Geopolitical Shifts Fueling Defense Investment in 2025
The defense investment world looks completely different in 2025. Global tensions and NATO's spending goals have changed the map. Private equity now sees unprecedented opportunities in the defense sector. Major powers have changed their strategies, setting up one of the biggest defense spending cycles we've seen in decades.
Rising Global Tensions and Military Spending
Defense budgets worldwide have surged because the global security situation has gotten worse. Military spending hit a record $271 trillion in 2024. This represents a 9.4% jump from 2023 - the biggest yearly increase since the Cold War ended. The world now spends 2.5% of its GDP on defense. This creates perfect conditions for private equity to invest in defense tech and platforms.
Private equity firms need to see where growth happens regionally. Military budgets grew in every region, especially in Europe and the Middle East. The world's top five military spenders - the United States, China, Russia, Germany, and India - made up 60% of global military spending, reaching $163 trillion combined. This concentration points to specific investment chances in their supply chains.
Russian military spending reached $149 billion in 2024. This marks a 38% jump from 2023 and doubles what Russia spent in 2015. China keeps modernizing its military with a 7.4% real growth in its defense budget. They focus on advanced capabilities like cyber warfare and nuclear weapons. These changes signal strong market potential for next-gen defense tech that tackles asymmetric threats.
European Defense Budgets and NATO Commitments
NATO's decision at the 2025 Hague Summit altered European defense investment thinking. Member countries will spend 5% of GDP yearly on defense by 2035. This breaks down to 3.5% for core defense needs and 1.5% for defense and security investments. The new target is much higher than the old 2% goal and opens up huge opportunities across European defense industries.
Almost all NATO members have stepped up their game. Twenty-three out of 32 members now spend at least 2% of GDP on defense - that's four times more countries than in 2021. Poland tops NATO's list by spending 4.1% of GDP on defense. Germany made the biggest change by boosting its military budget by 28% to $88.5 billion in 2024. This makes Germany Western Europe's biggest spender and fourth worldwide.
European NATO members spent $454 billion in 2024, which is 30% of NATO's total spending. Long-term investors should note what IISS Military Balance says: "The biggest problems in Europe remain keeping up recent increases, meeting President Trump's call for higher spending, and dealing with possible weaker US defense commitments".
U.S. Strategic Redirection under New Administration
President Trump's return has sparked big changes in NATO and defense planning. He wants NATO allies to spend 5% of GDP, way above NATO's new target. This pressure, plus worries about U.S. stepping back, has pushed European countries to invest more in defense.
U.S. defense strategy looks different now. The Pentagon seems to care more about protecting home soil than focusing on China. Politico notes that "people question old, trusted U.S. promises". This uncertainty typically makes allies spend more on defense.
The U.S. still leads in defense spending with 37% of global military costs and 66% of NATO's total budget. U.S. defense spending grew 5.7% to $997 billion. Much of this money goes to modernizing capabilities and nuclear weapons to stay ahead of Russia and China.
These changes paint a clear picture for private equity defense investors. They can expect steady growth in defense spending, faster tech upgrades, and new chances to invest in strong supply chains. This includes dual-use technologies that work for both military and commercial needs.
Private Capital’s Expanding Role in the $850B Defense Market
The defense market has grown into an $850 billion powerhouse that attracts record amounts of private capital. Institutional investors now see defense assets as resilient with strong growth potential. Investment approaches have expanded across the sector, creating profitable opportunities for smart investors who know the industry well.
Private Equity vs Venture Capital: Capital Deployment Models
Private equity and venture capital firms take different approaches to defense investments. Each model works best for specific market segments. Private equity targets established defense contractors that have proven revenue streams. These firms focus on improving operations and finding consolidation opportunities. The average defense PE deal reached $1.2 billion in 2024, which is 35% higher than 2023. Venture capital firms prefer early-stage defense technology companies, especially those working on game-changing capabilities in autonomy, AI, and quantum technologies.
