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Virgin Galactic hopes the investment deal will fuel the company into commercial operations and expansion. (credit: and Trumbull Studios)

A new path for space investment?

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Over the last few years, several billion dollars of investment has flowed into the commercial space industry. A few companies account for the most of it: various rounds by SpaceX and megaconstellation company OneWeb, as well as Jeff Bezos’ annual billion-dollar infusions into Blue Origin. Smaller companies, though, have raised tens to hundreds of millions for launch vehicles, satellite systems, and related applications.

“We believe it will offer us the financial flexibility to build a thriving commercial service and invest appropriately for the future,” said Whitesides.

Some of those investments, like those made by Bezos, are focused on the long term, with no intent of immediate returns. However, the investments made by more conventional investors, like venture capital firms, have a nearer-term mindset: the expectation that they will get a return on their investment, through an acquisition of a public offering of stock, in a matter of years.

But in the space industry such “exits” have been few and far between. Some still talk about Google’s acquisition of commercial remote sensing startup Skybox Imaging for an estimated $500 million, a deal that took place five years ago. (Google, which renamed the company Terra Bella, later sold it to Planet for an undisclosed, but rumored to be far smaller, amount.) Wile that deal encouraged greater investment in space startups, there have been few other examples of major acquisitions of startups that provide investors with a positive return.

That’s one of the reasons the deal involving Virgin Galactic earlier this month attracted so much attention. The suborbital spaceflight firm announced it was merging with an obscure company, Social Capital Hedosophia (SCH), in a deal that would provide $800 million in capital and also make it publicly traded. Does this deal open a new path for startups to raise money and provide returns to existing investors, or is it a one-time deal unique to Virgin?

Fueling Virgin Galactic’s takeoff

Virgin Galactic and its founder, Richard Branson, had made it clear they were looking to raise money as the extended development program for SpaceShipTwo neared its end. In October 2017, Virgin Group announced it signed a letter of intent with Public Investment Fund of Saudi Arabia whereby the fund would have invested $1 billion into Virgin’s space companies, including both Virgin Galactic and Virgin Orbit.

The agreement, though, was never consummated. A year later, after the murder of journalist Jamal Khashoggi at the Saudi Arabian consulate in Istanbul, Branson said the deal was off. In December, when SpaceShipTwo flew to the edge of space for the first time, Branson said he expected the successful test flight would “bring in other investors to help us take it on to the next stage.”

What form that investment would take wasn’t clear until the July 9 announcement of Virgin Galactic’s merger with SCH. Under the deal, SCH would take a 49 percent stake in the merged company, now valued at $1.5 billion. SCH would pay just over $700 million for that stake, while the founder of SCH, venture capitalist Chamath Palihapitiya, would invest an additional $100 million of his own money.

The funding, Virgin Galactic said, would help the company move into commercial operations. “We believe it will offer us the financial flexibility to build a thriving commercial service and invest appropriately for the future,” George Whitesides, CEO of Virgin Galactic, said in a statement.

But just who, or what, is SCH? The company is what’s known as a special-purpose acquisition company, or SPAC, which raises money on the public markets for the purpose of acquiring another company. It allows the acquired company to gain the benefits of an initial public offering (IPO) of stock, including raising money and becoming publicly traded, without the regulatory burden of a standard IPO. SCH, in fact, advertised itself as “IPO 2.0” and an alternative “for disruptive and agile technology companies to achieve their long-term objectives and overcome key deterrents to becoming public.”

“It offers certain advantages over doing a conventional IPO in the sense that it essentially has already raised the money itself, and so the time commitment for the management is somewhat reduced,” Whitesides said in a later interview. “Shareholders can have liquidity and the company can take advantage of public markets.”

“We are confident that [Virgin Galactic] is light years ahead of the competition,” Palihapitiya said.

Whitesides said SCH approached Virgin several months ago about a deal. While Virgin was looking for investment to replace the planned Saudi funding, SCH was also on the clock, since rules regarding SPACs limit the time such companies can hold onto the capital they raise before they either use it to acquire a company or have to return it to its investors.

The business backgrounds of both Palihapitiya and SCH’s lead independent director, Adam Bain, were appealing to Virgin Galactic. Palihapitiya had been an executive at Facebook before founding VC firm Social Capital, while Bain had been chief operating officer of Twitter. “They’re both incredibly successful businessmen,” Whitesides said of them. “We’re looking forward to having both of them on the board.”

With the $800 million from SCH and its founder Palihapitiya, Whitesides said the company will have funding to take it into commercial operations, now planned to start in the first half of 2020. The company is currently making modifications to its current SpaceShipTwo, VSS Unity, while moving flight operations from the Mojave Air and Space Port in California to Spaceport America in New Mexico.

Whitesides hasn’t set a date for resuming test flights in New Mexico. “I think we have some work to go before we transfer SpaceShipTwo and WhiteKnightTwo down” to New Mexico, he said. “We’re just methodically going through our program as we make the transition to New Mexico.”

The funding will also support development of additional vehicles. Two SpaceShipTwo vehicles are under construction in Mojave, and Whitesides said the company will later start construction of a second WhiteKnightTwo carrier aircraft.

