The last two decades have seen a prolonged period of strong economic growth and a sustained demand supercycle within the aerospace and defense sector. “Bigger is better” was the growth philosophy for the last two decades. The industry saw unprecedented growth in publicly traded Tier 1 and 2 companies through acquisition and expansion of global business units, with many deals bringing access to adjacent markets.

Since 2019, geopolitics, COVID-19 and the Boeing 737 MAX production stop have created new dynamics that are forcing companies to shift from a “bigger is better” approach to being “strategically focused.” Companies will need to zero in on their core product with refined strategies to prepare for the next supercycle. Realignment is beginning already within Tier 1 and 2 companies.

Private equity groups have long participated in the smaller segments of the supply chain, primarily Tiers 3 and 4. Industry veterans may be reticent to deal with private equity groups due to their record of having acquired, debt-loaded and then run historically good businesses into bankruptcy.

More recently, private equity investors have increased their equity investment in the companies they acquire, boosting their “skin in the game” regarding the success of the acquired company. Private equity firms have swapped portfolio management from financial managers to industry operators as they have learned to operate effectively in this difficult industry.

Indeed, today’s private equity sponsors move more quickly and make business improvements that traditional publicly traded Tier 1 and 2 companies and privately held Tier 3 and 4 companies do not. Embedded bureaucratic business models keep larger companies from changing rapidly, and smaller companies do not have the monetary resources to invest. This is where private equity could step in to refashion the aerospace and defense industry.

Private equity groups have developed three distinct models in their approach to the aerospace and defense sector. The terms I use for these models are: value rebuilding, value creation and value acceleration. While private equity groups have different investment goals and management expertise, the three value models could serve the industry in multiple ways. Here is how private equity groups might use these models to recharge aerospace and defense for the next supercycle.

Value rebuilding is directed at a distressed company by private equity investors who specialize in turnarounds. This usually involves investment horizons of less than three years as private equity takes over a company and massively restructures and rebaselines it. Within this model, private equity likely would invest mostly equity, as the businesses are usually in heavy debt already and cannot handle more leverage.

Once stabilized, the sponsor would sell the business to an owner that will further improve it. By virtue of their investment thesis, private equity investors know how to manage through economic downturns and the end of a down cycle. This entails consolidating underperforming business units or spinning off noncore assets to enable the remaining business to reach more potential.

Value creation is directed at undermanaged or underperforming businesses—usually family-owned small companies. While not distressed, these companies need improvement, from business processes to execution. Private equity groups might change executives, improve systems, develop processes and establish strategic planning. The investment horizon is usually 4-5 years, with a mix of equity and debt. While changes can be stark, they are intended to be proactive in nature and accelerate capital expenditure investment to improve efficiency and productivity.

Finally, value acceleration is directed at a company that is operating efficiently and doing well financially but needs additional investment in research, new programs and even capital to expand to new segments and product lines. This is the newest form of private equity investment, typically with a horizon of about five years or more. A company in this category needs “patient capital” to allow for growth plans to mature over timelines longer than the traditional 3-5 years. This can include multiple, focused acquisitions and a strong customer focus on product development and content expansion.

Investors providing patient capital would allow the company’s growth plans to fully mature. In turn, the private equity sponsor would benefit most once the company is able to outcompete in the next supercycle.

After decades of practice, private equity groups have broadened and refined their models in aerospace and defense. The next upcycle will be glad they did.

Alex Krutz is managing director at Patriot Industrial Partners, an aerospace and defense advisory firm that focuses on manufacturing strategy and supply chain optimization.