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The Power of Government as an Anchor Customer

February 14th, 2020
Picture of Theresa Condor
Theresa Condor

The past 10 years have been the decade of New Space and commercialization of the space sector. The amount of private capital plowed into space has ballooned from some $200 million from 2009 - 2011 to nearly $3 billion from 2016 – 2018, according to Space Angels. With the space sector growing at twice the rate of global GDP, nations have begun looking to this new and renewed space sector to drive innovation and growth. Governments increasingly compete to attract and facilitate the emergence of global space champions. Even the European Commission is getting in on the action with a new space-focused equity investment fund and an emphasis on downstream services.

Undoubtedly the involvement of the public sector is crucial in creating thriving space companies – none has ever been created without it. However, with Silicon Valley-driven innovation hype, the indispensable role of the public sector is being replaced with a WeWork-like belief that the private sector alone will deliver magical growth. In fact, the role of the public sector over the past decade has been crucial and will continue to be critical to innovation and growth of the sector. Truly understanding this statement has important policy implications for what needs to happen going into the next 10 years to make sure that the promise of the 2010s is fully realized rather than this being yet another “hot sector” that falls flat.

The role of the public sector in space has been notable in the past during the moon landing effort of the ‘60s, but today it has been accused of being slow and behind. There is actually limited truth to this criticism when one thinks of the successes of SpaceX, Maxar, and an increasing number of Chinese space companies, all born out of public sector anchor customer relationships.

These successful ventures have attracted an ever-greater diversity of players to the space sector and the cross-over with other industries such as digitalization and Artificial Intelligence (AI) will accelerate. With a growing number of employees from outside the traditional sector, space has now become a domain not just of technological innovation and economic growth, but also a tool to help solve big socioeconomic problems such as climate adaptation, deforestation, trade.

A closer look at the actual roles played by the public sector and the private sector reveals a far more nuanced picture. The public sector is actually the one that creates breakthrough innovation by financing high-risk endeavors, which the private sector then operationalizes with great skill and finesse. For success in the space sector, the private and public must work in concert. The reason for this lies in the space sector’s unique role for many public services – from security and defense to the daily weather, space is an indispensable corner stone of public services.

This division of roles is borne out by research from the noted economist and government policy advisor Mariana Mazzucato, author of “The Entrepreneurial State: Debunking Public vs. Private Myths,” who highlights the role of the public sector in co-creating and directing missions that lead to big innovation, with private sector commercialization a spillover effect. Mazzucato highlights the various underlying technologies of the iPhone were invented by Defense Advanced Research Projects Agency (DARPA), the Department of Energy (DoE), National Science Foundation, and other public sector bodies in the U.S., rather than Apple, as is commonly assumed. Mazzucato recommends that breakthrough innovation solving intractable societal problems requires the public sector acting as a market maker and also creating demand through procurement policies. This is in addition to a merely facilitative role that aims to create an enabling environment.

This playbook of public sector-directed effort has already been used to great success in the space industry in a few specific examples. The Commercial Orbital Transportation Services (COTS) program in the U.S. for the creation of commercial resupply vehicles combined milestone-based funding with the opportunity to compete for services contracts, allowing companies like SpaceX and Orbital ATK to also invest private funding with the security of a possible contract if they were successful. According to NASA, the result was two top notch spacecraft for “up to 10 times less than projected” if they had been developed by NASA in the traditional way. The spillover effect is the resulting commercialization of the spacecraft — SpaceX has created some 7,000 jobs and generates revenue of $2 billion. Another example is in Earth Observation (EO), in which imaging satellites developed and run by private companies are procured through government contracting, in some cases with early public sector funding to build the satellites before private funding took over, like in the case of Spot Image.

In fact, for all of the global space champions, the mix between government customers and commercial customers is still 40% to 60%, with the growth of a commercial business flowing out of anchor customer contracts with government users. This makes sense when you consider that technological innovations require large capital investments to serve markets that don’t exist yet. Through the role of the public sector as an early anchor customer, commercial markets and investors follow. At the same time, space is a key enabler of public services such as global communications, safety and security, weather forecasting, and air traffic control, and there are legitimate needs to be met through procurement processes.

The past decade’s focus on entrepreneurship and a vaulted status for the private sector has obscured the reality of government’s role in the space sector to drive breakthrough innovation and new market opportunities. It would serve us all well to be aware of this going into the next decade, so that the promise and excitement of the 2010s comes to fruition. Although significant amounts of capital have been poured into the sector recently, there have yet to be a new set of global space champions or high-profile investment exits.

By playing the role of an anchor customer through competitively sourced procurement services contracts to meet real public sector needs, governments can give the first dose of confidence to commercial customers and investors. The result is fourfold: domestic jobs and growth; reliable service providers for the long-term; lower cost through competitive bidding and performance risk transfer; and global leadership. It is this symbiotic relationship between public and private that leads to breakthrough innovation, new markets, and growth.

The playbook is clear and it is one that countries like China and Israel are pursuing aggressively. Other regions with equally large economies can replicate this innovation strategy as well, if the will is there to recognize the critical and nuanced relationship between public and private. VS