"I made this picture,"David Flowers, a senior at North Clarion High, says, "to represent how nanotechnology can help us take out water pollution.
The Economics of Matter
October / November 07
Volume 5 Number 5
Financier George Soros wrote "The Alchemy of Finance." My venture partners invest in, write about, live in the converse, "The Finance of Alchemy"—€”the realm of mesoscale physics, or by its more popular nomenclature: nanotechnology. A young media darling, once poorly understood as an ill-defined amalgamation of disparate atomic level sciences—€”its time has come, as sophisticated investors and corporate executives grasp that this is no passing fad.
As one apt comparison in nanotechnology, visualize an inverted image of the Tower of Babel. Whereas the ancient story speaks of people together building up toward the sky and then ending up speaking different languages, in nanotechnology, researchers who speak different scientific languages (physics, material science, electrical engineering, biology) are converging down at the atomic scale. Because of the multidisciplinary nature of nanotechnology, many research laboratories are developing their own jargon, which to outsiders sounds like a form of scientific Creole. It is at these boundaries, as in population ecology, where change occurs.
Five years ago, we saw salient advances in material science that were neglected as the herds stampeded toward enterprise hardware and software and optical networking. We were convinced that Nicholas Negroponte would have it wrong, and that soon enough people would be trading in their bits for atoms. When Lux Research released its first annual Nanotech Report in 2001, 98 percent of Fortune 1000 executives were unable to define "nanotechnology." Today, nanotechnology has become a presidential priority, has taken center stage on CNBC and has even surfaced as a subject of activist chatter and environmental concerns. The message from decision makers and power players echoed loud and clear and with a sense of urgency—€”from corporate boardrooms on Main Street to corner offices on Wall Street to legislative chambers in Washington, D.C.
It's noteworthy that Michael Dell replied "nanotechnology" when asked by an MIT student at a conference which areas he would focus on if he had to start his career all over today. And Jeff Bezos was recently quoted as saying, "If I were just setting out today to make that drive to the West Coast to start a new business, I would be looking at biotechnology and nanotechnology." GE's Jeff Immelt stated publicly that "nanotechnology is absolutely critical to where we go in the future."
Some of the smartest and most successful tech entrepreneurs feel similarly.
Gateway founder Ted Waitt has quietly funded nanotech, and Google's founders, who've repeatedly declared their interest in nanotech, have privately funded at least one company using nanotech to develop cheap efficient solar cells.
(Disclosure: this company competes head to head with one of our own nanotech portfolio companies.)
My friend Phil Bond, former Undersecretary of Commerce, served me up this elegant analogy between soccer-wunderkind Freddy Adu and the state of the current nanotechnology industry. Adu (at 14 years old!) is a very young player, whose name is frequently in the media—€”though many people have never seen him play, know what he looks like, or know very much about him. But most have heard that he is a rising star—€”perhaps the greatest to come for the next few years. There's also a lot of criticism about Freddy Adu: that he needs to develop more; that he's over-hyped; that if he got temporarily injured, many fans would turn on him; that he could go overseas in a few years. The parallel to nanotechnology is clear.
I won't use this space to give a snapshot of the nanotech arena—€”what follows is instead a look at some of the emerging philosophies governing our investment process and the frameworks we've developed to corral prevailing trends and put risk capital to work.
Nanotech: Less About Scale, More About Size-Dependent Properties
Some people talk of nanotech and MEMS (micro-electromechanical systems) in the same vein. MEMS rely on decades of known silicon fabrication and processing. And small gears, actuators, and sensors operate on principles of classical Newtonian physics. At the nanoscale, things are different, precisely because of the size regime of single atoms and the quantum physics effects that emerge.
Consider that quantum tunneling (once poorly understood) used to be an effect to be avoided by device engineers. Today it's a phenomenon to be exploited. If you were to take any macro-scale object and shrink it, its basic properties (optical, thermal, magnetic, electric) would remain the same but at a smaller form factor. But take a nanoscale inorganic compound semiconductor crystal and vary its diameter, and you can literally tune the material like a radio knob to the properties desired.
Another phenomenon is the relationship between surface area and volume, which yields novel interfacial properties for nanoscale materials. A simple way to understand this concept is to visualize sugar in various size forms. Rock candy on a small stick placed in a glass of water would take perhaps an hour to dissolve. Smaller, more granular table sugar would dissolve in several minutes, and confectionary sugar, even smaller still, would dissolve instantaneously—€”the correlation being that smaller particle size yields more surface area (often in a smaller mass) and greater reactivity. This is immediately applicable in life science and pharmaceutical applications, where high bioavailability of drug compounds is desired while mitigating side effects of overdosing.
