Source: Stockholm International Peace Research Institute, as of 2022.
Countries in Southeast Asia have also generated billions of dollars in new orders for the U.S., primarily in response to China’s expanding military power, with $19 billion alone earmarked for Taiwan. Lockheed, an American defense contractor with over $60 billion in annual revenue, has received $950 million in missile orders from the Pentagon in 2022, in part to restock supplies used in Ukraine. Internationally, the company is considered a critical partner in the procurement of advanced aviation and defense solutions, and has secured $50 billion in contacts to build F-35 fighter jets for U.S. allies in Asia and Europe.
The digital age of defense
Over the past decade, the Pentagon has been focused on a strategy of digital transformation, investing in high priority systems like AI, small satellites, hypersonics, 5G networks, and unmanned drones to enhance its capabilities. Smart weapons, for instance, which use computers, AI, and automation to apply force more precisely and effectively, are now being used in combat. The DoD’s commitment to modernization can be seen in its proposed 2024 defense budget, which seeks $145 billion for R&D, with $17.8 billion earmarked for science and technology initiatives and $1.8 billion for AI.  The Defense Innovation Unit, a Pentagon-funded entity tasked with identifying commercial technologies with military potential, estimates that predictive analytics, a technology that uses AI to forecast possible maintenance issues, could save the Air Force $15 billion a year. 
As the world becomes more interconnected and complex, conventional weapons and tactics are also being replaced by cyber warfare—targeting enemy information systems with the intent to cause damage or disruption, as well as electronic warfare—taking control of a country’s electromagnetic spectrum to disable communication, radar, and other electronic systems. This has bolstered demand for AI and machine learning, which can identify and respond to attacks faster, often in real time. The U.S. Army, for instance, has developed a new AI-enabled tool called the Advanced Dynamic Spectrum Reconnaissance (ADSR), which uses wireless communications networks to avoid enemy jamming (the interference of radar signals). 
The U.S. defense industry is fairly concentrated, with a select group of companies providing the majority of the technologically advanced equipment used by the military today. As the conflict endures in Ukraine, companies like Lockheed and BAE Systems are under increasing pressure to produce weapons and ammunitions faster and more cost efficiently for the Pentagon, while also maintaining their superiority in defense and intelligence innovation. AeroVironment, for example, a growing direct competitor to more established U.S. players, has seen 40% y/y revenue growth as demand rises for its AI-powered robotic devices, as well as unmanned aircraft and ground vehicles.  To reinforce its market share, Lockheed has made significant investments in AI, robotics, cyber, and satellite capabilities, among others, to hasten the development of modern air and missile defense systems, including rocket fuel missiles and supersonic reconnaissance drones.  The U.S. Army, for example, is paying Lockheed $72.8 million to design the first integrated cyber, electronic warfare, and intelligence-gathering platform. 
A new growth driver for the tech sector
The private sector has become a core component of the broader U.S. defense strategy. While the DoD played a prominent role in funding major technological advancements during the Cold War—such as the computer, internet, and semiconductors—over time, the private sector has evolved to become the biggest driver of R&D and innovation. Going forward, leveraging the expertise of nontraditional defense companies with new ideas and technologies will be critical to modernizing the military and ensuring national security, in particular helping to protect the massive amount of classified data now generated by the government.
In recent years, America’s tech giants have secured thousands of contracts to provide the digital tools needed to create next-gen defense and intelligence systems, including AI, the cloud, IoT software, and real-time data analytics. Microsoft, for instance, won a $22 billion agreement to supply the U.S. Army with augmented reality goggles,  while Amazon, Alphabet, Microsoft, and Oracle are currently sharing a $9 billion cloud-computing agreement with the Pentagon.  Lockheed, meanwhile, is utilizing Microsoft’s cloud-based AI, modeling, and simulation program to assess potential defense technologies virtually and create cyber solutions for the military.  These are just a few examples of how big-tech and AI is disrupting yet another sector.
The defense sector’s focus on software development also creates opportunities for providers of sensors, advanced components, AI chips, and other processing and networking solutions. In 2023, Nvidia launched DGX Quantum, an AI supercomputer that Lockheed is using to develop and train models for predictive maintenance.  Intel, a U.S. semiconductor manufacturer, is expected to receive billions of dollars from the CHIPS Act to produce chips exclusively for the Pentagon. The government has also been building out its 5G network capabilities to accelerate its digital transformation via stronger and faster connectivity. Arista Networks, which produces cloud networking solutions for “hyperscale” data centers, was granted a $100 million contract to upgrade the military’s networking equipment.  Qualcomm Technologies, a wireless tech company, is also working with the U.S. Navy to assess the potential benefits of 5G, AI, and cloud computing. 
At Wilmington Trust, the investment team believes that emerging secular growth trends will continue to provide new opportunities for investors across the industrials sector, aerospace and defense included. Rising geopolitical tensions, combined with the Pentagon’s long-term modernization strategy, is expected to boost demand for innovative defense and intelligence solutions. As disruptive forces reshape the industry, defense contractors will need to collaborate with partners across the tech ecosystem, including developers of AI and other software, to improve autonomous weapons, intelligence gathering, surveillance systems, and robotic vehicles. As the global race to modernize gains momentum, an increasing number of U.S. tech companies have set their sights on the defense sector, seeking to leverage their leadership in R&D and AI to win long-term contracts and help meet future military needs. We currently have exposure to the defense theme across our equity strategies, with an emphasis on the emerging defense players in our growth-tilted portfolios.