Introduction To Investing In The New Space Race

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Includes: AJRD, LMT, MAXR, NOC, SPACE
by: Cestrian Capital Research

Summary

The space market is now investable. It's a long run growth industry currently at the stage the technology market was in the 1960s.

Launch costs have fallen c.10x in only a few years - leading to many growth opportunities for investors.

In this article, we lay out a basic framework for thinking about the industry and its players. We will publish deeper dives in the coming months.

Investing In The New Space Race

Space is the new hot market. More so than at any time since the famous Apollo program in the 1960s, there is an excitement about the possibilities that space offers. Imaging, analytics, minerals, water extraction, exploration, tourism – these are all emerging growth segments in the space market. Meanwhile, there are already very solid and dependable cash flows being produced by the relatively mundane activity of satellite communications.

Space is a very particular environment requiring very particular technologies and methods. For instance, the electronic components used in space are often built differently to those on Earth – and putting a satellite into orbit is a lot more difficult than putting up a cellphone mast. Space is also a new market to most. So, in this article, we lay out some of the basics of the business of space, so that interested investors can start to understand this new market in some detail before diving in.

Who Should Read Cestrian’s Space Articles?

We’re writing with the following groups in mind:

  • Technology investors seeking exposure to the next breakthrough market opportunity.
  • Aerospace & Defence investors seeking to understand this adjacent sector to their own.
  • Space professionals interested in the commercial development of their industry.
  • Space enthusiasts interested in the business side of their object of affections.

Space Has Become an Investable Market

You may have noticed of late that space is back in vogue. Many of the most high-profile entrepreneurs have space ventures (e.g., Elon Musk/SpaceX, Jeff Bezos/Blue Origin, Richard Branson/Virgin Galactic); VC investment in space companies is at an all-time high and increasing – a record $3.9B in 2017, according to CNBC; and corporate M&A in the space sector is on the rise (e.g., the $9.2B acquisition of OrbitalATK by Northrop Grumman (NYSE:NOC); the $2.4B acquisition of Digital Globe by MDA (now Maxar Technologies (NYSE:MAXR))). The Trump administration has raised the possibility of further militarization of space, which would entail significant additional defense spending. And only this month the head of NASA has floated the idea of further commercial involvement in the International Space Station as it nears its end of service date.

Whilst the end customers of these space suppliers still includes government – indeed government is typically the largest customer in the sector - increasingly governments are only acting as customers, they are less and less involved in building hardware or consumables or providing software or services from their own space agencies. This is true in the US, in Europe, and it is likely to be increasingly the case in China too. (Incidentally, you might be surprised how far ahead China is in the quest to return to the Moon).

In short, this time around the New Space Race is a commercial affair, with a large number of suppliers operating by the profit motive. Even better, you don’t have to be a VC to invest in this sector – there are plenty of companies serving the space industry which have tradable securities. And there are IPOs to come as the VC-backed community seeks further capital and liquidity. For those SA readers that follow the tech IPO market – see for instance coverage by SA contributor Gary Alexander – this offers a specific type of investment opportunity.

What Counts As Space Business?

Bryce (2017) estimates the space industry to comprise approximately $345B of revenue. The single largest category of revenue is the satellite industry, which accounted for $261B in revenues, comprising satellite build, ground equipment, launch, communication services, etc. The remaining $84B was split between various government activities, including defense, weather, reconnaissance, and so on.

A couple of notable facts spring out right away when one starts to study the breakdown of this sector.

Firstly, it’s notable that the segment which is attracting all the attention right now – launch services, where SpaceX plays – accounted for just $5.5B of revenues or 1.6% of sectoral revenue. Given that SpaceX has sub 50% share of the launch market and it is still worth c.$21B at its last round of funding, meaning it is valued in the range of 10x revenue, it’s clear that the value creation potential in the space industry is material indeed. SpaceX is likely to IPO at some point which we think will be the “Netscape Moment” for the space industry.

Secondly, government spend isn’t dominated by NASA scientific or exploratory missions. It’s easy to assume that NASA is the biggest spender on space matters in the US – in fact, the 2017 US government space budget of $47.5B was split 55/45 in favour of military and non-military agencies. (NASA is a civilian agency). In space, military matters. That may not appeal to some investors, but it’s a fact.

