The aerospace and defense industry has achieved great things over the past 100 years and while private investment played a role, the industry has also relied heavily on government-funded research and development. So there could be real reason to be worried as the industry braces for another $500 billion in defense budget cuts over the next 10 years under “sequestration,” the other half of the reductions enacted by Congress two years ago. Nobody seems to know where the cuts will hit. Dennis Muilenburg, the CEO of 's Defense, Space & Security unit, recently described the climate of budget uncertainty and political gridlock as “chaos” that is having a “devastating” impact on contractors (AW&ST Nov. 4, p. 42).
Which brings us to the topic of innovation in the sequestration era. With government investments in innovation almost certain to decline, now would be a good time for industry to start investing more in its long-term future. Unfortunately, the early signs are not encouraging. A new study by PwC on the state of A&D innovation finds that cost control and earnings are dominating managements' priorities. Some comments were representative of one survey participant who stated, “We do not tolerate technology risk.” In other words, the company will only develop products based on proven, low-risk technologies. And that raises a troubling question: Is an industry built on barnstormers—such as William Boeing, Igor, Jack Northrop and Howard Hughes—now run by bankers?
Our study found that many executives understand innovation is critically important and a driver of revenue growth. They understand that innovation, when done well, can drive long-term value creation. And they grasp that the “rapid-innovation” environment during the conflicts in Iraq and Afghanistan has changed and will require more discipline in an era of constrained budgets. But our analysis also reveals that A&D is significantly underperforming other industries in creating value from R&D investments. Many companies are struggling to align their innovation and growth strategies. And while there is widespread expectation that growth will come from commercial markets, respondents have lower confidence in their ability to leverage defense technologies into those areas.
I am not advocating adventure over fiscal discipline. To the contrary, I believe there is opportunity to enhance long-term value creation from a more thoughtful and disciplined approach to innovation. The goal is not to eliminate risk, for it creates return. Rather, the objective is to more effectively manage risk and achieve greater returns from innovation investment. Some key recommendations:
•Recognize the importance of innovation and treat it as a business process. Many companies recognize that innovation is critical to their success, yet do not identify it as an enterprise risk or include innovation in their business process improvement system (e.g., Six Sigma).
•Link innovation strategy and funding to long-term goals, rather than short-term budgeting.
•Improve market understanding. Many executives in our study rated market understanding a “high priority” but “low-maturity.”
•Improve product line planning. Most survey respondents rated this area as low-importance. Product planning is largely underdeveloped and confined to individual programs, trapping opportunities to create greater leverage and more affordable solutions.
•Anticipate the market. The traditional model for product planning is customer-led. The more innovative approach anticipates the customer's future needs. Consider thatdeveloped the Predator based on market anticipation.
•Improve execution. Although respondents generally rated product and process development as “mature,” only about one-third of respondents rated their execution as excellent or good. Many believe inaccurate technology assessments contribute to cost overruns and schedule delays.
•Incorporate disruptive technologies into your strategy. Consider allocating some of your R&D budget toward them. While new technologies can lead to greater risk, they can help create greater long-term value.
If companies assess the current state of their innovation processes and follow these recommendations, they will invest in innovation with more confidence so it will create long-term value for their shareholders. I can't think of a better example of risk-takers than the 20th-century aviators. Who will be the barnstormers of the 21st century?
Scott Thompson is a PwC partner and leader of its U.S. Aerospace & Defense practice. He is based in McLean, Va.