I was reading an otherwise pretty interesting article by one of the authors of “The Rocket Company” over on The Space Review this morning. In the article, Patrick was trying to discuss some of the market challenges facing commercial space transportation companies. Much of the content was pretty good, however I spotted an oft repeated statement about space transportation (my emphasis):
Space transportation seems an unlikely realm for angel investors. Orbital launch services is an old, overbuilt market propped up by government subsides. The operations of the latest launch vehicles developed by the likes of Boeing and Lockheed Martin, the Delta 4 and Atlas 5, are being consolidated into a joint venture, the United Launch Alliance, to try and hold down the high cost to the Air Force. The market is flat and recent studies show negative elasticity of the supply curve, i.e., lower cost results in the overall dollar value of the market falling.
The way Patrick seemed to interpret this negative elasticity result was that if the price of launch comes down, revenue drops too, and thus it doesn’t make economic sense. There’s a problem though with that line of logic that I think should be fairly apparent if you think about it from the perspective of a new launch company.
Say you have a space launch company, we’ll call it SkyZ just for simplicity. They’re going after a market that has 10 launches per year worldwide, at an average launch price of $2500/lb, with an average payload weight of 1000lb (for a total revenue of $25M). The demand is inelastic to the point where you get no increase in launch demand until you reach $500/lb. It would appear on the surface that 10 launches per year at $1000/lb would result in a much lower amount of total revenue: $10M instead of $25M! There’s one thing being missed in the analysis though–at this instant, SkyZ has $0/year of revenue from space launches. If they were able to get $10M/year in revenue, that would be a substantial increase for them, even if it was a big loss for everyone else. Now, SkyZ would need to have margins such that they could offer a reasonable return on investment at that lower revenue rate, but there’s no inherent reason why the “negative elasticity of demand” should really matter to new startups who have no existing stake in the game. It only would matter if you assume that existing players are as economically efficient as possible, and that there’s no way you could cut price without also cutting away most of your margin.
What this point does show is why there’s a strong disincentive for current players to cut prices any lower than their existing competitors. Lower prices for them would mean less revenue and less profit. The good thing is that this disincentive for existing players to cut price is actually a nice incentive and protection for new players. Especially if those new players can field vehicles with substantially better operability, safety, and reusability compared to the existing players. It would be a lot harder to break into the space transportation market if it were as competitive as it really could be.
So, while it probably wouldn’t make much sense to invest in space transportation as a whole, and while it wouldn’t make much sense for current players to invest a lot of money to cut costs, that doesn’t at all mean that investing money in new players is silly. Quite the contrary, in fact.