NATO Innovation Fund chair Fiona Murray: ‘The threat from Russia is extremely real’

0:02When NATO announced plans to launch a 1 billion euro innovation fund back in 2022, heads turned 1 billion euros to invest in defence and security backed by 24 countries. At the time, most European VCs were still incredibly wary of backing defence companies and nothing like this had ever been attempted before. Joining me on the Sifted podcast today to discuss how it's going three years on is Dame Fiona Murray, current chair and former vice chair of the NATO Innovation Fund or NIF and Associate Dean for Innovation at the MIT Sloan School of Management. In its portfolio, NIF counts several of Europe's most exciting deep tech and defence companies including unmanned robotic startup ARX Robotics and SpaceTech ISAR Aerospace, along with several VC funds, including V-Squared, OTB Ventures and TwinTrack Ventures.

0:53Launching NIF has not been a smooth ride, although perhaps it would be naive to think it ever could have been. Since its start in 2023, NIF has seen four out of five of its original founding partners leave, one of whom recently took the organisation to court in a dispute over compensation. while its former chair investor Klaus Hommels moved into a new role in September. We'll get into NIF stories so far and plans for the next few years in the pod today. Fiona, thank you so much for joining us. Amy, thank you for having me. I really appreciate it. It's nice to be here. So you took on the chair role a few months ago.

1:29What's your mission? So the mission that I have for NIF is very much to respond to the call that the Secretary General Mark Rutter made, I think to everybody yesterday in his speech in Germany when he said, to be crystal clear about the threat, we're Russia's next target and we're already in harm's way. And NATO has put a considerable trust in us that we take really seriously to build out NATO's technological edge and to make sure that we invest in companies that are bringing absolutely the best technology into the hands of our individual ministries of defense, our citizens, so that we are as strong as we can possibly be.

2:09in what I think is going to be a quite challenging future. And it must be an incredibly interesting role being chair of the fund. Does it actually involve day to day, week to week? Who are you spending time with? What kind of decisions are you making? So first, it's an incredible honour. I'm really delighted to take on this responsibility. The responsibility of the board is to make sure that we set out the broad direction for the fund, a direction that is in accordance with what our limited partners, those 24 nations absolutely want and to be sure that we have the best team in place to make independent investment decisions.

2:46So it's the job of the partners to make those investment decisions but we have a deep responsibility to build out a fund that can raise additional capital in the future, that is aligned with NATO's core priorities and that can really support our portfolio companies and funds over the long run. So I spend my time making sure that we understand our limited partners. They, of course, are reporting back to their ministries, their treasuries. I make sure that with my board colleagues that we put into place all the governance that we need and that we create the most high performing organisation. We want to adhere to the highest market standards in venture capital.

3:25And so my responsibility is to make sure that we have the best people able to do that. And are the LPs, are they all the defence departments of different countries or is it country by country dependent? It's country by country dependent, but I would say our LPs, each of them are representing their nation. So all 24 nations are represented around the table. And so when I chair the LPAC, our limited partner advisory committee, I'm absolutely chairing a meeting that has 24 nations represented with their sort of country names in front of them. So they are absolutely there representing their country, not so much as individuals.

4:01About half of them come from ministries of defence. And so they will often be talking about capabilities. Are we investing in companies that can bring them the capabilities that they need? And the other half are often represented by their sovereign wealth funds. And so they often bring more financial sophistication to the table. But regardless of where they're coming from, they're representing the aspirations of their countries. You know, we have to remember that the money that they contribute to the NATO Innovation Fund is money that counts towards their 3 % defense spending targets. And so they want that to be seen as an investment in capabilities in the innovation ecosystems and in sort of long term capacity to really deploy extraordinary technology.

4:44And how central do most of them see technology being to, I guess, Europe's security? You know, how embedded is the kind of the need for innovation, the need for new kinds of defence companies to be supported, to be funded, to fit into the infrastructure that we have today? Where are they on the spectrum of kind of recognising that's importance? I think all of our 24 nations appreciate that in defence, security and resilience, we absolutely need cutting edge technology, that the technologies of the past won't solve the problems, not least because our adversaries are working incredibly hard at the technological frontier.