Thirdly, this is a truly global industry. It’s not US dominated – yet – in the way that the tech industry is. In part, this is due to US government policy. The Space Shuttle program reached end-of-life in 2011 and it was not replaced. American astronauts now travel to the International Space Station exclusively on Russian-launched rockets. The vacuum in US government launches has led to European, Chinese and Russian governments and commercial companies all gaining a hold in the market.

Why Space Now?

In short, the cost curve.

Technology investors will be familiar with the relationship between declining cost and increasing penetration of tech into everyday business and consumer life. Originally formulated as “Moore’s Law” which sought to formulate the rate of increasing density of transistors in semiconductor devices – actually as a result of work on the Apollo space program – this was given more modern and colloquial expression by Marc Andreesen, cofounder of Netscape and now a leading VC, who in 2011 stated, “Software is eating the world”. What he meant by this was – as computing power becomes cheaper and coding becomes a language read and practiced by millions worldwide, software executables take on more and more functions in everyday life.

The impact of the downward cost curve in tech was seen firstly in business, where bespoke mainframes gave way to cheaper productized minicomputers and then much cheaper mass-produced PCs, and where specialised CPUs and operating systems gave way to x86 processors and Windows; then in consumer life where scarce PC ownership (speaking globally) has transformed into ubiquitous smartphone ownership, and usability of software transformed from science project to child’s play.

Space is where computing was in about the late 1960s, which is to say it is just moving from a one-time build, one-time-use, highly labour intensive industry, towards a more productized and more automated activity. The three most high profile instances of this shift are:

  • SpaceX’s successful implementation of reusable first stage rocket boosters – which are now in commercial service and have resulted in further reductions in launch costs. If you haven’t seen a video of these vehicles, you should. They are extremely impressive. See for instance: SpaceX CRS-11: Falcon 9 First Stage Landing, 3 June 2017.
  • OrbitalATK/Northrop Grumman’s development of in-orbit satellite servicing spacecraft, which will enable satellites to remain in operation for significantly longer periods, reducing their total lifetime cost.
  • Nanoracks’ standardization of experiment stations on the ISS, reducing the cost per experiment and opening up ISS usage to universities and small companies, and commoditisation of ‘cubesat’ deployments from the ISS.

We can expect to see further innovation to reduce the cost of launch, operation, service and cleanup of satellites and other spacecraft. This cost reduction is likely to lead to a disproportionate increase in unit volume growth, as was the case in computing – from IBM’s (NYSE:IBM) “I think there is a world market for maybe 5 computers” (1943) to Microsoft’s (NASDAQ:MSFT) “A PC on every desktop” (1980). This reduction in cost and increasing standardisation of it is what sits behind the investment opportunity in the sector.

In future articles, we will dive into more detail on this but for now, consider this:

  • Government-owned Space Shuttle cost per launch: $450M (2011)
  • Commercially-owned SpaceX cost per launch, Falcon 9: $62M (2016), $50M (est. for 2018)

This is a simplified metric and it’s not a perfect apples-to-apples comparison – but that’s nearly a 10x reduction in cost in only 7 years.

Whenever that happens in an industry, myriad growth opportunities follow – and that means opportunities for investors to make money. Think telecom, internet, software, computing, medicine, transportation.

How Does the Sector Break Down?

As with any sector, one can analyze space business through multiple lenses. As a basic approach, though, looking at the core activity of each company isn’t a bad way to start. Here’s one such segmentation – note, this is a sample of the market map, it’s not a complete list of vendors. We’ve included some private vendors as we do expect a series of IPOs from this sector in the not too distant future.

