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Defence companies’ expansion plans are being hobbled by wary lenders. Regulation, ethics and reputation are big stumbling blocks, depriving the industry of the cash it needs to expand production.
Two-fifths of small and medium-sized enterprises in defence have found it difficult or very difficult to access finance, according to a survey carried out by the directorate-general for Defence Industry and Space, which leads the European Commission’s activities in the sector. Half of these companies refrained from seeking bank loans in 2021/22, massively more than the 6.6 per cent average across all SMEs in the region.
True, there is plenty to make lenders queasy. These are not companies that skip through risk profiling checklists. Many are over-leveraged at this point in the cycle, after rushing to add capacity after Russia invaded Ukraine following years of minimal investment.
They operate on long-term contracts: at eight to 10 years or more, these stretch beyond most lenders’ preferred timeframes. End customers, usually governments, may face budget squeezes or are subject to their own geopolitical risks.
Banks’ usual anti-money laundering, know-your-customer and anti-terrorism checks are more rigorous when applied to an industry that makes weapons and exports to far-flung parts of the globe.
But unwillingness to lend peaks when it comes to SMEs, a key artery of the sector. These inevitably have less robust balance sheets than their big, listed peers. In the UK many are also still repaying funds from the Coronavirus Business Interruption Loan Scheme (CBILS). The sector was a big recipient of pandemic-era government support loans. Rising insurance premiums further erode cash flow.
Given the preponderance of SMEs, many long-established and family-owned, affordable bank loans remain the preferred source of funding.
Banks’ reluctance to lend is not just at odds with a sector keen to increase production to meet swelling order books, but also with government aims to muscle up on defence. The EU wants to increase defence spending; the UK’s freshly minted government has yet to detail its plans but has signalled more spending in pre-election campaigning. (A disconnect between government policy ambitions and funding availability is not limited to defence, of course: processors of critical minerals find themselves similarly kiboshed.)
Europe’s DIS “conservatively” puts the debt financing gap at an average €1bn-€2bn for SMEs in the defence sector. Closing that gap — thus enabling the industry to beef up capacity — will entail governments and banks’ co-operation. Depriving an in-demand industry of cash makes little sense.