5:26And so we have to be at that frontier or even beyond that. I think the question that all of our countries are asking is where are we going to get that cutting edge technology from? Where will those capabilities be developed? and the recognition that perhaps was part of why NIF was created in the first place was that it was going to be in the hands of startups, that we were going to get that sort of pace and private sector ingenuity. And so that's really been, I think, one of the big shifts is recognizing the defense primes, the large industrial companies have their place, but it's really in the hands of startups that those capabilities are going to be sharpened and developed rapidly.

6:03I think all of our nations see that. The journey that they're all on is being good customers. Can they be good customers for those capabilities? We use the expression pull through. Can they pull through those capabilities, put contracts on the table so that there's a market for those new technologies? And different countries are in a different place in that journey. What's an example of a country that's done the being a good customer part well? So I think at least two come to mind. So Estonia, I think, has been an extremely good customer. They have a few things going for them. They're small and quite often small nations.

6:39They might not have a lot of money to spend, but because their system is small, they can often make decisions more quickly. So Estonia has been a very good customer, I would say, particularly in areas like cybersecurity and sort of some of those sorts of technologies. So they have started to lead the way in how to do that. A country like Germany, which had very low defence spending and really hadn't engaged with their startups, increasingly Germany is starting to put contracts on the table, begin to do exercises, do testing and evaluation. And so we're really seeing Germany make an incredibly important and rapid move to the forefront as a really good customer for defence technology.

7:19the UK has also been doing some very important work around reorganising defence innovation as part of its new national armaments directorate and so on really trying to take some of the best of their work in places like Ukraine and think about what that means for the whole of the military interesting and of the 1 billion euros NIF has how much has been deployed and what is actually the time scale for that is it the is it the usual VC fund so our formal deployment schedule is to deploy about 100 million a year. Now, obviously, that means that we would be doing that a billion over 10 years. We're trying to bring that forward because we have quite a strong sense of urgency, but we're on track with deploying at least 100 million a year.

8:00And the way that we do that is 80 % of that goes to what we call direct investments. So making equity investments in startups, and the other 20 % goes into investments in funds. So something that's called funder funds, where we say, look, we're not going to have the ability to see every single company and make all those direct investments. Let's find some of the best funds. Some of them are new. Some of them are perhaps on a subsequent fund. Some of them are moving into defence, security and resilience. Let's invest in those and support them and their portfolio companies. And so that gives us amazing exposure to over 100 and something startups.

8:35And how many startups, direct investments have you done now and how many funds are in the portfolio? So I think to get my numbers straight, officially we've done 14 direct investments and we've invested in nine funds in total. And what's really interesting is, you know, to date, I think there'll be some new announcements sort of before the end of this year. But in our over sort of 150 or so million that we've deployed and that's official and public, we've actually crowded in co-investment of about 1.4 billion euro. which means that for every euro that we're putting in other people are kind of coming on this journey with us and that's extremely important because we can't do this on our own.

9:17And who's leaning most heavily in? Who are the other investors that you are crowding in? Is it VCs who, as I said in the intro, we've seen a huge uptick in interest in this industry although lots still won't invest in defence and security. Is it industry? Is it other public funds? So if you look at that sort of 1.4 billion of co-investment, we're seeing that largely come from other funds. So certainly with our direct investments, most of the people that we co-invested with are other venture capital funds. And so we're really beginning to see some of these VC funds come to the table and start to put more money into these exciting companies.

9:55And then when we're investing in funder funds, we ourselves are acting as a limited partner. And we're definitely seeing other limited partners. So that would be sovereign wealth funds, some of the pension funds, insurance funds, and interestingly, high net worth individuals, some of the families across Europe who recognize that investing in the future resilience of Europe and of NATO is an incredibly important mission. And what about industry? Where did the traditional defence primes but also big manufacturers, we know Europe has a huge history and a huge strength there. What role are they playing in the revolution of Europe's defence ecosystem and where would you like them to see them play more of a role?