Core Activity

Company Name

Ownership

Market Cap/Recent Private Valuation

Launch Vehicles, Launch Services

SpaceX

Private – largest shareholder Elon Musk

$21B

ArianeGroup

JV between Airbus and Safran (OTC: OTCPK:SAFRY / Paris: SAF)

n/a – note, $3.5B revenue (2016)

OrbitalATK – now Northrop Grumman

Public [NYSE: NOC]

$59B

Blue Origin

Private – largest shareholder Jeff Bezos

n/a – no known outside capital raise

Propulsion Systems (rocket motors, satellite motors)

Aerojet-Rocketdyne

Public (NYSE: AJRD)

$2.3B

OrbitalATK – now Northrop Grumman

Public [NYSE: NOC]

$59B

Satellite Construction

Maxar Technologies (Space Systems Loral division)

Public [NYSE: MAXR]

$2.8B

Lockheed Martin

Public (NYSE: LMT)

$92B

OHB

Public [Xetra: OHB]

$555M

Satellite Operation

SES

Public (Paris: SESG)

$7B

EchoStar

Public (NYSE: SATS)

$4.5B

Planet

Private

Raised >$850M to date

Spire

Private

Raised >$150M to date

Other Notable Examples

NanoRacks (ISS cubesat deployments)

Private

n/a

Cree (Gallium Arsenide based semiconductor ICs for space applications)

Public (NASD: CREE)

$4.9B

DigitalGlobe (now Maxar Technologies) – Earth observation

Public [NYSE: MAXR]

$2.8B

Key Developments To Watch

The key developments at present in the space sector – the moves and changes that will yield investment opportunities – include the following:

  • Data. Like every other market, data generation is increasing and accelerating. Earth imaging is the clearest example. No longer a preserve of the military for reconnaissance, or national weather agencies for forecasting, earth imaging services from satellites are now used for crop yield tracking, infrastructure management, competitor research, insurance claim assessment, disaster relief efforts, and beyond. These markets are possible as a result of small, low-cost satellites which are deployed in large constellations meaning more frequent passes over relevant points of the Earth’s surface. This is a key market sector to watch as it has immediately monetizable potential and it plays into the general boom in data collection and analytics.
  • Tourism. The first space tourist, Denis Tito, paid $20M in 2001 for a 7-day space journey. An American, he was hosted by the Russian government because NASA refused to fly a tourist. (Tito was a former engineer of the NASA Jet Propulsion Laboratory, before founding an investment management firm). Today, a number of companies such as BlueOrigin, Virgin Galactic and SpaceX are planning to offer space tourism at far lower cost, initially in the hundreds of thousands of dollars.
  • Exploration. Since the last manned Moon landing in 1972, no human has set foot on another celestial body. This is likely to change in the coming decades and, like the Apollo program that led to the moon landings, planned new manned exploration missions are likely to generate major spending. Problems that have to be solved for humans to explore beyond the Moon include energy (how to obtain energy for propulsion without having to launch it from the Earth), health (how to maintain muscle fitness and other health concerns over long periods of space travel), and sustenance (how to generate water and food without having to launch it from the Earth). These are all major problems, the solutions to which are likely to yield spin-off benefits for other industries in the same way that the Apollo program’s component miniaturization accelerated the growth of the semiconductor industry we know today.
  • Militarization. Every great leap forward in technology has been either driven by military concerns (e.g. the US Department of Defense’s 1960s ARPANET led directly to the Internet) or is rapidly commandeered by military bodies (e.g. cyberwarfare tools). This is generally speaking a great benefit on the technical side because governments commit very large budgets to military projects, which usually means accelerated technology development times and increased technology scope. The most famous example being the Manhattan Project which in only a short time commandeered the leading mathematicians and physicists from the Western world in order to solve previously unsolvable problems such as at-scale controlled nuclear criticality, uranium enrichment with workable yields, and advanced explosive shaping techniques. The benefits of which can be found today in multiple industries. Now, the ethics of this can be argued at the dinner table every night for a lifetime, but the interaction of military purpose and technology development have been entwined since rocks were tools, so it’s unlikely to change soon. The initial military applications in space have been observation-based; that may develop in the future to include actual weaponry.

Our Next Articles

In our coming articles, we will be diving deeper into the “Key Developments” and talking about the companies behind them. We hope you enjoy our work and find it useful. We welcome your comments and feedback, and we look forward to engaging with you more closely over the coming months as we prepare to launch our Seeking Alpha Marketplace service, “Investing in the New Space Race”.

In the meantime, don’t forget to Follow us on Seeking Alpha!

Declaration – neither Cestrian Capital Research nor its principals hold a position in any of the companies mentioned. This article is intended to provide a general background on the space sector, not investment advice of any kind.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.