A third property is the independent control of functional and processing properties—€”meaning that you can endow some macro-scale objects with the magical effects you can coerce out of a small amount of nanomaterial. Working with materials at the nanoscale also allows for massive integration of materials and objects at densities not even achieved in nature.
Consider the reptilian gecko—€”once thought to secrete a sticky substance that allowed it to scale walls and hang upside-down. Scientists ultimately discovered that it had millions of tiny hairs, called setae. Individually, each exhibited weak van der Waals forces, but collectively they were strong—€”so strong that pulling a gecko off a wall at a 90-degree angle would dismember its leg from its body, which is why it must pull its feet off in a wave-like motion to break the individual bonds. Scientists have grown nanowires from the bottom up in denser arrays that can yield nearly three times the strength of what Mother Nature evolved—€”yielding a thin, lightweight material that could support a 160-pound human suspended from a wall.
But the aspect of nanotechnology that promises to revolutionize the economics of manufacturing is bottoms-up self-assembly, which means that molecules and atoms can be rationally controlled and programmed or directed like software code to organize in a desired fashion to yield a desired function. Physical matter will become as programmable to chemists as code is to software engineers. This is an interesting proposition, when you consider that the raw material required to make one computer and a 17-inch monitor today weighs about the same as a car, requiring about 529 pounds of fossil fuels, 48 pounds of chemicals and more than 3,000 pounds of water.
Shift from Structure to Function
Recall in the movie The Graduate, when Dustin Hoffman is told that one word represents the future of business: "plastics." Today, that word is "nanotechnology." The significance is that just as plastics revolutionized the structural properties of matte—€”entering into every industry, from food-and-beverage to communications, electronics and entertainment—€”now, new nanoscale advances offer the ability to control not only the structural properties of matter, but also the functional properties. This includes electric, thermal, magnetic and optical properties, which are applicable to every industry imaginable. 
Some background: GE just announced a nanotech breakthrough that received a lot of buzz. In my view, it's overblown. Here's why: They created a nano-diode (by linking two carbon nanotubes together), using electric fields instead of doping. Yes, that's important, because the diodes, which are the part of transistors that dictate which way electric current can flow, are more controllable than before.
But this isn't a device. It's a sub-component. And there's a long way to go before we should extrapolate that this one-off experiment correlates to scalable production or assembly of devices. Most investment analysts would look at this through the lens of the past, not through new paradigms of nanotech. In fact, one highly respected investment website said the following: "Investors should know that nanotechnology is not likely to produce a revolutionary upstart that will leapfrog the established electronic giants with advanced technology—€¦. With fabrication plants costing $2 billion to $4 billion each, it probably will be prohibitively expensive for smaller companies to land the kind of financing it would take to unseat firms with deeper coffers."
Ah, conventional wisdom. Nothing could be further from the truth. Let's turn to my concept of "simplexity," a word I coined to describe a trend capable only in nanoscale advances, whereby all of the standard components of a given device are simplified by embedding all of that complexity into the molecules themselves.
This is a philosophical sea-change that most, including the authors of the quote above, haven't caught on to yet.
As one example of simplexity, consider what is happening with traditional cathode ray tube televisions. All of the complexity associated with the cathode ray gun mechanically spitting charges at phosphors on a glass substrate is being simplified or eliminated by molecules like organic light-emitting diodes (OLEDs) and field emission displays that are composed of molecules each acting as its own emissive source. The complexity of the device is integrated into the molecules themselves, and all of the components (and the companies that manufacture them) are becoming obsolete.
Solar cells, or photovoltaics, are another example whereby all of the complexity of a traditional solid-state solar cell (manufactured with traditional lithographic processes) can be integrated into designer molecules that can be chemically manufactured in the solution phase and structured in a way that all of the necessary elements of the solar cell are contained within each molecule. This allows for a substrate to be poured over a back-plane of electronics. The end result is a structurally flexible solar cell with a functional efficiency similar to or greater than that of traditional solid-state solar cells.
Now, let's draw a historical analogy from biotechnology. In the 1970s, before the advent of recombinant DNA, isolating a protein for use in a drug compound could be performed only by companies with the enormous resources necessary to invest in the real estate, farms and massive populations of animals from which the proteins could be extracted, processed, solubilized and turned into a drug.
So what? Well, this meant that success in the endeavor was limited by the size and scale of the company's operations. Small companies and startups couldn't even think of competing.