These investment approaches also differ in their timelines. Defense sector PE firms typically hold investments for 5.7 years, much longer than the 4.2-year average across other industries. This longer timeline exists because the defense sector has unique characteristics:
Procurement cycles need patient capital
Government approval processes are complex
High barriers to entry create lasting competitive advantages
Long-term contracts provide steady revenue
PE firms have also changed their usual strategies for defense markets. Instead of just cutting costs, leading defense-focused firms like Veritas Capital and AE Industrial Partners now emphasize building capabilities and technological advantages. This strategy has paid off well. Defense-focused PE funds have delivered average returns of 22.3% in the last five years, beating general PE returns by about 430 basis points.
Private Defense Companies Attracting Growth Equity
Private defense companies have become highly attractive for growth equity investments. These companies, often known as "non-traditional defense contractors," have raised $17.3 billion in private funding since 2022. They focus on developing advanced capabilities outside traditional prime contractor systems.
Growth equity investors now prefer defense technology companies that can grow faster while managing complex defense procurement. Anduril Industries shows this trend perfectly. The company raised $1.5 billion in Series E funding in December 2023, reaching a $13.5 billion valuation. Shield AI followed suit with $600 million in Series F funding in March 2024, hitting an $8 billion valuation. Both companies have shown impressive growth, with Anduril reaching $1.1 billion in yearly revenue in 2024.
These companies offer more than just growth numbers. They give investors access to defense markets without the concentrated customer risk and lower margins usually seen with traditional defense primes. Private defense companies maintain average gross margins of 58%, which is a big deal as it means that they outperform public defense contractors' typical 22-28% range.
Dual-Use Technology as a Catalyst for Investment
Dual-use technologies serve both commercial and military purposes and have become key drivers for private capital in the defense sector. These technologies give investors bigger market opportunities, faster development cycles, and diverse revenue streams that reduce dependence on defense budgets.
The hottest investment areas for dual-use technologies include:
Advanced semiconductors and microelectronics
Space infrastructure and satellite communications
Quantum computing and sensing capabilities
Autonomous systems and robotics
Advanced materials and additive manufacturing
Dual-use technologies help defense-focused companies grow faster by using commercial market dynamics while keeping their defense applications. Companies can benefit from defense procurement's stability while tapping into commercial markets' rapid innovation cycles.
PE firms have noticed this trend. About 76% of aerospace and defense PE deals in 2024 involved companies with significant dual-use technology portfolios. This marks a huge change from 2019, when only 41% of defense PE investments targeted dual-use capabilities. Private capital now sees defense not just as a stable sector but as a source of technological innovation with wider commercial uses.
DOD Procurement Reforms and Industrial Strategy
The Department of Defense has launched groundbreaking procurement reforms that give private equity investors exceptional chances in 2025. These changes aim to deliver capabilities faster while welcoming non-traditional defense contractors. Smart investors now have new ways to benefit from modernizing America's defense industrial base.
National Defense Industrial Strategy 2024–2029
The Department of Defense unveiled its first National Defense Industrial Strategy (NDIS) in January 2024. This strategy provides a detailed framework to "catalyze generational change from the existing defense industrial base to a more robust, resilient, and dynamic modernized defense industrial ecosystem". Private equity investors should pay attention to these four vital strategic priorities:
Resilient supply chains - Secure production of essential technologies that works faster at scale
Workforce readiness - A skilled workforce throughout the defense ecosystem
Flexible acquisition - Methods that balance efficiency with customization in defense platforms
Economic deterrence - Market mechanisms supporting industrial resilience between the U.S. and close allies
The NDIS Implementation Plan came out in October 2024 with six key initiatives. These include Indo-Pacific deterrence, production and supply chains, and international industrial collaboration. The plan needs at least $23 billion between FY2025 and FY2029. This creates valuable investment possibilities for private capital.
Fixed-Price Contracts and OTAs for Startups
Defense tech startups can now benefit from flexible contracting mechanisms. An April 2025 executive order changed defense procurement rules. It established "first preference for commercial solutions and a general preference for Other Transactions Authority". This marks a change from cost-plus contracting to fixed-price arrangements that reward breakthroughs and optimization.
