At its core, risk management in the defence sector means finding, evaluating, and reducing or getting rid of threats that could harm the safety, security, and performance of national defence capabilities. In this guide, we dive into the basics of risk management in the defence sector and the types of risks that typically impact the industry.
Risk management is vital in every industry, but it’s especially crucial in the defence sector. For starters, aerospace and defence are among the UK’s top exports.
According to data from the International Trade Administration, the UK aerospace industry is the second largest in the world (behind that of the United States), with a total turnover of $34.5 billion in 2022. Around 70% of its domestic production is exported. That same year, the UK defence industry’s turnover totalled $29 billion, $15 billion of which was exported.
But the stakes in defence are not just financial or reputational but also encompass the very security and well-being of nations and their citizens. The defence sector faces a unique set of challenges and threats, from geopolitical tensions and technological disruptions to natural disasters and espionage. Managing these risks effectively is not just about safeguarding assets but ensuring national security, peace, and stability.
Risk Management in the Defence Sector Explained
In the broadest sense, risk management in the defence sector involves identifying, assessing, and taking steps to mitigate or eliminate threats that could jeopardise national defence capabilities’ safety, security, and effectiveness.
These activities are crucial for maintaining operational readiness and achieving strategic objectives. The ultimate goal of risk management in this context is to ensure that the defence forces can operate effectively under various conditions, respond to unforeseen events, and adapt to changing environments without compromising their mission.
Risks in Defence: What Are We Managing?
In the defence sector, risk management encompasses several dimensions:
1. Geopolitical Risks
Many companies in the defence sector have a global footprint that puts their financial and operational performance dependent on political or economic instability in countries where they operate or sell. The Russo-Ukrainian war, for example, led to Russia slashing pipeline gas supplies to Europe by 80 billion cubic metres, triggering an energy crisis.
Share of European Union gas demand met by Russian supply, 2001-2023. Source: IEA
The conflict effectively accelerated the EU’s declining dependence on Russia as a provider of natural gas. It’s this kind of instability that can lead to unexpected changes in defence spending, affecting contracts and operational plans.
2. Supply Chain Risks
The reliance on a global supply chain exposes defence companies to risks ranging from delays and quality issues to the dangers of relying on single suppliers for critical components. On the other hand, expansion in emerging markets for cost advantages introduces another set of risks like political instability and intellectual property rights violations.
Source: Gov.UK
In the UK, the Ministry of Defence (MOD) is turning to SMEs to drive innovation and improve the resilience of defence supply chains. This has led to the creation of initiatives such as the Defence Technology Exploitation Programme — a £16 million programme to increase SME defence innovation. Through the DTEP, collaborative projects between SMEs and larger suppliers can receive individual grants covering up to 50% of a project’s value, with a cap of £500,000 per grant.
Related Reading: 2024 Supply Chain Risk Management Trends
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3. Stifled Innovation
The defence sector is highly concentrated on a few large players. For instance, the commercial aircraft market is largely controlled by Boeing and Airbus, both of whom hold 80% of the market share. This makes it challenging for new entrants to gain a foothold in the sector. In the greater scheme of things, this difficulty of getting new players into the industry can stifle innovation.
4. Talent Acquisition and Retention
The specialised nature of the defence sector makes finding and retaining skilled personnel a critical challenge. Key personnel must often undergo extensive training and receive security clearance, making their retention even more crucial.
Related Reading: The Ultimate CHAS Guide To Managing The UK’s Skills Shortage Problem
The UK’s defence sector could be at a disadvantage compared to other nations due to a shortage of STEM (Science, Technology, Engineering, and Mathematics) talent, a recent research report by Guidant Global reveals. According to the Delivering the Defence Workforce of the Future report, 83% of key decision-makers are concerned about technological setbacks resulting from skill shortages. Additionally, 77% worry about a reduction in defence capabilities, and 72% fear the impact on economic growth.
The report highlights a significant scarcity in engineering skills, with 48% of defence employers noting a shortage. There are also notable gaps in cyber & digital (33%) and manufacturing & mechanical (25%) skills.
5. Contractual and Technological Challenges
Defence companies engage in complex, high-value contracts that involve cutting-edge technology. These contracts come with the risk of technological hurdles, delays, and cost overruns.
According to research by RAND Europe, SMEs and mid-tier suppliers encounter obstacles when trying to reach and engage with top-tier suppliers and the Ministry of Defence (MOD).
These challenges include:
- Marketing their businesses and product offerings to prime defence contractors
- Limited opportunities for direct interaction with the MOD.
This situation arises because prime contractors usually control the communication and interactions of lower-tier suppliers with government customers.
Defence contracting terms and processes also create obstacles to the development of defence supply chains. SMEs have highlighted that the bureaucratic procedures linked with defence procurement contracts, as well as the sub-contracts issued by top-tier companies, do not effectively recognize or incorporate innovation from lower-tier suppliers. This misalignment further complicates the landscape for SMEs trying to penetrate and thrive in the defence sector.
6. Innovation and Technology
Staying ahead technologically is vital in the defence sector. Companies must navigate the balance between using tried-and-tested technologies and adopting innovative solutions to stay competitive. This includes developing products that meet the regulatory standards of different markets.
Commitment and resource allocation are essential, but the rewards of success can greatly surpass the investment. According to the UK Government, business units in the industry can expect a promising return on investment of 12:1, along with finding new partners and solutions that previously seemed out of reach.
7. Cybersecurity Risks
With the increasing reliance on digital technologies, defence companies are prime targets for cyber threats. Protecting sensitive data and safeguarding against cyber attacks is a constant challenge.
8. Financial Risks
The defence sector is susceptible to foreign currency fluctuations and the volatility of commodity prices, which can significantly impact costs and profitability. Managing these financial risks is essential for maintaining stable financial performance.
The Imperative of Advanced Risk Management in Defence
Effective risk management in the defence sector involves comprehensively understanding these varied risks and developing strategies to mitigate them. As defence companies navigate through these challenges, their ability to manage risks effectively will be crucial in maintaining operational resilience, ensuring financial stability, and securing a competitive edge in the global market.
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