The vast majority of defense tech exits are acquisitions, according to JPMorgan’s recent applied technologies report. But unlike semiconductors, which tend to be more mature in the development cycles when acquired, defense tech start-ups are “typically acquired early in their lifecycles as buyers are often willing to invest in nascent technologies to accelerate their R&D efforts and address national security concerns,” the report states.
JPMorgan separates what it calls applied technologies into four distinct categories: defense tech; robotics, automation and AI; semiconductors and microelectronics; and space tech.
The report defines acquisitions as including strategic M&A, reverse mergers and buyouts. In 2024, there were about 46 acquisitions, slightly fewer than the prior year, but acquisition proceeds as a percentage of total exit proceeds dropped to 81 percent from 99 percent in the prior two years. While the acquisition count broken out by individual category reflected some overlap between industries, the defense tech count in 2024 (though double what it was in 2022 and 2023) continued to be substantially lower than each of the other three categories.
Up until now, private defense tech start-ups have had to raise successive venture rounds to scale up, says Sam Gray, executive vice-president at Second Front Systems, which helps governments quickly access and deploy commercial software. Gray previously headed the Silicon Valley Defense Group, author of the NatSec100 report, a yearly list of the top 100 venture-backed, dual-use and defense technology companies advancing US national security.
Meet in the middle?
A key impediment to acquisitions in this category is mismatched valuation expectations between would-be buyers and sellers.
Enabling more private defense companies to exit at valuations that VCs deem attractive requires investment banks to hire more people with venture experience and national security expertise, says Gray.
Although the staff on investment banks’ public market desks for aerospace and defense sometimes know defense acquisitions better than acquisition specialists because they’ve been doing it for decades, they’re not able to value venture-backed companies, which break the model of the major defense contractors, Gray tells Venture Capital Journal.
The market capitalization of a major defense company is typically below 2x its topline revenue, unlike what’s seen in software and high-growth venture-backed defense companies. In the recent past, a bank’s public market desk would tell a company such as Anduril what kind of valuation it could expect at IPO, with a multiple as high as 5x reserved for just a select few, Gray notes. In venture, 5x is considered a terrible outcome, since so much of venture is centered around software, which continues to command strong multiples even in the public markets, as Palantir has demonstrated.
Gray sees signs that more specialists are joining investment banks, where they will be able to more accurately value defense start-ups aiming for an exit. Two years ago, the audience at the NatSec100 launch event comprised mainly large defense tech VCs such as Andreessen Horowitz and Lux Capital. This June, Gray saw more representatives from the traditional public market allocators, and he sees the LP base expanding as well.
With national security front of mind in a way it hasn’t been before, many groups want to put capital to work in that space, Gray notes. “It’s driving people to hire folks that really know what they’re doing – on all sides.”
That includes experts in the operational use of military technology, as well as those with Congressional appropriations experience who understand how the whole system works for funding defense tech.
“That’s a good thing,” he says. “We want better educated investors and investment offices that understand how to properly value this and look at the risk profile of all these companies.”
Acquisitions may be tougher for some companies that are mostly reliant on government contracts and are focused on a single product line but have attracted large amounts of venture capital. For example, Epirus, which has accumulated $543 million in venture funding, raised $250 million this year in a Series D that gave the company a post-money valuation of $1.1 billion, notes Andrew King, founding partner of Bastille Ventures, which is raising a fund of funds to back European defense funds.
“When you start talking billions of dollars of financing put into venture capital deals, how do you exit?” asks King. “This is what we do, but you’re going to sell to whom? And how are you going to sell? And how are you going to exit in five to seven years, 10 years even?”
A lot of defense tech start-ups are incurring down round valuations and are likely not to survive over the next year, he predicts. King sees a bifurcation of haves and have-nots.
Although Anzu Partners plans for exits when it makes an investment, in reality each company has its own trajectory based on its technology and customers, says managing partner Whitney Haring-Smith. Some will be in demand as acquisition targets for prime contractors, while others may have a better shot as profitable IPO candidates. Still others make sense as standalone profitable businesses.
The implication when framing acquisitions around the size of multiples of revenue is that these companies are profitable, Haring-Smith says. Depending on the size of their contracts, whether government-based or commercial, there may be less pressure for venture-backed defense tech companies to exit in the expected ways. “In some cases, the government can be a very powerful scaling customer, as well as a profitable scaling customer,” he says. “Some government contracts can be both sizable and profitable. That means we’re not talking about the multiple of revenue. We’re talking about a view on [the size of] contracts and a view on earnings.”
If it’s liquidity that defense tech investors need at some point, securing profitable contracts that enable portfolio companies to continue scaling suggests plentiful secondaries opportunities that are potentially lucrative.
“I can’t tell you how many times I get pinged weekly about roughly 10 names in my portfolio by folks from Wall Street, family offices, funds of funds, etc,” says Jackson Moses, managing partner of Silent Ventures, an early-stage investor in aerospace and defense tech. “They say ‘We’re price takers. Name your price. We think these companies are going to be massive. Do you want to sell us any of your equity?’”