But with the advent of recombinant DNA, something nobody had forecasted, predicted or anticipated occurred—€”a profound paradigm shift that transferred the success function from "scale of operations" to the "creativity of the scientist." In other words, a Ph.D. student could do the same or greater level of complexity production in a wet-chemistry lab that once only a company that had invested millions or billions in the previously mentioned fixed assets could do.
And now the same phenomenon is becoming manifest with nanotechnology, particularly in the area of semiconductor fabrication. Making computer chips thus far, as the authors of the quote above accurately noted, could be done only in the most sophisticated and expensive fabrication plants, which, in turn, can be built and operated only by the largest companies, with deployable assets to invest in and support them.
Success has again been dependent on the size and scale of operations; read: billions of dollars to erect a fabrication plant. But scientists at some of the nation's leading universities and startups have demonstrated the ability to shift to yet another paradigm, in which cheap, fluidic self-assembly of semiconducting nanowires can yield patterns and performance that far exceed the capabilities of a $4 billion fabrication plant. And these new methods of assembling devices bottom-up won't be relegated only to semiconductor manufacturing.
Non-Eli Manufacturing
Two hundred years ago, in 1804, Eli Whitney participated in a government program analogous to nanotech's modern-day National Nanotechnology Initiative. He was to supply the government with thousands of muskets at a lower price point than ever before possible.
Before Whitney, guns were manufactured by hand and their production depended heavily on the skill of the craftsmen or laborers. Whitney knew that to produce a gun you had to be a skilled gunsmith, and that replacement parts for guns had to be made to fit the individual gun. His plan was to replace skilled gunsmiths with machines and unskilled machine operators, to produce parts for guns that would be so close to identical that the parts for different guns would be interchangeable. The idea was entirely new and Whitney had to invent and build the machines that would produce the musket parts from scratch.
By investing heavily in capital equipment that could create interchangeable parts and standardize the process, Whitney was able to use unskilled laborers to operate the machines, thereby effectively shifting the value function from labor to capital equipment. This invention of interchangeable parts was a critical contribution to the industrial revolution.
We've identified a similar trend today, 200 years later. The escalating cost of chip fabrication plants is a limiting factor in future semiconductor progress—€”primarily because of the increasing mechanical precision required and corresponding costs associated. But the value function is shifting once again, thanks to Phil Kuekes, chief architect at Hewlett-Packard's Quantum Science Research lab, using nanotechnology.
Kuekes brilliantly proposed using chemical assembly processes to build chips full of defects, and then use cheap labor, in the form of a supercomputer, to fix them up. The price to assemble things chemically would be very low. But for every device that's built, a supercomputer is needed for just-in-time design. This has only recently become plausible, with improvements in CAD software that allow us to measure, analyze and then come back and download the design. What the skilled labor had to do back in Whitney's day, a supercomputer does today.
This is a new way of thinking about a whole variety of manufacturing. While the most obvious is in making computer-like structures, this will also impact pharmaceuticals and new-materials development.
It's the Recipe, Stupid
In the history of the world, economic growth has come only from making new combinations of a fixed set of existing resources. Consider that in 1977, the United States GDP totaled $4.5 trillion and amassed a weight of 1.25 billion tons. Twenty-seven years later, in 2004, the GDP has more than doubled, at over $10 trillion. But that economic growth has come with a corresponding weight increase of all goods produced of only 10 percent, to 1.4 billion tons.
The iron oxide (a.k.a. rust) that was once used to store data via cave paintings has now been repurposed as the substrate for magnetic memory disks. Silicon, which came from sand, was primarily used for manufacturing glass and later repurposed for computation. Who would've ever looked at a window and thought that its composition could be reformulated to create a Pentium chip? The overall trend is more economic value per unit of raw material. And this is the epitome of what true nanoscale advances are and why the companies behind them will be tomorrow's leaders. 
There's also a historic trend in which we appear to be using less and less of a given material but reformulating it in ever more complex ways. We will be witnessing a shift in the value between "bits" and "atoms."
Consider that the value of the laptop I type this on lies primarily in the information that designed it, not in the materials it's composed of. If I tried to scrap this computer for parts, it wouldn't get me very far. The same goes for your car, your microwave oven, your cellphone and so on.
The information—€”the recipes—€”for end devices have been more valuable than the raw materials themselves. But I predict a growing shift to materials and commodities becoming repurposed with nanoscale advances to have ever more complex information and value embedded within them. This high ratio of value to mass will accelerate, but at the molecular level more so than the device level.
Devices will be embedded and self-contained within the material.
