In an era of heightened geopolitical tensions and rapid technological advancements, the United States continues to prioritize defense innovation to maintain its global leadership and national security. With a proposed $850 billion defense budget for 2025, including a significant allocation for research and development, the Department of Defense is leveraging cutting-edge technologies and fostering public-private partnerships to stay ahead. By examining the landscape of defense tech investment and the DOD’s efforts to bridge the gap between innovation and production, we provide a look at how the U.S. is using the power of innovators to address the latest national security challenges.
In 2023, the DOD released the National Defense Science and Technology Strategy (NDSTS), which articulated the department’s priorities and the importance of “leveraging critical emerging technologies … to bolster our competitive advantages … that will help ensure our national security over the long term.” This builds on the DOD’s technology vision established in 2022 by Undersecretary of Defense for Research and Engineering Heidi Shyu, which outlines 14 critical technology areas, including quantum science, AI and autonomy, and space technology as part of the greater national-defense strategy.1
Making it successfully through the “Valley of Death”
From large defense incumbents to small startups, the DOD works with a variety of partners to fulfill its needs. However, for startups with tight resources and less familiarity with how the DOD operates, procuring a government contract can be a very challenging process to navigate. This is a problem, as startups are often the ones developing the latest technological innovations. Many startups encounter the “Valley of Death,” the difficult period between receiving initial government funding and achieving commercialization. To solve this problem, the DOD has been redefining how it collaborates with private companies. This, combined with the ample amounts of private capital, means the success rate of defense tech startups could greatly improve.
To support startups in overcoming these funding challenges, the DOD leverages the Small Business Innovation Research (SBIR) and Small Business Technology Transfer (STTR) programs through the Defense Advanced Research Projects Agency (DARPA). These DARPA programs provide funding to founders who apply to conduct research and develop prototypes based on defense agencies’ needs. The demands on a startup’s time and capital can be significant as they move from concept (Phase I) and prototype (Phase II) to commercialization (Phase III). Over the last decade, only 16% of DOD SBIR-funded companies received Phase III contracts.2
Phases of SBIR & STTR programs and the Valley of Death
A diagram illustrating the phases of research and development experienced by startups. Phase I is concept development, creating proof of concept, testing feasibility and the commercial potential of a research project. The time frame is six to 12 months. Funding is between $50,000 and $275,000. Next is Phase II, prototype development. In Phase II, R&D continues, addressing the technical hurdles and progressing closer to commercialization. The time frame is 24 months, and the funding is between $400,000 and $1.8 million. Next is the “Valley of Death,” the period between receiving initial funding and achieving commercialization, where only a small share of businesses survive. When they do, they reach Phase III, commercializing technology in the private sector or the federal contracting marketplace. They must first extend or complete work from prior SBIR/STTR programs. The time frame varies, but a program of record contract is the most desirable. No SBIR/STTR funding is provided during this phase.
The Small Business Innovation Research (SBIR) and Small Business Technology Transfer (STTR) programs provide non-dilutive funding to small businesses that propose solutions to the corresponding agency’s solicitations. To accelerate bringing new tech into use, the DoD and other federal agencies are testing new ways to fund and support startups across the valley of death, where small businesses have often perished.
Startups who make it to Phase III still face an uphill battle to meet the DOD’s requirements to achieve the coveted Program of Record (POR) status. A POR is recorded in the Future Years Defense Program for which Congress has appropriated funding. This is a critical milestone for a defense tech company. However, few companies reach this goal: Less than 1% of Phase I awardees achieve POR status.
The DOD jumps into action
The DOD has launched multiple innovation-focused organizations over the last decade to foster the development and deployment of new technologies. This strategy aims to create greater alignment between how the DOD is used to working and how startups prefer to operate. This multipronged approach is illustrated by a growing list of organizations and programs, including:
- The Defense Innovation Unit (DIU), which focuses on scaling defense innovation through greater connection and collaboration with private companies
- The Office of Strategic Capital (OSC), which aims to attract and scale private capital to bolster national security
- National Security Innovation Capital (NSIC), a new program focused on funding hardware startups solving defense-related issues
- AFWERX, the innovation arm of the Air Force focused on connecting with the startup ecosystem and adopting new tech
- NAVALX, the Navy’s innovation arm focused on being a super-connector across private companies, academia and other federal agencies
- Army Applications Lab, an Army organization focusing on bridging the Valley of Death by providing funding and testing and potentially deploying new tech
This builds on the activities of established organizations like DARPA and In-Q-Tel.