10:42so if i take a step back i think sometimes people think should we have big companies and defense primes or should we have startups and i think the reality that we're going to see in the long run is that we need incredibly creative and mutually supporting partnerships between those two parts of our economy we need to couple the private sector ingenuity and pace of the entrepreneurial startup with the extraordinary industrial scale production expertise supply chains of Europe's both Mittelstadt and some of the very large industrial companies. So I think in the long run, we will definitely see some startups scale and grow into being completely sort of integrated large companies.

11:22Sometimes people use the expression neo-prime to really say that's what they're looking for. But I think in many instances, what we will see is startups in really productive partnerships with some of the large industrial companies. And part of my particular goal and focus for NIF in the coming years is to couple that innovation with industrial scale, industrialization. And there are some good examples of that, I think, coming down the piece. So we see Tekeva building a factory in the UK. So they're a Portuguese drone manufacturing company. They were one of our early investments. They're actually one of our first unicorn companies.

11:59And so they're definitely vertically integrating into industrial production. On the other hand, Kraken, which is an autonomous sort of boat company, is working with Lurzen and then Rheinmetall on production. So that's a really nice example of a sort of synergy that really enables a company to scale more rapidly. And is that something NIF plays an active role in sort of those introductions or suggesting those partnerships? Or is that someone else does that bit of the piece? So again, we take really seriously this idea that we are investing in these companies, but then we want to be on a journey with them.

12:35And particularly because of the trust that's been put into us by NATO and the allies, we have a group that we call our mission platform group. And their job is to help support the companies taking those capabilities right to the ministries of defense or into partnership with large industrial companies. We also not only focus on capabilities, but also on security. We want to make sure that these companies are as well secured as possible. And lastly, sort of responsibility. So those three things, sort of capability, security and responsibility, are something that we are building out real support systems in a way that I think is quite unusual.

13:12Most VCs don't do as much of that as we do. And you recently hired several new team members, including Erin Hallock, who is formerly an investor at BP Ventures, and Ulrich Key, who was previously in corporate venture capital as well at BMW. Does that also tie into this, that NIFs may be going to have a closer relationship with industry in the future? I think the new hires that you're seeing from us and also Sander, who has a very sort of deep tech background in semiconductors and so on, is very, very complementary to Patrick Schneider-Sikorsky, our partner, who has been doing a tremendous amount of our very early stage defence tech work.

13:53Both Ulrich and Erin bring a real understanding of large scale industrialization. So we saw that as very, very important. The ability to help our individual companies scale themselves, but also help with those industrial partnerships. When I'm teaching at MIT, one of the exercises I do when I work between startups and corporations is an exercise that I ask the startups to play a corporate. and I ask the corporates to play a start-up and I then ask them to do a little negotiation. And what that brings to mind is just the cultural differences. How many lawyers does the corporate bring in the room?

14:29How many people in the bureaucracy? So you really have to understand that both parties are often trying to do the best they can, but we can really act as some of that glue to bridge those two different cultures, really to the benefit of the capabilities that Europe needs. And as I mentioned, here come the tricky questions in the intro. NIF has had a bit of a rocky start with four of the five original investment partners leaving. Why do you think that happened? So I think you said in your introduction, Amy, that NATO setting up an innovation fund, NATO creating a venture capital fund is an extremely new and unusual thing.

15:05People were quite surprised that NATO tried to do this and thought this was important. Whenever you're trying to do something incredibly new, you don't have a template to follow. And so it's an experiment. And I think NATO identified some really incredible people to work together as early partners. But it's inevitable that as you sharpen your mission and understand what are the skill sets you really need, how do you build a well-functioning partnership, that there's going to be sort of differences of opinion. There's going to be people departing and other people coming in as we really sharpen our focus.

15:37many of the startups I deal with see quite a lot of churn in the early stages. And so I'm not that surprised. And we're really appreciative of all the effort that people have put in. And, you know, we know that the people who have spent time at the fund ultimately are all still part of the ecosystem and we need to be able to work together. How did the LPs react to the news of the departures? I think the LPs basically understand that we, particularly as a board, are doing our best to make sure that the organisation is as stable and focused on its mission as possible. And they trust the board to make clear and effective decisions.

