Although a majority of the leading defense companies are enjoying record growth and profitability, the changing nature of warfare is having a transformative impact on the industry. As governments deploy fewer arsenals of traditional weapons, they are moving toward highly evolved, integrated systems that promote rapid deployment and extreme precision.
In response to ramped up demands for innovative weaponry systems, defense companies are required to become more flexible and agile. This shift is dramatically changing the way A&D companies serve their customers, collaborate with their partners, and take ideas and solutions to market. Based on our experience, we have identified several vitally important challenges currently confronting major U.S. defense companies:
- Uncertain market — Although supplemental spending bills present an opportunity for uplift, U.S. defense budgets are expected to come under pressure within the next few years, creating business risk for defense companies heavily dependent on Department of Defense spend.
- Clogged leadership pipeline — Large percentages of science, engineering, and manufacturing professionals are nearing retirement within the next five to seven years, creating a potential loss of significant knowledge and experience for defense companies. This demographic shift not only represents a loss of deep technical skills, but creates a talent-management challenge as the leadership pipeline becomes "clogged" with managers who have less experience.
- Influx of new competition — Recent consolidation of European and other foreign defense markets has introduced equal partners who are financially and technologically competitive.
- Limited M&A opportunities — Capital market premiums (upwards of 20 to 40 percent) on defense firms make large-scale mergers and acquisitions difficult to justify from a financial perspective in the short term.
- Organizational challenges — Environments with complex matrices and autonomous business units (frequently as a result of prior acquisitions) often create cultural and organizational barriers to large-scale change and can undermine efficiencies across the enterprise.
- Increased margin pressure — Rising raw material demand and further consolidation within certain sectors (e.g., steel and copper industries) have resulted in increased costs for many defense companies, leading to reduced profit margins.
To confront these challenges, many leading defense companies are aggressively focused on driving transformational enterprise-wide change to increase their agility. As a result, they are pursuing multiple profitable growth strategies, including the following:
- Move to adjacent markets — Focus on new business opportunities such as Homeland Security and/or markets that are counter-cyclical to the traditional defense business.
- Industry-specific globalization — Develop a high degree of geopolitical expertise and sophisticated skill sets to effectively play in the global arena. The challenge of developing global markets for A&D companies is closely aligned to country-specific governmental, policy, and cultural considerations.
- Increased customer focus — Ensure that the customer perspective is the driving force behind all value-added business activities, in keeping with transformations at the U.S. Department of Defense.
- Innovation — Practice “intrapreneurship” by creating new business models, commercializing existing technologies, and dynamically creating new opportunities for profitable growth, despite having to work in traditionally risk-averse cultures.
- Strategic alliance partnering — Develop more “win-win” solutions and approaches with key alliance partners and suppliers in order to shorten product life cycles and reduce time to market for solutions.
- Increased internal collaboration — Partner internally by focusing on horizontal integration (cross-function and cross-division) to better leverage technologies and resources throughout the enterprise.
Find out about Wharton's executive learning solutions for individuals and organizations in the Aerospace and Defense industry.