Ramping commercial technology adoption through the DIU
Launched in 2015, the Defense Innovation Unit was specifically created to accelerate DOD adoption of commercial technology, to transform military capacity and capability and to strengthen the American national security innovation base. The DIU 1.0 and DIU 2.0 strategies emphasized connecting the DOD with the commercial technology sector and proving out the innovation hub’s model for delivering commercial capabilities to the battlefield. Other Transaction Agreements (OTAs) were a key part of DIU 2.0, as the program specifically aimed to help startups bridge the Valley of Death. Launched in 2024, DIU 3.0 is the latest strategy to ensure the organization is better equipped to specifically target bottlenecks and maximize the impact of its funds across the DOD. The DIU’s 2024 budget dramatically increased to $983 million, up from $70 million in 2023.3 The DOD has explicitly stated that the increased budget is aimed at improving its relationships with startups and investors as part of its DIU 3.0 strategy.4
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Robust defense tech investment bucks recent trend
In response, venture investment in defense tech has grown considerably since 2017, remaining relatively robust as total venture investment fell from its peak in 2021. So far in 2024, investment in defense tech has mellowed as investors take stock. An incredible $70 billion was deployed in 2022 and 2023, and even with the slowdown, investment is on track (at around $25 billion) to pass pre-pandemic levels.
U.S. Defense Tech Investment Activity
The infographic shows U.S. defense tech investment activity from 2014 to 2024, indexing U.S. venture capital investment and defense tech capital investment at 2014 levels. Venture investment in defense tech started to accelerate in 2014 before peaking in 2021. Still, defense investment remains relatively robust compared to overall U.S. venture capital investment since the 2021 peak. Investment is on track (at around $25 billion) to pass the levels experienced pre-pandemic ($21 billion in 2019). Source: PitchBook.
Defense tech includes advanced computing & software, advanced materials & manufacturing, autonomous systems, biotechnology, defense-specific technologies, human-machine interfaces, quantum sciences, renewable energy generation & storage, semiconductors & microelectronics, sensing, connectivity & security, and space technology. These categories align with the DOD’s CTAs. US-based, VC investment.
Source: Data from PitchBook. YTD 2024 as of 7/31/24.
The highest-funded categories since 2014 within defense tech were:
- Advanced computing and software: Includes startups providing intelligent data-management software, data resilience and multicloud networking. With the rise of generative AI, AI-related data processing is an emerging area.
- Sensing, connectivity and security (also known as integrated network systems-of-systems): Includes startups providing security operations centers to proactively protect, detect and recover systems. Investment activity is concentrated on solutions protecting industrial systems, financial compliance and multicloud networks.
- Biotechnology: Biotech is a broad category, but as it relates to defense tech, AI-driven therapies and precision medicine are a focus. The DOD has indicated that biomanufacturing is a key focus area for the agency.
- Autonomous systems: A rising priority for the DIU, illustrated by the 2024 Replicator initiative which secured a $500 million budget for all-domain attritable autonomous systems (ADA2). Notably, this sector has reached a new high in U.S. venture capital funding in 2024 so far. Similar to advanced computing and software, the AI surge has driven a range of use cases, including automated industrial and logistics robots, and uncrewed aerial and field intelligence systems.
Cumulative Invested Capital (from 2014) for Select U.S. Defense Tech Categories
The line graph titled shows investment trends across six categories: Advanced Computing & Software, Autonomous Systems, Biotechnology, Renewable Energy Generation & Storage, Sensing, Connectivity & Security, and Space Technology. From 2014 to 2024, all categories experienced significant growth. Advanced Computing & Software and Sensing, Connectivity & Security saw the highest investments, with Advanced Computing & Software peaking at 54 billion dollars and Sensing, Connectivity & Security at 38 billion dollars in 2024. Autonomous Systems also saw substantial growth, reaching 30 billion dollars in 2024. Biotechnology investments increased steadily, peaking at 32 billion dollars in 2024. Renewable Energy Generation & Storage and Space Technology, while lower in comparison, also showed notable increases, with Renewable Energy Generation & Storage reaching 17 billion dollars and Space Technology at 21 billion dollars in 2024. Data from PitchBook, year-to-date as of July 31, 2014.
Companies can appear in more than one category.
Source: Data from PitchBook. YTD 2024 as of 7/31/24.
The outlook for defense technologies
The tumultuous geopolitical landscape seems unlikely to let up any time soon. The DOD’s continued emphasis on technology as a major factor for its mission is apparent with the creation of a multitude of initiatives, like the DIU, supported by significant (rising) budgets. The number of startups working on defense-orientated technologies is rising, backed by record venture investment. The DOD’s acknowledgement and efforts to support startups and help them bridge the Valley of Death will likely result in more successes, in turn fueling the interest in defense tech.
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References
1.
Office of the Under Secretary of Defense, Research and Engineering, Critical Technology Areas
2.
Defense Innovation Board Strategic Investment Capital Task Force Study: Terraforming the Valley of Death, 2023
4.
Defense Innovation Unit. DIU Announces Strategic Allocation of 2024 Budget and Plan To Scale Commercial Tech Adoption, June 2024