16:14And sometimes we have to make hard choices. And I would say as the chair that I'm always very willing to stand up and defend my choices. And I know that the LPs really, really appreciate that. And one of the partners who left Torsten Klaus also took NIF to court in a legal dispute over pay recently. then NIF was ultimately ordered to pay him 52 ,000 euros as part of a bonus that it was deemed that he was owed. One thing really stood out to me from the court case was quite how high Klaus's salary was. It was almost 700 ,000 euros per year. Why was his salary so high and do salaries at NIF remain quite so generous?

16:51So we have done quite a lot of industry benchmarking to make sure that we're in the right place with respect to venture capital standards. And so we have done some benchmarking down of the original salaries that were put into place as NATO was setting up the NIF. And we believe that we are now across the piece, both with our partners, our associates, and all our amazing team at a much better, lower place with industry standards. Still an enticing salary for someone who might be interested in joining NIF? I think that the reason that people join NIF is really because they care deeply about the mission.

17:24at the same time there is a marketplace for the best talent and so we're really looking for people who are amazingly mission aligned who care deeply about building the defense security and resilience of the alliance and see this as a huge opportunity and we want to pay fair market rates. And NIF partners presumably get carry like partners in other VC funds? They do although the carry is structured in a way that requires them to wait very much till the end of the fund before some of that carry gets realised and so we are putting into place incentives for very long-term engagement and behaviours as opposed to being rewarded for what happens next year.

18:03And is that a change from how it was for the original partners or is that something that's always been in place? That's something that's always been in place. And then my final tricky question, NIF has been the subject of investigations by Sifted and also the Dutch investigative outlet Follow the Money outlining concerns from some in the industry over perceived conflicts of interest with regards to the former chair, Klaus Hommels, who's also an active investor in defence with his own fund, Lakestar, and is setting up a defence fund of his own. What would you say about that? I think it can only be described as a saga.

18:37Yes. So, NATO selected Klaus as a chair because he has a very long-standing track record in venture capital. It is quite storied across Europe. He had led, I think it's the European Venture Capital Association and was deeply committed, I think, to NATO and the very strong and resilient future of Europe. And he has provided extraordinary service to NIF in the early days. He basically stepped down when he wanted to pursue some of his own, once he became deeply involved in some of his own defence investing. But we're incredibly appreciative that he's still providing us with guidance and advice through our advisory council.

19:20And I was really honoured to basically take over this role as chair. I mean, it's an extraordinary opportunity that we have. And you don't believe there were any conflicts of interest? I do not. I mean, I've been part of the board since the setup and we have extremely effective conflict of interest processes. And I can give everybody assurance that I have not observed any kind of conflicted behavior. Let's turn to some bigger picture topics. NIF was set up after Russia's full-scale invasion of Ukraine in early 2022, when less than 5 % of European VC funding went into defence tech. And there were, I believe, no dedicated defence VC funds, and now we have many.

19:59And this huge boom in defence tech funding and innovation that we've seen in recent years has also obviously been driven by growing concerns over the threat posed by Russia. How real do you think that threat is? I mean, I think the threat is extremely real. And if I ever had any doubt, then I would simply have to read what the Secretary General said yesterday. He said, to be crystal clear about the threat, we are Russia's next target and we are already in harm's way. I believe that's true. I have no reason to doubt him. I think that has been quite clear if you are paying attention to defence. And if you're also looking at the grey zone conflict that has been going on for a long period of time, if you look at the incursions that Russia has been making across borders, if you look at the sort of drone flights and really the sort of provocation, if you look at how the threats to some of our infrastructure through things like the underwater cables and also a lot of the activity up in the Arctic, you can really begin to see, I think, tensions rising very strongly and an absolute focus, not just defence in the sort of narrow sense of a sort of hot conflict, but actually also this ongoing grey zone, which is why we are focused on defence, security and resilience.

