Pentagon expects billions to be pumped into small businesses following SBA licensing of investors

The federal government has licensed the first cohort of investors under the Small Business Investment Company Critical Technology Initiative, which are expected to inject over $2.8 billion into more than 1,000 portfolio companies, according to the Pentagon and the U.S. Small Business Administration.

The SBICCT project aims to increase the flow of private capital into technology areas deemed critical to national defense capabilities and U.S. economic success, including component-level technologies and production processes. It’s supported by the Pentagon’s Office of Strategic Capital (OSC) in partnership with SBA’s Office of Investment and Innovation.

The initiative is intended to help tackle a major problem the Pentagon is facing.

“Today, the Department of Defense depends on private capital to develop and commercialize critical technologies for our troops. Unfortunately, private markets don’t always have incentives to invest in these technologies, which often require longer-term investments,” Secretary of Defense Lloyd Austin said at the Reagan National Defense Forum in December 2022 when plans to launch the SBICCT were first announced by him and SBA Administrator Isabella Casillas Guzman. “And so without access to capital, for the time that it takes to develop key new technologies, those innovations could die on the vine, or our competitors could get there first. So we’re looking for new and creative approaches” to address the issue.

The SBICCT effort is designed to leverage SBA funding to offer loans and loan guarantees to investors who want to help bankroll companies working on cutting-edge tech that could aid national security.

The U.S. government began accepting applications for the initiative about a year ago. Since July, four funds have been licensed and nine have been “Green Light Approved” by the Small Business Administration to raise private capital, the DOD and SBA announced Tuesday.

“What the SBA does is we will perform our due diligence on funds, and in partnership with the DOD, they will conduct their vetting and security analysis of those funds as well. And when we are at the point where we have completed our due diligence … we are able to then approve those funds to go raise private capital. And we call that greenlighting. So we’re greenlighting them to go raise their private capital. They may be ready right after green light to hold a first close, in which case … once they close on the capital, then we license them. They may need more time to raise capital, in which case, then we would license them upon the first close,” Bailey DeVries, director of the SBA Office of Innovation and Investment, explained during a call with a small group of reporters.

“The way it works is they will have commitments of capital from private investors and commitment from the SBA to provide them with capital, and then over a period, typically a five-year investment period, they will then call down on that capital to make investments in companies. So this is what we anticipate to see throughout the life of these funds,” DeVries said.

Funds licensed under the initiative can tap into SBA guaranteed loans designed to enhance fund-level investment returns, according to a press release.

“Each fund can access up to $175 million in loans which can be accessed through the new Accrual Debenture, which aligns with the cash flows of longer duration and equity-oriented investment strategies and may also be accessed through the longstanding SBA Standard Debentures that aligns to credit strategies,” per the release.

“These 13 funds [that have been approved so far], taken along with the other investment funds nearing the end of the diligence process, collectively project to invest over $4 billion in nearly 1700 portfolio companies focused on all 14 DoD Critical Technology Areas and component-level technologies and production processes. In addition, these funds plan to invest across asset classes including seed, venture, growth, buyout, direct lending, special situations, and fund-of-funds,” the release noted.

The Pentagon won’t be picking the companies that receive funding from investors under the program, according to officials.

“There’s no guidance or direction from the DOD on what companies. What we’re looking for is we have kind of the 14 critical technology areas, and there’s an agreement that 60% of their portfolio will be invested in these, you know, undercapitalized, more difficult technology areas,” JR Gibbens, chief investment officer in the Pentagon’s Office of Strategic Capital, told DefenseScoop during the call with reporters.

The 14 “critical technology areas” identified by Undersecretary of Defense for Research and Engineering Heidi Shyu as key to national security, which the SBICTT initiative is intended to support, include trusted AI and autonomy; space; integrated sensing and cyber; integrated network systems of systems; renewable energy generation and storage; microelectronics; human-machine interfaces; advanced materials; directed energy; advanced computing and software; hypersonics; biotech; quantum; and future generation wireless tech (FutureG).

“This first group of SBICCT Initiative funds represents a consequential milestone in demonstrating the power of public-private partnerships to build enduring advantage by growing and modernizing our supply chains, strengthening our economic and national security, and benefiting the development and commercialization of critical technologies that are key drivers of our U.S. industrial base,” Shyu said in a statement Tuesday.

The Pentagon is planning to bring more investors into the fold. Additional applications to participate in the initiative will be accepted in “future quarterly filing windows.” The next filing deadline is Nov. 15, according to the press release.

Updated on Oct. 22, 2024, at 7:30 PM: This story has been updated to include comments from Bailey DeVries, director of the SBA Office of Innovation and Investment and JR Gibbens, chief investment officer in the Pentagon’s Office of Strategic Capital, during a call with reporters after Tuesday’s announcement.