1John Dowdy andMelanie TaylorDefense outlook 2015: A globalsurvey of defense-industry executivesIn December 2012, we surveyed a small group of senior executives from leading aerospace and defense companies around the globe, 20 in total, to the next three years hold? We invited executives to share their views on topics such as market outlook and overall trends, industry restructuring, and growth prospects. About three-quarters of the executives surveyed were C-level leaders at their organization—CEO, COO, CFO, CMO, or president—while the others were vice presidents or general managers. Our sample was geograph-ically diverse, with two-thirds of executives from Europe and the Middle East;; one-third were from the Americas. Most lead companies or divi- sions with at least $5 billion in revenues. Today’s leading defense executives offer their insights.Respondents agreed on many topics, especially the somber outlook for global defense spending. With only one exception, executives see global spending declining over the next three years. They see the defense industry changing, and they are all taking measures to adapt. Leaders are preparing to meet the challenge of evolving customer needs, especially the quest for affordable products, and expect to be active in corporate in international markets such as India and the Middle East. Finally, executives see growth potential in commercial aerospace, services, unmanned systems, and cybersecurity, with inter- esting differences of opinion on the relative attractiveness of these opportunities. A E R O S P A C E & D E F E N S E P R A C T I C EA P R I L 2 0 1 3
2A shrinking marketWhen asked about the outlook for the global market, the near-universal expectation is for a decline, but executives disagree on the extent market revenues will decrease between 1 and 20 percent. The rest expect something in between. We also asked respondents about the outlook in the markets in which they are active, and found and the Middle East were seen by most as pockets of moderate growth, offsetting moderate to America. South America and Africa were largely predicted to either remain the same or have slight increases (Exhibit 1). To understand how regional shifts might affect the nature of global competition, we questioned executives about the decline in defense spending in established markets and the rise in emerging markets. Would this shift in spending be accompanied by a commensurate shift in the structure of the industry? Would new globally competitive players emerge, Exhibit 1 Expected changes in defense spending vary fordifferent regions of the world.McKinsey on Defense 2013Survey ﬁndingsExhibit 1 of 31 Respondents who answered “no change” are not included. Figures do not sum to 100%, because of rounding. Source: Dec 2012 McKinsey survey of defense-industry executivesDecreaseof 6–10%Decrease of10–20%Decreaseof >20%Decreaseof 1–5%Increaseof 1–5%Increase of6–10%Increase of10–20%Increaseof >20%North America% of respondents expectingan increase1% of respondents expectinga decrease1396 33 222410 24 38Europe 396 22 28South America 137 27 13Africa 6 31 19Asia-PaciﬁcWorld25 44 25Middle East 186 47 6 6Kate Miller
3When we asked respondents what changes they would like to see in government defense procurement, many cited a desire for greater tion of processes, and more open dialogue and collaboration. Respondents also hoped for a clearer strategy backed by a long-term plan, and for increasing consistency. One executive wrote that government should “truly embrace commercial practices, especially in manu-facturing—and move away from congressionally hoped that government would “make it simpler of the industrial base and allow consolidation executive said a desired change would be “more open collaboration between industry and departments of defense early in the requirements and acquisition process. The littoral combat ship, for all its warts, can provide a model for three-fourths of respondents expect an increase in the rate at which defense companies will using their lower cost structures as a spring- board to global prominence? Almost two-thirds of respondents—admittedly, mostly from more established markets—said they did not expect to see a new competitive global player emerge;; instead they thought that companies in emerging markets would continue to function mainly as low-cost manufacturers or suppliers. If any of these companies do manage to emerge as tions for the global industry structure. The changing nature ofthe defense businessThe survey results make it clear that defense-industry leaders believe their companies must change the way they do business;; the ques- tion is how to do it. Almost all survey respondents believe that defense customers will change their focus from procuring the systems with the highest possible performance to ones that are more affordable. However, only two-thirds of the defense-industry executives surveyed think that defense suppliers will be able to change their internal processes to deliver more afford-able, rather than exquisite, products. Defense-industry leaders believe their companies must change the way they do business;; the question is how to do it.
4manage their portfolio of businesses in the next one to three years, with over three-fourths of respondents expecting their companies to engage in mergers and acquisitions, while almost two-thirds expect their companies to divest some part of their current portfolio. The search for growth opportunitiesGiven the downturn in many major markets, growth opportunity is more important than ever. Almost all said that their companies will pursue increased international growth in the next three years. When we asked the executives to name the most attractive markets outside their current focus, a majority noted interest in India, Brazil, and the Middle East, followed by the United States (Exhibit 2). Industry leaders also shared their apprehensions about the challenges of international growth. Many voiced concerns about export controls in Arms Regulations, suggesting these are a struggle with decreasing budgets. Respon- dents also cited cultural issues, such as “lack of management experience working outside the for a “change of mind-set from top management, potential barriers to international growth. One industry executive said that “apart from some huge international programs such as the F-35 Joint Strike Fighter program, much of the defense contracting is kept in country, with Exhibit 2 What are the most attractive markets outsideyour company’s current market focus?McKinsey on Defense 2013Survey ﬁndingsExhibit 2 of 3 Source: Dec 2012 McKinsey survey of defense-industry executivesIndiaBrazilMiddle EastUnited StatesUnited KingdomPakistanGermanyJapanCanadaFranceRussiaChinaKorea6762523814141010105555% of respondents
5a few exceptions such as the United Kingdom or a rapidly growing market with low internal noted concerns about obtaining “access in “local footprint and design/counterfeit Four sectors were cited as showing the most space, services, unmanned systems, and cybersecurity (Exhibit 3). Each of these growth opportunities comes with unique challenges and concerns. With respect to commercial aerospace, one of the largest potential areas of growth for defense companies, incumbents on Boeing/Airbus narrow-body as a challenge, while another stated having be an issue. When we asked respondents how they expected defense companies to adjust their portfolios between defense and commercial in the next one to three years, about half predicted a bias toward commercial. Only a handful predicted a bias toward defense, with the others expecting portfolios to balance.Services, the second most anticipated source of growth, was cited by three-fourths of respondents to generate a larger share of their companies’ revenues. Executives note challenges for service growth include recruiting, how to create value, the procurement process, competition from government, insourcing by military customers, and customer resistance.One area of varying opinions was unmanned sys- tems. While about two-thirds of survey respondents say their companies will seek Exhibit 3 What areas show the most potential for increasedgrowth in the next one to three years?McKinsey on Defense 2013Survey ﬁndingsExhibit 3 of 3 Source: Dec 2012 McKinsey survey of defense-industry executivesCommercial aerospace Unmanned systems CybersecurityServices81757152% of respondents