21:18We absolutely need resilient infrastructure, whether everything from the cables on the seabed all the way up to communications and satellites. And what do you think are the sort of key things Europe needs to do on those kind of grey areas, whether it's infrastructure, whether it's, you know, the uptick, the increased uptick we see in, you know, Copenhagen airport shut because of drones, Heathrow, drone scare, you know, that seems to be mounting. What are all the different ways where, okay, this isn't an active conflict, but it's not ideally how things would be playing out? What are and can European governments do in those areas?

21:58I think the most important thing we can do is make sure that we have the technologies that keep our infrastructure resilient and safe. So that means that we need to ensure that our underwater cables are protected, they're repairable, they're secure. and we also have really clear warning systems about whether they are a threat. We need to ensure that we have resilient space-based communications and that we have redundancy. The challenge with being resilient to these kinds of grey zone threats is it's quite expensive because it's not as obvious as saying there's this many drones coming towards us, we need this many counter drones or we need to build a counter UAS system, although we know we have to do that.

22:38Some of this means we are needing to buy insurance, if you like, for our systems. We need to have backup systems. We need to have more resilient supply chains. We need to have second source manufacturing. And those things will cost us money, but in the long run, they will actually make sure that we're more safe. And so we're very focused not only on the defence part of defence, security and resilience, but also on the security and resilience part. But we need our governments to really step up and be willing, if you like, to price resilience, to price it in and to really encourage startups and large companies to invest in some of those new solutions.

23:12And would you say governments are more focused on the defence part, the, you said, was it hot aggression? I can't remember the phrase you used. Hot war, end of the spectrum, rather than, is it harder to convince people to spend money to invest in monitoring their undersea cables or whatever it is? Yes. I think at the moment we've got this really important sort of moment that really happened in The Hague at the NATO summit, which was when all the NATO allies committed to this significant increase in defense spending. And the 3.5 % is very much focused on sort of classic defense spending, although new types of technologies, and again, we're seeing more in the sort of drone and large numbers of small things, but also very sophisticated new sort of weapon systems and defense systems.

23:59The other 1.5 % you might call a sort of security and resilience. That requires long-term investment. It's actually, I think, one of the places where we're going to get the sort of economic growth. But it does also mean asking companies to behave differently. A lot of that investment is going to be made not just by governments, but it's going to have to be made by companies. So if I own that undersea cable, you know, I've got to make that investment. So I think it's going to take longer for governments to work out which levers to pull to make sure that that sort of thing is happening. And what do you think that will look like?

24:30Will that be regulation primarily? or how else will the kind of responsibility for this kind of resilience and security be spread? So some of that will be regulation. Some of it will be pricing. So I think there is quite a lot of different market signals that the government can basically send. So the government will be able to say, you know, when you are developing batteries that use, for example, critical minerals that are produced by allies and partner nations, we will be willing to pay you more because that reduces our vulnerabilities. We're seeing, for example, in the United States, something called the Blue Book, which basically says these drones, which are made with domestic parts, are then in the Blue Book, which means you can procure them.

25:19And so I think we'll see more mechanisms like that. And as companies begin to recognize the increasing cost of, for example, cyber threat, it will become more and more, I think, a discussion in boardrooms. So we really are beginning to see boardrooms taking this extremely seriously. And the geopolitical context makes a huge difference to companies. And I also think in the long run, we'll start to see the stock market, again, price in companies that are more resilient because we know the cost when you're not. Are there concrete signals of that already? I'm thinking of, what was it, four years ago when, you know, lots of climate reporting became a key part of what big companies have to do.

26:01Is that something companies are having to do with regards to the resilience of their supply chain, the resilience of their security of their IT infrastructure? Are we seeing big organisations clock on to that or do you think there's still a bit of a way to go there? We're seeing boardroom discussions about those topics, about that whole set of resilience questions that come about because of this geopolitical sort of shift. and I think the sort of much more complex geopolitical landscape that we are inhabiting. And as the boards try to get out ahead of that, I think what we will also see is government starting to say, you need to sort of report on these topics.