

On the surface this seems like an odd question – can't one build a profitable lunar base for $40B, (assuming $100 per acre)?  Surely $40B is more than adequate not only to recoup investment costs, but to generate an enormous return to investors. But, remember one would have to maintain the base by providing regular transport to and from the moon indefinitely. How long could such a base operate on that one-time cash infusion of $40B before the base would have to start generating enough revenue to offset expenses? Since such regular transport to and from the moon will no doubt be expensive (even using innovative commercial solutions), I believe the revenue portion of the equation will have to be pretty high to offset both base and transport recurring costs.

Don’t hold me to the numbers below, they are for example purposes. You are welcome to build your Moon Base Spreadsheet here, but lets take a look what the numbers say.
First the Assumptions:

And now an initial set of detailed costs:

Now we bring these together in the Pro Formas:

Here are a few humble Observations:
  • Revenue from land recognitions provides incentive to START a base
  • Significant Revenues are needed to SUSTAIN a base. The land grants provide a base about a decade of operations to develop multiple $$ billions in annual revenue. As you saw from the pro formas, even a relatively inexpensive annual operating budget will be $5B per year (assuming six resupply missions per year). That is a lot of revenue to maintain a viable base. 
  • Adding a significant mid-term payout to investors could provide the liquidity the investors desire while still leaving enough capital for the long-term lunar export research and development. The pro formas assume a 200 multiple payout to lunar base investors after three years of operations. Assuming $7B in base startup costs, this would allow for a $14B payment to investors in the start of year four of base operations. Seven years of start-up plus three years of base operations means the investors' big (double your money) payout would come after year 10. 
  • Unless Government, Corporate, and Tourist Customers contribute significantly to base revenue, the base will need to develop significant exportable revenue sources (usual suspects like water mining, solar power farms, etc.) to become self-sustaining. 
  • Increasing the price per Acre paid for lunar real estate (above $100 per acre) is the greatest near-term strategy for increasing base profitability. $200 per acre instead of $100 means the land grants would be worth $80B. Signifcant time should be spent by consortiums on ways to maximize price per acre.
  • Launch pace will be a challenge - can the US handle a launch to a moon base every other Month (six resupply missions per year is my current assumption)?
  • Although not considered here, cis-lunar cyclers may make sense to assist in bi-monthly resupply missions.
  • I asked Alan Wasser what would happen to the land grants if a lunar base successfully opened, successfully sold land grants, and then some years later was to close. Using the railroad land grants of the 1800's as a model, Wasser expects the land grants to be revoked with the closure/abandonment of a lunar base. But to save their investment, he would expect others (potentially including current lunar land grant holders) to buy the struggling base for pennies on the dollar and keep the base operating.
  • The liability of operating the base "forever" is not reasonable nor will a corporation take on that risk without some way to mitigate the risk.
  • I envision a modification to the bill to include language such as “operate the base continually for XX years” as a way to bound corporate liability.
  • Similar to railroad land grants of the 1800’s, corruption and greed are powerful adversaries to good ideas (like transcontinental railroads). I believe this bill will need some language to prevent a lunar base consortium from engaging in the following trickery: Consortium builds a low cost base on the moon’s surface.  US courts recognize the land claims (on the assumption the base would be maintained).  Consortium sells land claims for $40B and distributes ALL the profits to its investors.  Consortium operates resupply missions for the amount of time it takes to sell the land claims (~1-3yrs).  Consortium immediately closes the base with the final sale of the land grants.  Consortium closes the legal entities they used to establish the base shielding its investors from liability.  Note: At this point, if the US courts wanted to revoke the consortium's land grants as a punitive action they could, but they would not be hurting the consortium since the consortium already sold their land claims for $40B. Only those who purchased the land grants would be hurt (disclosure: I am no lawyer, just surmising).
This exercise was very helpful to me. I often need to experiment with a spreadsheet to consider the implications of an idea. Feel free to modify these estimates – again the full spreadsheet is located here.  Can you operate a base for $5B per year? Won’t NASA pay close to $5B per year for access to a lunar base? Do you really need six resupply missions per year?  What if four resupply missions per year were adequate? How do lunar cyclers reduce base operations costs? What would revenue sources like television and marketing rights be worth? What "exportable" revenue sources offer the greatest potential of near-term profits?  All fun elements to go consider.

The big takeaways for me are:

  1. We all need to look for innovative ways to open the space frontier. Lunar land claim recognition is a huge innovative idea!
  2. Leveraging lessons learned from the US land grants used in the cross-continental railroad, we need to anticipate greed and abuse and write legislation that anticipates and penalizes such behavior.
  3. I would be delighted to support such legislation if it were to make it Congress. My congressmen love getting phone calls from me already!

Sunday, May 9, 2010

Space Property Rights: an Interview with Alan Wasser

Below is my interview with Alan Wasser, one of the premier legal authorities on Space Property Rights. Alan has always explained complicated legal concepts in a way my business mind could understand.  Alan believes the scale of current space investment is too small. Alan's plan for "land claims recognition" legislation holds the potential to dramatically increase the size and scale of investment in space, but is such a concept politically possible?  Read on for the details…

Question: How do you think space activists should react to the Obama administration's new space policy?

Alan: I'm just hoping that, now that the President has made it official, the space activist community will finally face up to the truth. On April 15th, at the Kennedy Space Center, The President said:
"Now, I understand that some believe that we should attempt a return to the surface of the Moon first, as previously planned. But I just have to say pretty bluntly here: We've been there before. Buzz has been there."
That makes it official that, as some of us predicted long ago, the Government is NOT going to pay for a Lunar Settlement. In fact, the Government isn't even going to pay for another flags and footsteps mission to the Moon.

