To help bolster the industrial base against potential adversaries, the Defense Department is planning to kick-start its “Trusted Capital Marketplace” project this fall, said the undersecretary of defense for acquisition and sustainment Aug. 20.
The effort, which the Pentagon announced earlier this year, is in response to growing concerns about foreign nations such as China investing in U.S. companies and how that could affect national security, said Ellen Lord. The goal is to link technology startups with trusted sources of capital…
“The idea here is that we don’t often look down into the fourth, fifth, sixth, seventh layer of our supply chain to understand where we’re sole source or where we’re dependent on a foreign entity that might not be a trusted source,” she said.
That was from a nice update, “Wary of China, Penatgon to Launch ‘Trusted Capital Marketplace’ This Fall.”
My original assumption seems to be wrong, that the TCM was really about spurring innovation and creating a venture capital culture for defense startups. The match between US investors and startups may not be the primary goal of the marketplace, but rather a secondary benefit.
The primary motivation is to investigate the lower tiers to see where we have sole source suppliers in China or other adversarial countries. I can attest to the difficulty government officials have in getting these types of data. The data just doesn’t exist — even data on major subcontractors can be hard to come by. The best resources seem to be private services DACIS and Radar.
Once the data are generated, the DOD could then provide a contract to, say, Lockheed, to produce the item on a cost-plus basis.
But unlike many foreign governments who subsidize favored firms directly and openly, the United States government likes to hand these things out in convoluted ways that have the appearance of impartiality.
Now, whether or not the Trusted Capital Marketplace will be in some sense fair or impartial, the point is that someone else is expected to invest in these companies to fill the gaps — not the government. But these are private individuals. They’ll only invest if they anticipate a return that beats alternative investments. That means the investor only wants to invest if there’s some government guarantee, implicit or better yet explicit. For example, if there’s an identified sole source item made by China, and that trusted investor can capture the sole source supply and make monopoly profits.
The fact that the DOD would demand cost and pricing data (now that it knows about it) and limit profits to 10 or 20 percent provides less incentive. If several competitiors are in the running, then the investment looks riskier still.
Nevertheless, this is why the government cannot introduce a single investor to a company. It presumes that the government as a consumer will bail out the investor by assuring purchases of the sole source good, regardless of quality or price. The government could transact directly with the company in question. But then what’s the point of the TCM except to generate data on supply gaps.
The TCM rationale seems to be focusing on existing items in the market. Like, if some particular valve crucial to a ship system is made in China and were suddenly cut off, then we’re in a pickle until we create the capacity ourselves.
So the TCM isn’t simply about the next technology, or beating China to new technologies. Its concern is identifying existing technologies that rely on Chinese sources. Otherwise, what’s the point of collecting data down the supplier tiers? That’s only about existing supply. Not future supply.
In some sense, if the issue were that China was investing in emerging defense technologies which the US government was not, then we must ask our government officials why those activities aren’t part of the (large) defense R&D program.
This comes back to the issue of getting new projects started and funded, which China has an advantage in. The TCM from a technology development viewpoint is a way around long funding timelines in the DOD. The investors hope that funds will be available a few years for reimbursement.
Here is another point of view. If emerging technologies are identified, and the DOD won’t invest in them now, then why should investors stake their capital to develop them anticipating the DOD will want them in the future?
Perhaps the TCM is a way of allowing investors with non-consensusal ideas to try them out, knowing the DOD would never support them up front, but if they were successful the DOD can buy them later on. If so, then it has to pay super-profits to the successful investors to compensate for the likelihood of failure and zero revenues. Pricing would be based on the portfolio rather than a single object. This concept has some attractive features, if you can trust government officials not to made pricing on marginal cost of reproduction.
But what about the primary goal of closing vulnerable supply gaps in existing technologies?
We must ask ourselves, if the good or service currently supports the US military, and it is of a known specification because it exists in the supply chain, then how hard is it for a US or allied supplier to ramp up? This is especially true if we extrapolate additive manufacturing out a couple decades. In fact, what US manufacturing seems to be getting good at isn’t mass production of a homogeneous good, but the ability to customize and pivot to new products.
This supply-chain flexibility was one of the best responses to the supposed scare of Chinese dominance of rare earth metals (sorry, I don’t remember the source). The rest of the world could simply start up its own production within short order should China decide to exploit it’s so-called market power. This seems to have been observed empirically. For the time being, the US consumer (and indeed, the US military) should be thanking the Chinese citizen for subsidizing the material in the near term, saving us money that could go into other uses. Why not use those savings to build up a strategic reserve?
There are a lot of moving pieces to the DOD’s trusted capital marketplace. The market may have to segregate based on whether it is addressing current sole source supply gaps, or whether it is addressing emerging technologies that may or may not pan out. These will entail different risks to investors, and require different commitments from the government. For now, there is just an implicit guarantee that a project will get funded after an investor brings it to maturity. When the time comes, with a change in leadership and regulations, who knows what will happen.
End note:
The first sentence of the cited article, which said that the industrial base was getting bolstered against adversaries by the DOD, is a strange way of framing the problem. Those adversaries are the defense official’s, not the business-person’s. From the business point of view, China is not necessarily the adversary. In fact, China is coming with generous terms and plenty of capital.
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