Other Transaction Authority (OTA) agreements have become powerful tools for non-traditional defense contractors. These agreements work outside traditional Federal Acquisition Regulation (FAR) processes. The DoD can work with commercial technology companies through simplified procurement methods. The Department spent over $24 billion on OTA awards for prototyping efforts from 2019 through 2021. This shows how these alternative procurement paths keep growing.
OTAs give private investors several advantages:
Simplified proposal and evaluation processes
Better flexibility in intellectual property arrangements
Less regulatory burden than FAR-based contracts
Production opportunities without competition
Overcoming the 'Valley of Death' in Defense Tech
The "Valley of Death" - the gap between prototype funding and production contracts - often kills promising defense technologies. This challenge gives private equity firms a unique opening. Companies that know how to direct this transition can create exceptional value.
The Department has built several bridges across this gap. The Defense Innovation Unit (DIU) uses OTAs to adapt commercial technology for military use quickly. The Strategic Funding Increase (STRATFI) and Tactical Funding Increase (TACFI) programs help SBIR-backed technologies get larger DoD contracts before full-scale procurement.
Private capital serves as the backbone of this ecosystem. National Security Advisor Mike Waltz, a former Representative, pointed out that "The largest shipyard in China could fit every shipyard in the United States inside it". Fixing this capacity gap needs both government funding and substantial private investment in industrial expansion. Private equity firms excel at this type of growth.
These procurement reforms create a compelling investment case for private equity firms in the defense sector. Simplified acquisition paths, flexible contracting, and focus on industrial base expansion make this the best time in decades to invest in defense technology.
Where Private Equity is Placing Bets in Defense
Private equity firms now target specific deployment strategies in the defense sector by putting record amounts of capital into high-growth market segments. The investment landscape looks attractive because defense budgets remain strong, state-of-the-art technology advances, and supply chain challenges create natural opportunities to consolidate.
Tier 2 and Tier 3 Supplier Consolidation
The defense industry has changed dramatically since the 1990s. The number of aerospace and defense prime contractors dropped from 51 to just 5: Lockheed Martin, Raytheon, General Dynamics, Northrop Grumman, and Boeing. PE firms now focus on Tier 2 and Tier 3 suppliers as this consolidation trend continues downstream.
Major weapons categories show a stark reduction in supplier diversity:
Tactical missile suppliers fell from 13 to 3
Fixed-wing aircraft suppliers decreased from 8 to 3
Satellite suppliers dropped from 8 to 4
Just three sources now produce 90% of missiles. PE firms actively seek consolidation opportunities among independent suppliers that remain. These investments help fix supply chain fragmentation and make portfolio companies attractive targets for prime contractors looking to integrate vertically.
Cybersecurity and Signals Intelligence Platforms
Cybersecurity and signals intelligence stand out as top investment targets in defense technology. Global PE and venture capital investments in cybersecurity hit $950 million across 21 deals in early 2025. This is a big deal as it means that 2024 levels will likely be surpassed.
Identity and access management—a crucial defense capability—saw transaction values through early March reach about 66% of the entire 2024 total.
Defense Venture Capital: Startups Reshaping the Battlefield
Venture capital stands as the key force behind battlefield transformation that brings state-of-the-art solutions to defense technology sectors. Advanced technologies meet simplified acquisition pathways to create perfect conditions for startups developing next-generation defense capabilities.
Autonomous Systems and AI-Driven Platforms
Autonomous systems lead the defense venture funding segment. They attracted over $35.8 billion in 2023—a big deal as it means that it's grown from just $1.9 billion a decade earlier. These investments target platforms that work independently in GPS-denied environments. They process battlefield data at the tactical edge and complete complex missions with minimal human oversight.
Shield AI shows this trend with its Hivemind Enterprise platform. This AI-powered autonomy software suite lets unmanned systems work without GPS or communications networks. The sector's advanced investments target capabilities that change battlefield dynamics through faster decisions, lower human risk, and better operational flexibility.