Maybe, someday, a flags and footsteps mission to Mars, - maybe - someday, - but the taxpayers are certainly not going to let the government pay for a settlement there either.  So, if you believe, as I do, that the settlement of space is vital for the human species, you've got an unpleasant choice to make:

Option 1: You can stay in a state of denial - insisting that, someday, somehow, Apollo will return, or a pure philanthropist godmother will magically give space to you -


Option 2: You can face the fact that the only way to make the settlement of space happen is to get the for-profit entrepreneurs interested.  Profit. The profit motivation. Capitalism. The love of money is the root of all evil. Racing to open the frontier so the winner can get even more filthy rich.

Ugh!  Disgusting. What will people think of us for suggesting such a thing?  We could only consider that as the absolute last resort.

Yup! That's what we're down to. A lot of space activists will cling to Option 1 at first, but eventually many will accept that "for profit" really is the only way the human habitat can be expanded out beyond the Earth. We're down to our absolute last choice - or nothing.  If Obama could have funded Constellation, he would have. The President's choice to speak on April 15th, income tax day, tells you why he couldn't.

National prestige once required the US to have the world's tallest building. But, eventually the public stopped measuring national prestige the old way. Government space programs, like the world's tallest buildings, have become prestige items for second and third rate powers. Apollo turns out to have been a one-shot event, specific to its era, not the template for space development. Ever since, space supporters have been trying - and failing - over and over again, to convince US taxpayers they need a robust national government space program for spin-offs, incentives for engineering education, jobs, NEO warnings, etc. etc. etc.

Instead, the voters chose more tax cuts!

So it is up to free enterprise to open the space frontier, but that can happen only when there's a potential profit from it large enough to justify the huge risks and long lead time the project requires.

Question: Are there near-term profit motives large enough to incentivize such a push into space?

Alan: The best possibility is the idea of "land claims recognition", harnessing the huge potential value of Lunar and Martian land. It’s the only thing on the Moon that is valuable enough, and the hunt for new lands has always been the driver for human exploration and settlement.

Land claims recognition legislation would commit the Earth’s nations, in advance, to allowing a true private Lunar settlement to claim and sell (to people back on Earth) a reasonable amount of Lunar real estate in the area around the base, thus giving the founders of the Moon colony a way to earn back the investment they made to establish it.

For the details of such a proposal, and its legal basis under international law, see "Space Settlements, Property Rights, and International Law: Could a Lunar Settlement Claim The Lunar Real Estate It Needs To Survive?" which was published in SMU Law School's Journal of Air Law & Commerce, the leading law journal in its field.  Or, for a less legalistic description, with the answers to frequently asked questions, try this one.

As it enacts the new approach to space development, Congress should give private entrepreneurs the hope of profit they need by passing Land Claims Recognition legislation to facilitate the transition to entrepreneurial space development (Colin's Note: see a link to draft Land Claims Recognition legislation at the end of this interview).  If enacted, such legislation would spark a new, privately-funded commercial space race to settle the Moon and Mars, making the new order of space development even more beneficial for mankind than the last one.

Question: But the Obama plan is already supporting commercial space development. Isn't that enough?

Alan: Yes, but no. The problem is that their source of funds is still, ultimately, the US taxpayer.

In effect, we're just changing the kind of government contracts from "cost plus" to "fixed price". Probably a good thing, but nowhere near enough, because ultimately the same anti-tax forces will make sure that pool of money - "their" money - stays too small to fund a government space settlement.  We need a space industry that pays taxes, instead of one that depends on them.

Sending astronauts to the Space Station will be the first revenue stream for private space development. The second revenue stream will be space tourists, starting with the very rich, of course, but expanding as soon as possible to an ever widening segment of the public.

Unfortunately, however, those and all other currently identified revenue streams added together aren't enough to attract real venture capitalists, only enough to attract rich philanthropists. So it's important to look for new, novel profit potentials, like Land Claims Recognition.

Speaking of rich philanthropists, they can unfortunately provide some space activists a way to pretend they support "commercial space" without the unpleasant necessity of dealing with real commerce's need for true profit. They see Elon Musk's motives in SpaceX as "pure", so those squeamish space activists can ignore the fact that Elon made the tons of money he's spending on space from real commerce - selling an intangible service for a gigantic profit.

A true commercial business can raise vastly more investment capital than a charity. SpaceX has hundreds of millions, space settlement will take billions or tens of billions. We can't keep ducking the need for a real big PayPal-style profit potential, commercially generated, not taxpayer financed.

Question: Is the idea of celestial land claim recognition gaining momentum?

Alan: Definitely! One of the best examples is Eric Rice, CEO of Orbitec, a true commercial space company, who realized how logical this idea was several years ago and has done a great job of promoting it ever since. Earlier this year, he got a generous NASA Steckler grant to study the idea. Rice also served as a past President of the American Institute of Aeronautics and Astronautics (AIAA) Space Colonization Technical Committee, and he led six AIAA SCTC members on a Congressional lobbying effort in March 2010 that's led to a web discussion forum on the subject that includes a dozen key legislative space aides already.

He’s even posted a very slightly different version of my proposed draft law here.
He’s asking for feedback, and you can leave comments on the draft bill here.

Question: With Congressional staffers already reviewing and commenting on this draft bill, what are the next steps to get a revised bill to the US Congress?

Alan: Well, we still have a long way to go. The biggest step is to get one or more Congressmen and Senators to sponsor the bill. No one has gone that far, yet. It would also help a lot if more space activists took up the cause and started asking their own representatives about it.

Colin:  Thank you Alan!  I appreciate your efforts to expand humanity out into space.  I encourage my readers to review the draft land claims recognition bill.  Now is the time to make recommendations for needed changes to the bill.  The debate will be helpful to refine the bill.