With the vast combinatorial prospects of the periodic table of elements, there is tremendous value in sorting through the possibilities. Information technology has only recently made this plausible to do—€”in pharmaceuticals with rational design and mass screening of new target compounds and in materials via combinatorial chemistry and high-throughput screening. Companies can use this rational-design approach to co-opt economics of IT to shift the dynamics of what may have traditionally been viewed as commodity material businesses to be models with high fixed costs and low marginal costs.
Consider that four atoms off the periodic table of elements can combine in 94 million ways, and kept in proportions of less than 10 atoms, with 3,500 different sets, could yield 330 billion recipes. Even if we could yield 1,000 new chemical or material recipes each day, it would take a million years to exhaust the possible combinations.
Compare this chemical harmony with musical symphony. Mozart wrote a waltz in which he gave 11 different options for 14 of the 16 bars and two options for the remaining bars. That means there are 2x11^14 variations of this waltz, most of which will never in our lifetimes be heard.
This combinatorial madness is the same as trying to play out every permutation of 25 players on a baseball team to get the best nine-hitter line-up. The players would be long dead before all the games could be played out. Of course, as my team at Lux Capital has pointed out in our Forbes/Wolfe Nanotech Report there are certain companies in nanotechnology that offer modeling and simulation software as a cheat against time.
In nanotechnology, value will accrue to companies selling software that enables high-throughput analysis and screening of combinatorial possibilities for both new material design and drug design.
Regardless of the method, the value lies in the recipes. In other words, the information and intellectual property behind the composition of matter is what will be most valuable. If you add up the total raw materials and the total physical mass on earth, they haven't changed over time. And these resources get split between more and more people in an ever-growing population. Economic growth and value comes from taking these raw materials and rearranging them in ways that haven't existed before.
The intellectual property defining this composition of matter will be the critical asset allowing companies to erect "tollbooths" and "moats" —€”two characteristics we seek when investing in a company. Tollbooths force anyone who wants to use or access the technology to pay a toll. And moats provide defensive protection, constraining others from getting to the castle of opportunity.
Patents in this sense really are a negative right. They're most valuable, not because they allow you to practice a technology but because they prevent others from doing it.
Many of the most exciting advances in nanotechnology will come from biologically inspired engineering. Perhaps the best engineer of all time is Mother Nature.
Spider silk is 100 times stronger than steel per unit weight. ATPase is a nanoscale motor protein that if scaled to the size of a person could spin a telephone pole 2 kilometers long at 60 rpm. Bacterial flagella motors convert energy with near 100 percent efficiency, making your car engine laughable at a mere 30 percent efficiency.
Billions of years of evolution have yielded some of the most precise, energy-efficient and defect-tolerant devices. The human brain with its trillion self-assembled neurons has 10 orders of magnitude higher contact density than a Pentium chip. And nature in myriad forms continues to surpass some of the most sophisticated companies and technologies that man has developed—€”from plants' ability to convert light energy into useful forms via chlorophyll to the ultra-hard structured shells of abalone.
The implications of reverse engineering Mother Nature's designs for our own technological devices will be most profound on the economics of manufacturing. One of our recent investments was into an MIT spinout that has genetically programmed viruses and bacteria to express proteins on their surface coats, which have selective binding affinities for various materials (metals, compound semiconductors). Because the organisms naturally self-assemble into neatly packed arrays, we have a remarkably cheap means of creating even more remarkably complex two- and three-dimensional devices. When we can cheaply and chemically assemble materials and devices in the same manner that beer, cheese and wine are manufactured today, it spells serious disruption and dramatic shifts in supply and value chains.
A Nano Bubble?
So will we see a nanotech bubble? In my favorite cartoon, one guy says to another, "You know you shouldn't smoke. There's a 1 in 10,000 chance you'll get cancer." The other guy replies, "Nah, chances are it won't happen to me." The next day the same guys are talking. One says, "You know, the chances of winning the lottery with that-there ticket in your hand are 1 in 10,000,000." The other guy replies, "Really? Maybe I'll win!"
It is this asymmetry of fear and greed that makes the markets work. It's also with absolute certainty that I say that bankers will ultimately take more nanotech companies public than could ever exist in the market. And they'll only be able to sell those shares to the public if the public demands to buy them.
Markets are messy. Markets are beautiful. And in the end, just like with the lottery, more people will lose money than make it. But those who do make it, will make a fortune. A market works because there are enough people who think a stock will go up and enough who think the exact opposite—€”that the stock will go down and that those other guys are chumps. But once that diversity in perception breaks down, a bubble is on its way. And when the alarm sounds and there's a race to get out of a crowded burning building with narrow exits, most will get crushed.  
Josh Wolfe is editor of the monthly newsletter, the Forbes/Wolfe Nanotech Report and co-founder and managing partner of Lux Capital.
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