As the defense budgets face downward pressure in the US and Europe, emerging markets are poised to spend more than a trillion dollars on defense over the coming decade, creating business opportunities for Western defense firms. A recent Frost & Sullivan analysis of 10 emerging markets concluded that between 2015 and 2025, emerging markets in Southeast Asia, South America, the Middle East and elsewhere would spend more than $1.2 trillion on defense. Over that period, military expenditures in Colombia, Kuwait, Malaysia, Morocco and Singapore are expected to see 3.6 percent compound annual growth rate, while Angola, Azerbaijan, Peru, Qatar and South Korea can anticipate a CAGR of 2.8 percent. Much of that spending will be on personnel, operations and maintenance, leaving relatively modest amounts for new equipment. While the first group will spend an average of $9.5 billion a year combined on new equipment, the second will spend an average of $18.95 billion a year combined, primarily driven by South Korea and Qatar’s acquisition spending. While some emerging markets are rapidly developing countries and some boast more established economies, the three main drivers for their increased defense spending are similar, said Alek Jovovic, an analyst with Avascent.
First, governments want to develop what Jovovic terms “sovereign technical capabilities,” with spillover domestic benefits. “They look at the defense sector and they see certain things came out of defense spending that were just good for countries from a technological perspective. It drives broader industrial development,” he said.
Second, they want the ability to defend themselves as needed without relying on equipment from foreign suppliers.
Third, boosting defense spending helps create high-quality jobs. “These are all trends that are remarkably similar, no matter what the threat context is, no matter where the country is,” Jovovic said.
Earlier this year, the London-based International Institute for Strategic Studies noted that global defense spending rose by 1.7 percent in 2014, the first year of growth since 2010. But the geographical distribution of defense spending is changing, with less coming from the US (which accounted for 38 percent of the global total in 2014, down from 47 percent in 2010) and Europe. “By contrast, defense outlays are rising in many emerging economies, particularly Asia, the Middle East and Russia,” IISS noted in its report Military Balance 2015. “In the Middle East and North Africa, nominal defense spending is estimated to have risen by almost two-thirds since 2010. Factoring in exchange rate and inflationary effects, this equates to a 40 percent increase in real defense outlays over the period.” The shift in defense spending creates opportunities for Western defense contractors as demand for sophisticated weapons will likely outpace emerging countries’ abilities to produce them domestically. As a white paper published by Avascent in March noted, the US has a leading position in these markets, but political friction between the US and its allies leaves an opening for competition from European, Israeli, Russian and Chinese defense companies. While mature markets in Western Europe and Northeast Asia continue to offer major competitive opportunities over the next 10 years, “many opportunities will be found in fast-growing emerging markets which have less well-developed industrial capacity to fulfill the requirements of rapidly expanding militaries,” the Avascent white paper states. “A growing share of revenues for most Western defense suppliers will come from these emerging markets.” For example, 95 percent of defense contracts in Gulf Corporation Council countries between 2010 and 2014 went to foreign companies, with the lion’s share going to the US (73 percent) and Western Europe (24 percent). In the coming decade, 64 percent of GCC contracts are up for grabs, according to Avascent projections. Similarly, the US (41 percent) and Western Europe (31 percent) were the largest defense suppliers for Southeast Asia between 2010 and 2014, but 63 percent of contracts for the coming decade are uncommitted. “On one side it is good news, because a number of new markets that aspire to world-class defense products and services to some smaller degree,” Jovovic said. “On the challenging side, these are sometimes hard markets to do business in. They require a bit of a paradigm shift, you have more partnering, more collaboration with folks on the ground.”
In a survey conducted in October by McKinsey & Company, defense industry executives largely predicted declining defense spending in North America and Europe versus growth in the Middle East and Asia-Pacific. The Middle East (77 percent), India (50 percent), US (33 percent), South Korea (33 percent) and the UK (23 percent) were seen as the most attractive markets, with Japan (20 percent), Brazil (10 percent), Indonesia (10 percent), Canada (10 percent) and China (7 percent) rounding out the top 10. “Declining budgets in the Western world and growth in Asia and the Middle East give rise to an overwhelming trend in the defense industry: affordability,” the McKinsey report states. “About 85 percent of executives believe that their customers will shift their focus from procuring systems with the highest possible performance to ones that are more affordable.”