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Over the last decade, small satellites have revolutionized the space industry while influencing life on Earth in ways as varied as providing broadband access, monitoring infrastructure, improving weather forecasting, and supporting the war effort in Ukraine.

Borne out of low-cost launch, the cubesat standard, and a more permissive attitude toward risk, today’s smallsat revolution started just over a decade ago. In 2013, my team organized the space sector’s first-ever venture conference. There were barely enough startups to fill the room, but the entrepreneurial spirit was strong, and visionary investors saw that the space industry was onto something big. Fast forward to the first-half 2023, and Quilty Space’s market monitor recorded 64 venture space equity financings in six months – more than half related to the smallsat ecosystem.

While impressive by historical standards, the venture deal count for the first six months of 2023 was off by 46% versus the high-water mark set in the second half of 2021. There were 25 space-related M&A transactions during the first half of 2023, down from a peak of 41 in the second half of 2020. Are investors souring to space? And what do the shifting sands mean to the sector?

The answer to the first question is a resounding “no.” It is true that some investors have moved on, shifting their attention to “capital-light” business models and more familiar sectors. But most of the decline is attributable to macro conditions; after all, U.S. venture deal volumes were down 34% from their peak, while mergers and acquisitions (M&A) volumes were off 27% from their last peak. Investors remain highly interested in the secular growth opportunity presented by space, but capital is scarce and investors have become much more discerning.

How might a financing downshift impact the smallsat industry? The impact starts with constellations, which form the foundation of the smallsat industrial base, driving demand for components, smallsats, launch, and myriad upstream and downstream services.

After years of gestation, dozens of constellation deployments are well underway and will soon reach an apex. According to Quilty Space’s mid-2023 satellite demand analysis (excluding megaconstellations), there will be about 370 smallsats (500 kilograms or less launched in 2024, excluding China and Russia. This would be a modest increase from the roughly 350 launched last year. Underpinning a growth rate downshift is tighter availability of financing, driving some less successful and earlier-stage constellation players out of business while downsizing the aspirations of others. We are entering the smallsat “show-me” era, where constellation operators must demonstrate the viability of their business models.

The derivative impact on the smallsat industrial base is also clear: smallsat space hardware and launch companies that have built a track record can capitalize on this shift, driving growth and expanded moats, while newer entrants may find it increasingly difficult to carve out a defensible niche. This trend will be reinforced by a shift in “demand gravity,” from mostly startup-driven smallsat demand a few years ago to demand sourced from more established, often more risk-averse buyers (commercial and government/ defense).

At the same time, the birth of the LEO smallsat economy is now fueling the rise of adjacent investment opportunities. Growing space traffic and debris is prompting keen interest in space situational awareness, collision avoidance, and the like. More than two dozen companies are developing space tugs to deploy satellites, orbit-raise, and provide servicing. And, not forgetting the ground segment, advances in cloud and AI portend another bump in smallsat capability. A new space ecosystem is on the rise.

Super-heavy launch (e.g., Starship and New Glenn) could become yet another game changer for smallsat. Low-cost, high-volume, super-heavy launch is critical to the long-term success of megaconstellations, but it will also profoundly impact the design choices for smallsats, propelling satellite mass, capabilities, and constellation size upward. Once super-heavy launch can bend the cost curve, new applications and investments will soon follow.

Returning to the financing environment, the tailwinds in smallsat are still favorable, but uneven, thus demanding more resilient business models. Rational growth strategies, viable performance, creditworthy customers, and prudent financing strategies are musts in this new environment. Smallsat stakeholders that adhere to this “show-me” philosophy will emerge stronger than ever.

Justin Cadman is partner and co-CEO with Quilty Space, a firm focused exclusively on data, research, strategy, and M&A related to the business and finance of the space industry. He has spent 15 years executing transactions across the sector.

This article originally appeared in the August 2023 issue of SpaceNews magazine.