Those vehicles will be needed to meet an aggressive ramp-up of flights once the company enters commercial service. An investor presentation that SCH filed with the US Securities and Exchange Commission (SEC) at the time the deal was announced projected going from 16 flights in 2020 to 270 in 2023, by which time the company will have a fleet of five vehicles—about one flight per week per vehicle. The company expects to fly 1,565 people in 2023, versus 66 in 2020.

With that increase in flights will come revenue and, eventually, profits. Those projections include $21 million in revenue from ticket sales plus $10 million in “other” revenue in 2020, growing to $562 million in ticket sales and $28 million in other revenue in 2023. While Virgin Galactic projects a loss of $104 million in 2020, it nets a small profit of $12 million in 2021, growing to $274 million in 2023.

That’s possible because the company projects expenses to grow far slower than revenue, despite the sharp increase in flights. While the number of flights would increase by more than 50 percent from 2022 to 2023, the company expects rocket motor and fuel costs to increase by less than 15 percent. Costs for flight operations, maintenance, and other expenses would also grow more slowly than revenue, the company projects.

One slide of the presentation discusses how it will reduce costs. Some of that comes economies of scale from increased flight rates, as well as more knowledge of what needs to be inspected and maintained. That slide, though, also hints at a switch from the existing hybrid rocket motor to a liquid motor, and “potential use of an alternate carrier aircraft” rather than WhiteKnightTwo.

The new investors believe that Virgin Galactic is ready to tap into a sizable pool of demand for suborbital spaceflight at a per-ticket price of around $250,000. “We are confident that [Virgin Galactic] is light years ahead of the competition,” Palihapitiya said in a statement. “It is backed by an exciting business model and an uncompromising commitment to safety and customer satisfaction. I cannot wait to take my first trip to space and become an astronaut.”

Virgin Galactic, though, is not necessarily light-years ahead of the competition. Blue Origin has been testing its New Shepard suborbital vehicle, designed to carry six people on flights to altitudes above 100 kilometers (versus the 80 kilometers promised by Virgin.) New Shepard’s test flights are all been without people on board, but company CEO Bob Smith recently said the company still expects to start flying people by the end of the year, although it still has a “few” more uncrewed test flights to perform first.

One slide in the SCH presentation compares Virgin Galactic with Blue Origin. Among the more curious comparisons is “flight experience”: those on SpaceShipTwo will get 90 minutes of flight time, versus just 11 on New Shepard. Not mentioned is that about an hour of that SpaceShipTwo flight time will be ascending to the drop altitude attached to WhiteKnightTwo, while New Shepard is straight up and down.

At the bottom of the chart is a final comparison: “Investible?” Virgin Galactic gets a checkmark, while Bezos-funded Blue Origin gets an X.

A one-time deal?

Virgin Galactic is investible because of the outside capital it raised, including not just Branson’s own money—he’s previously said he put about $1 billion into the venture—but others, like UAE fund Aabar. SCH said about $300 million of the new investment into Virgin Galactic will go towards existing, unnamed shareholders who will be selling their stakes.

“I don’t view Chamath’s involvement or the reverse IPO structure as one that is particularly attractive to a lot of startups,” Nagaraj said. “I don’t predict it will be repeated… very often.”

The deal also means that anyone can now invest in Virgin Galactic through public markets. “Commercial space is at the top of everyone’s minds, but there are very few, if any, ways to make investments,” Whitesides said in the interview.

But does all that make the deal a good one, or a model for other companies? A panel of investors at the Space Frontier Foundation’s NewSpace 2019 conference July 17 were skeptical it was a model for other commercial space ventures.

“From a financing perspective, you raise money when you can, how you can,” said Sunil Nagaraj, managing partner and founder of Ubiquity Ventures. “I think it’s great that they’ll have an injection of capital.”

But he and others raised questions about the “reverse IPO” deal. He argued that, given all the money the company has raised to date, a $1.5 billion valuation for the company appeared to be “below liquidation preferences” and thus undesirable. He was also skeptical of Palihapitiya’s role, calling him a “failed venture capitalist” after Social Capital decided to stop accepting outside capital, followed by the departures of most of its staff.

“I don’t view Chamath’s involvement or the reverse IPO structure as one that is particularly attractive to a lot of startups,” he said. “I don’t predict it will be repeated through his organization or through others very often.”

None of the other panelists rose to the defense of the deal, but some expected to see an uptick in deals as parts of the space industry, like small launch vehicles, face a universally expected consolidation. “As people run out of money and customers don’t show up as much as they thought they would, or the market wasn’t what they thought it was in the first place, there’s going to be mergers, there’s going to be more consolidation,” said Peter McCullagh, founder and managing partner of TenX Ventures.

But, even with the lack of exits, money continues to flow into space startups. Some believe that VCs are investing because they’re worried about missing out on the next big opportunity. “There is an element of FOMO [fear of missing out], probably; Silicon Valley wanting to get caught up with space investing,” said Lisa Rich, founder and managing partner of Hemisphere Ventures.

She said Elon Musk’s success with SpaceX had Silicon Valley investors looking for the next major space opportunity. “They’re starting to say, ‘There’s something there, and I need to be a part of it.’”

But those investors will soon want to know how big of a something there is, in fact, in space startups. “We’ve had five years of great times,” Nagaraj said, “but now there needs to be results.”

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