NAME: Raj Shah, Managing Partner

COMPANY: Shield Capital

FOUNDED: 2021

HEADQUARTERS: San Francisco, CA

TECHNOLOGY VERTICALS FOCUS: Cyber Security, Artificial Intelligence, Space, Autonomy

PREFERRED ROUNDS: Seed - Series A

CHECK SIZE: $2 million - $8 million

NOTABLE INVESTMENTS: Hawkeye 360, Diveplane, Albedo, Elroy Air, Vannevar Labs, Overwatch Imaging

Background:

Raj Shah is a Managing Director at Shield Capital, Chairman of Resilience, and an Adjunct Professor at Stanford University. From 2016 to 2018 Raj served as Managing Partner of the Pentagon's Defense Innovation Unit Experimental (DIUx) leading its efforts to accelerate contracting processes and build bridges between Silicon Valley and the Pentagon. Prior to working with DIUx, Raj was CEO of Morta Security, which was acquired by Palo Alto Networks in 2014. He continues to serve as an F-16 pilot in the California Air National Guard and has completed multiple combat tours. He holds a Bachelor’s degree from Princeton University and a Master’s in Business Administration from The Wharton School.

Q: As an entrepreneur and the former Director of DIUx, you understand the challenges facing dual-use and defense start-ups more than most other investors. How does that experience inform your investment strategy and your framework for supporting portfolio companies?

Shield’s investment thesis is that companies at the intersection of commercial and government use cases will outperform and scale faster than those that don’t. For early stage companies, a government customer offers both dependable revenue (though often budgeted 2 years in advance) and testing and data collection opportunities which can accelerate product development. Budget and acquisition reform issues aside, the government pays its bills on time and can be a valuable partner in the early days of development when seeking product-market fit. Additionally, government funding is often a recession-resistant revenue source in volatile market climates.

A thriving national security innovation base, to which technology start-ups are central, is absolutely necessary for liberal western democracies to deter authoritarianism around the world. Commercial technology will be a decisive element of national security as has been publically evident in the current Ukraine conflict. Unlike authoritarian regimes, countries like the United States cannot compel private company behavior, but rather must incentivize our leading technology companies to work on pressing national security problems. I’m quite optimistic that US and Allied governments will continue to make progress in this regard and the next generation of amazing start-ups supporting national security are still yet in their infancy.

I’m proud of the great work DIU and the other DoD innovation organizations have done to make it easier for technology start-ups to work with the government. Despite significant progress, the Pentagon remains a challenging customer with procurement timelines that often exceed the windows in which start-ups need to demonstrate traction for continued funding. Young companies need to be judicious in selecting the optimal time to build out their DoD sales efforts – there is no one size fits all – the right answer is different for every company and product segment.

Q: You’ve been vocal about ways the DoD can become more innovative. Since you left DIUx the DoD has rolled out several new initiatives focused on accelerating contracting pathways and incentivizing increased private investment into dual-use and defense-focused companies (e.g. AFVentures’ Strategic Funding Increase and Tactical Funding Increase Program (STRATFI/TACFI) program, the new Accelerate the Procurement and Fielding of Innovative Technologies (APFIT) program, the Office of Strategic Capital, etc.) What do you think these new initiatives are doing right? What do you think is still missing?

While I’m thrilled to see the continued interest in innovation by senior DoD leaders, what’s most important, and what is often lacking, is the fielding and operationalizing of modern technology solutions at scale.

Many of these programs, including, APFIT and RDER are band aids to a broken core system. We need to reform the core budget and acquisition system to enable consistency, agility, and flexibility – each critical for National Security and for making it easier for young technology companies to support the DoD mission. Fortunately, leaders in congress are pushing for strong reforms and have established a commission to reform the PPBE (Planning, Programming, Budgeting, and Execution) process. I’m honored to be a member of the commission and we expect to release our interim recommendations later this year.

An example of a bright spot is the Office of Strategic Capital, a newer effort to further harness the abundant private capital available in the market and help direct it towards national security problem sets. While still early, if the incentive structures are well thought-through, this office could have significant positive impact.

In the end, budget is strategy. Currently that strategy is not suited to take advantage of accelerating change in modern technologies and technologies processes, particularly with regard to software development. Many senior leaders in both the executive and legislative branches have recognized this gap – I urge them to accelerate their reform initiatives.

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Q: Major defense primes are increasingly looking at corporate venture capital as a path to innovation. Just a few examples – in 2022 Booz Allen launched a venture fund, Lockheed doubled its fund, and L3Harris announced a partnership with Shield. What role do you think primes and these types of investment strategies can play in solving the DoD’s innovation challenges?