Space and Hypersonics: The New Frontier
Space infrastructure and hypersonic systems have become the top investment targets in defense technology. Impulse Space, which develops orbital spacecraft, secured $300 million in Series C funding earlier this year. The hypersonics race has picked up speed, and major powers now invest heavily in capabilities that travel at Mach 5 or above.
Strategic investors know that hypersonic technologies face tough challenges. These need expert knowledge in heat management, new materials, maneuverability, accuracy, and communications. Mark Lewis, president of Purdue Applied Research Institute says, "peer competitors have made it clear they're developing and deploying hypersonic weapons, and we know we're playing a game of catch-up".
Case Study: Shield AI and Anduril's Funding Rounds
Defense tech unicorns' success shows venture capital's transformative effect. Shield AI raised $240 million at a $5.3 billion valuation in March 2025. Strategic investors like L3Harris and Hanwha Asset Management joined the round. The company's value has nearly doubled since 2023, which shows growing investor interest in defense autonomy platforms.
Anduril Industries leads CNBC's 2025 Innovator 50 list with a $30.5 billion valuation after raising $2.5 billion in Series G funding. This makes it the first defense tech company to reach this milestone. These valuations reflect both companies' strong revenue growth and strategic position in critical defense technology areas.
These ventures prove defense technology's massive growth potential as an investment category. Their combined value exceeds $45 billion, with almost $10 billion raised from investors. These numbers highlight venture capital's key role in rebuilding America's defense industrial base from scratch.
Challenges and Risk Factors for Private Investors
The defense industry presents exceptional investment opportunities. Private equity investors face unique challenges that need specialized expertise and careful planning to succeed.
How to Guide Through Government Procurement Bureaucracy
Bureaucratic complexities create major obstacles for private defense companies. The Federal Acquisition Regulation contains more than 2,000 pages. This number grows to over 5,000 pages when combined with DoD supplements. The average time for major acquisition programs to deliver capability has reached eleven years. The April 2025 Executive Order on modernizing acquisition practices creates ways to optimize engagement. Small businesses have struggled with these procurement challenges. From 2011 to 2020, about 40% of them left the DoD market.
Balancing Commercial and Defense Revenue Streams
A balanced portfolio mix is vital for sustained growth. Defense contracts provide stability. Companies that rely only on government revenue struggle with cashflow during budget uncertainties. Successful private equity strategies usually focus on dual-use technologies. These serve both military and commercial markets. Companies must carefully handle ITAR and EAR export control regulations when pursuing this balanced approach.
Exit Strategies in a Fragmented Market
The right exit timing determines investment success. Defense contractors with private equity backing see bankruptcy rates 4-9% higher than their counterparts. The average twelve-month venture funding cycle clashes with DoD's extended procurement timeline. Smart investors who understand these market forces can structure profitable exits despite these challenges.
Conclusion
Military spending has reached record levels worldwide. Geopolitical tensions, state-of-the-art technology, and defense procurement reforms have created an exciting investment landscape for private equity in defense. NATO's ambitious 5% GDP target and new threats have changed how defense capital is allocated. Smart investors who understand these changes can generate substantial returns throughout this extended defense investment cycle.
Private capital has become crucial in the $850B defense market. Specialized funds consistently perform better than broader market standards. Companies like Shield AI and Anduril Industries show how defense technology investments can deliver extraordinary growth when investors understand the sector's unique characteristics.
Tier 2 and Tier 3 supplier bases are scattered, which creates great chances to consolidate. The aftermarket services, MRO platforms, and dual-use technologies create diverse revenue streams that reduce traditional defense market risks. These segments benefit from increased defense budgets while keeping commercial applications that push valuation multiples beyond traditional defense contractors.
Defense will remain one of the most attractive private equity targets through 2025 and beyond. The sector combines stable government funding with technological breakthroughs to create ideal conditions for value creation. Smart investors who become skilled at government procurement systems while encouraging commercial applications will see exceptional returns. This comes from a generational change in defense spending priorities. Despite some challenges, the defense industry's changes give private capital a rare chance to deliver outstanding financial results and strengthen national security at the same time.