Memo: The Forming of Europe’s Defense Technology — A Story Within a Story
The European security landscape is shifting, but not in the way you may be thinking. There’s a development not widely understood that is set to materially affect the forming of European security, especially within technology.
A unique enclave is about to form in the Western geopolitics of defense. With all of the Nordic NATO countries about to report directly to JFC Norfolk in Virginia, the region is set to form a tight relationship with the U.S., uniquely bridging defense agendas between Washington and Brussels. The rest of Europe will continue to report to JFC Brunssum, Netherlands.
With this — and together with the Baltic states and Poland, who feel the threat of Russia as urgently — the Nordics is about to become a place that sets the pace for new European defense technologies.
Following the inaugural Nordic Defence Tech Summit in Helsinki, the Nordics is set to see a slew of initiatives aimed at narrowing the transatlantic gap. These include university programs designed together with the U.S. Department of Defense and Stanford as well as startup accelerators that cater to allied procurement channels.
What has driven this development is a perfect geopolitical storm where Russia’s invasion of Ukraine collides with a U.S. perceived threat from China. This set in motion a multitude of interdependent events that cemented a transatlantic bond in the Nordics at a time when the U.S. had already started to distance itself from NATO.
A Story Within a Story, the Story of AUKUS
Unknown knowns. This is the space where European defense operators will be forced to operate in the short to medium term. As the third quadrant of the Rumsfeld Matrix, it is the realm that we dismiss as irrelevant until it becomes evident.
Not widely reported nor well understood, a key geopolitical shift of tectonic proportions is about to impact the forming of Europe’s defense space. Those who are aligned with it will help lead development on the old continent.
As European policymakers are wrestling the Russian threat between national, E.U. and NATO interests, the U.S. is increasingly shifting its focus towards the rising threat from China through the formation of AUKUS, a sprouting naval coalition between the U.S., U.K. and Australia. While U.S. NATO criticism is widely attributed to Donald Trump, the formation of AUKUS is happening regardless of who sits in the White House.
This has led to hiccups in European defense cohesion as threat perceptions of Russia and China collide with varying outcomes. As a result, the old continent is turning into a two-speed defense economy where countries sense threats differently.
Controlling the Internet and the High North
But why would AUKUS want to seek cooperation with the Nordics?
AUKUS is a practical cripple without Finland and Sweden who produce more than half of the Radio Access Network equipment that connects the world’s computers and mobile phones to the Internet. To secure that AUKUS’ new technology initiative called Pillar II will function, the U.S. is courting Finland and Sweden so as to assert some control over their RAN technology.
What’s more, land-based communications have become increasingly relevant after DoD’s February announcement of a suspected Russian space nuke that could eliminate U.S. communications satellites, a strategy it has deployed to rid itself of foreign RAN dependency.
As if that wasn’t enough, the U.S. is also looking to the Nordics to help monitor the Chinese threat that comes from the increasing activity in the Northeast Passage, the Arctic shipping route that is getting increasingly relevant amid rising global temperatures.
With the October subsea cable sabotage outside Helsinki, and the suspected perpetrator’s departure through the Northern sea route, cooperation between the U.S. and the Nordics on defending the High North looks increasingly viable.
While AUKUS is initially focusing on naval defense, the only supply road to Russia’s largest naval base near Murmansk, a region with the highest concentration of nuclear reactors — and waste — in the world, runs parallel to the Finnish-Russian border, aligning Finland’s land-based forces with AUKUS interests.
As European NATO struggles to decide on how to move ahead, the U.S. is moving swiftly with creating around AUKUS and has invited both Australia and the U.K. into key defense initiatives such as IQT and BMNT. The three have also thrashed any defense trade restrictions. With Brussels stymied, they are setting their eyes on the Nordics as well as the Baltics, both increasingly receptive as strategies start aligning.
Defense Tech, Dual Use or Deep tech?
Defense investing is an underdeveloped space where many have their own perception of what defense technology is. Our thesis is that the space can be divided into three categories, all with distinctively different requirements and outcomes.
Deep tech: A space where ESG and green transition inclined investors can support the defense theme by investing in technologies that support economic resilience at large. These include artificial intelligence, quantum and today even small nuclear reactors. Investors in this space are both private and government institutions and typically have little or no experience in defense. Competition for dealflow is fierce.
Dual use: Products that are created for consumer applications but that may also have actual defense functionalities. These include drones, rocket engines, open-source intelligence and communications. Investors are mostly private or government institutions with some or a good understanding of defense. Competition for dealflow is moderate to strong.
Defense tech: While deep tech and dual use may overlap, defense tech is a distinctively different category. These are tech companies with a strict defense-first approach, including lethal products, where the firms main clients are different military branches. Products may be developed together with the military for a specific need. Investors in this space are deeply embedded in their affiliated defense and/or intelligence networks and are mostly private investors who aren’t constrained by institutional conformity. Deals are mainly proprietary.
With two supranational institutions, the €1 billion NATO Innovation fund and the €8 billion European Defence Fund, leading the way in creating the European defense technology ecosystem, progress is slow and focused on deep tech and dual use because of their non-lethal nature.
This is strikingly different from the U.S. ecosystems, which are led by private initiatives such as American Dynamism and Lux Capital and supported by focused government initiatives such as the Defense Innovation Unit and the Office of Strategic Capital. In Europe, the most important category, defense-first technology, still remains an orphan.
Flying Too Close to the Sun
While the European and the U.S. approaches to developing defense technology ecosystems differ markedly, we believe that the two will converge in the European first-mover markets, as has already happened in the U.K. where the National Security Strategic Investment Fund structure has been modelled in part around IQT. But as long as convergence remains uncertain, the insecurity amongst operators and investors will continue.
Venture capital alone is one of the most difficult investment classes with the power law yielding results to only a select group of investors. Defense technology may be its most selective category. Not only does it include the power law, but it is also part of a complicated web of clandestine military and intelligence functions, often across borders.
Defense investors need not only to build trust but also interpret weak signals as geopolitics shift while simultaneously finding themes that carry through cycles where defense startups can grow into going concerns.
With this, surprises will be inevitable, as was the sudden closure of Shift, the U.S. Department of Defense backed private sector collaboration which ran the Defense Ventures Fellowship that matched military personnel with defense startups. The closure came just months after the inaugural Defense Ventures Summit which was attended by investors from Andreessen Horowitz to JP Morgan. Speakers included the CTO of Palantir and a co-founder of BMNT.
Whatever the reason behind the closure of Shift, any defense or intelligence organisation becomes uncomfortable when too many non-operatives become involved. With this, defense investors and operators need to balance the temptation of Icarus and the wisdom of Daedalus when flying towards the sun.
The defense ecosystems that facilitate the fastest contracting channels for both allied and local needs as well as access to the biggest and most liquid exit markets for defense startups will attract the best talent, the most investments and create the best defense technology startups.
(NB: Four weeks after the publishing of this memo, Finland became the first signatory of the ICE Pact alliance for Arctic security.)
Jonas Dromberg is the founder and principal at Revalence Ventures. Based in Helsinki and Stockholm, Jonas has spent more than two decades in venture capital and finance. Prior, he established the Nordic technology practice with Bloomberg, was a venture partner at one of the region’s top venture funds and completed his doctorate at IE Business School in Madrid by studying venture capital and private equity investors. He is a member of the European and AUKUS defense investor networks.
Helsinki and Stockholm, June 10, 2024.