Primes play an important role in innovation. In fact, I would argue we need more primes to increase competition and speed. New entrants like Anduril are a very positive development and are helping to level the playing field. We need companies to win based on their superior technology rather than superior bid and proposal teams. Joint partnerships between incumbent primes and technology start-ups, if done in a novel way, have great potential.

Corporate venture capital funds, across industry segments, have historically faced significant headwinds including: changing sentiments with CEO transitions, slower decision processes, misaligned incentives, and difficulty accessing early stage deals. As you noted, Shield Capital has entered into a strategic partnership with L3Harris. We carefully designed the partnership with the innovative CEO of L3Harris, Chris Kubasik, to provide our portfolio companies the immense value of a strategic partner while avoiding the traditional downsides of a corporate venture fund. Our partnership with L3Harris has gone exceedingly well to date – our company founders have teamed with L3Harris and won significant revenue contracts and there is a very strong pipeline for the months and years ahead.

It’s tough being an entrepreneur and it’s equally tough trying to sell to the government – our partnership with L3Harrs gives our founders an incredible advantage over the competition.

Q: Unicorns like SpaceX and Anduril show the growth potential for defense and dual-use companies, but with founders like Elon Musk and Luckey Palmer, they don’t represent the typical start-up experience. In its portfolio, Shield has great examples of companies that have followed a more traditional venture path and successfully navigated the defense market. What lessons can start-ups take from companies like Hawkeye 360, Overwatch, and Resilience?

Start-ups are really hard and there is no single path to success. What’s most important is having the right team of supporters around the founder. At Shield, we are very involved with our founders and do everything in our power to support, mentor, and accelerate their growth. We provide our companies unique expertise in both company building and selling to the government. We also leverage our extensive networks to help with recruiting, fundraising, and partnerships. Simple strategy: work hard and surround yourself with a great team of investors and advisors.

Q: Raising capital at the pre-seed/seed stage can be particularly difficult for dual-use start-ups because traction is often limited to Phase I and Phase II Small Business Innovation Research and Small Business Technology Transfer Grants (SBIRs/STTRs). What are some things these companies can do to position themselves for success in raising the capital they need to grow? Is there a certain level of DoD traction or customer validation that you/Shield need to see before investing?

The DoD can be both a generous and fickle customer. On the one hand, the SBIR/STTR program can be a nice way to receive non-dilutive capital and build customer momentum, but SBIRs/STTRs rarely lead to enduring and scaling results. Thus, I recommend start-ups to be very judicious in which government contracts to pursue in their early days.

There is no shortage of private capital for great companies. More important than just a revenue traction number is whether the founders have “a unique insight into the future.” Do they deeply understand their prospective customers and their pain points, how future technology could solve those pains, and are the customers able/willing to buy it? Without these early insights founders risk squandering too much time on the wrong customer or sales pathway.

Q: Investors often encourage founders to focus on commercial traction first and then come back to the defense market once they’ve reached a level of maturity where their business can sustain itself. What is your perspective?

Like many things in life, it depends. The right answer is different for every company and technology area. For example, in cybersecurity there are ample private sector customers with scale – thus, we’d recommend founders start there and seek government opportunities after the product has matured. In building autonomous vehicles, the DoD has an acute need and special authorities to enable rapid testing – here, we’d recommend starting with government customers and transitioning to commercial later.In the end, understanding which customers have the most urgent problems and are motivated to move quickly is most important.

Q: What is the biggest mistake you see dual-use and defense-focused start-ups make when they pitch to investors?

The biggest error I see is not really understanding the government customer. Start-ups need to know who the operator, buyer, source of budget, and long term program homes are. Not all rapid contracts are the same and so understanding which ones have the highest likelihood of scaling is important. These insights are, of course, one of the many things we assist our founders with.

Q: What are some common traits you have seen in the most successful dual-use companies, within or outside your portfolio?

Team, Market, Technology. These are the hallmarks of great companies, no matter the industry.

The best companies have passionate founders with a deep personal connection to or experience with the problem they are solving.

The market needs to be large enough that when the company succeeds, it can achieve significant scale.

Finally, the technology needs to represent a serious improvement on what’s available today and create moats of differentiation.

Q: If you could give dual-use and defense-focused entrepreneurs one piece of advice, what would it be?

I would say three things:

1. The mission matters. Start-ups take years of sustained effort in order to achieve success. The problem you are solving has to really matter to you, your co-founders, to your future recruits, and, of course, to your future customers. National Security is full of important, exciting problems to solve that truly can help make the world a better and safer place. Democracy is worth defending.
2. Surround yourself with partners and investors who believe in your vision and will be engaged, and willing to tell you the truth directly.
3. It’s an amazing time to found a company focused on solutions at the intersection of national security and commercial markets!