UK Defence Secretary Liam Fox is planning a 25% cut in his ministry’s running costs in the aftermath of the global financial crisis. The US has also been reconsidering its priorities, and has confirmed that it will cut defence-related R&D in 2011. So what will this new mood of austerity mean for the global defence industry, and for the small and medium-sized enterprises (SMEs) that drive innovation within the sector?

According to some in the industry, at least in the UK, small businesses will have no excuse for not thriving in the current situation. Recessions of the past have taught small businesses the benefits of cooperating and using regional infrastructures to help innovate, providing jobs and, in many cases, keeping local economies afloat.

Will Crawford is the co-founder of Concrete Canvas, a UK company that produces an innovative material used to build shelters in military and humanitarian situations. Concrete Canvas uses cement-impregnated fabric to create light but strong shelters, which can be inflated and “ready to use” in just two hours. It is also being used in civil engineering applications, for example in lining ditches more quickly and economically than conventional concrete.

“Past recessions have taught small businesses the benefits of cooperating and using regional infrastructures to help innovate.”

The product was developed at the Royal College of Art in London, and its success relied heavily on getting it to market in a short time frame.

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Concrete Canvas combined initial funding from the East Midlands Development Agency with private capital from business angels. Later, following relocation to Wales, it received support from International Business Wales.

Crawford says he has been "pretty impressed" with the volume of funds made available for his small business – his company has employed the services of UK Trade and Investment (UKTI), which encompasses the Defence Export Services Organisation (DESO), and taken part in subsidised trade missions.

Crawford’s experience shows that despite economic hard times opportunities still exist.

"The biggest obstacle for small companies is the level of bureaucracy," he says, adding that companies do have to be patient and determined if they want to overcome the large amount of red tape that often ties up such funds.

Initiative is also important. Set up in 2008, the UK’s Technology Strategy Board promotes UK innovation and establishes research priorities identified by different government departments. For example, in May 2010 the UK MoD was looking for innovations for the next generation of search-and-detect bomb disposal equipment, and for on-line applications for research into behaviour and attitudes and how to influence them in conflict situations. This platform offers small, innovative companies the chance to not only identify “hotspots” for government contracts but compete to access funding and then work collaboratively with other commercial partners.

Over in America

In the US, President Barack Obama has also moved to clarify defence priorities. Two different trends can be identified: enhanced funding for combat operations and greater targeting of R&D work.

In May, a US Senate committee approved another $33.5bn of funds for military operations in Afghanistan and Iraq, adding to the $130bn that has already been approved for combat operations in the year to September 2010.

According to the American Association for the Advancement of Science, overall defence R&D will be reduced by 4.8% in 2011, equivalent to $71bn, although that figure conceals the fact that spending has been shifted to cutting-edge research. For example, the Defence Advanced Research Projects Agency (DARPA) is expected to get a 3.7% increase in its budget to $3.1bn, while investment in other defence-orientated research will also rise by 6.2% to $2bn. This suggests that there could be some interesting opportunities for defence specialists at a competitive time in the marketplace.

“Federal Agencies with extramural R&D budgets of more than $1bn must allocate 0.3% of that funding to SMEs.”

Pranalytica, a US laser specialist, recently won a contract with the US Army to improve the performance of its quantum cascade laser (QCL) in a programme administered by DARPA. Pranalytica’s products can be customised and used in trace-gas detection equipment in military and security applications.

CEO Dr Kumar Patel believes the company’s success was helped by its track record of commercialising government-sponsored R&D. This can be seen in its most recent generation of lasers used in shoulder-fired missiles for aircraft protection.

Pranalytica will be working with Professor Frederico Compasso at Harvard’s School of Engineering & Applied Sciences, fine tuning its technology.

These developments are helped by US legislation designed to harness the dynamism of SMEs to encourage technological transfer and offer opportunities to bid for government contracts. The Small Business Research & Development Enhancement Act (1992), re-authorised in 1997 and 2001, ensures that Federal Agencies with extramural R&D budgets of more than $1bn must allocate 0.3% of that funding to SMEs. The funding is allocated as a mixture of grant and contract awards.

The US tax system is also orientated to help support R&D work, much of which is carried out by smaller companies. The R&D tax credit allows companies to offset expenditure that they make in improving products and processes. These improvements no longer have to classified as “revolutionary”, as was initially the case.

As western governments grapple with the idea that taxes need to rise, and spending must be cut, perhaps both at the same time, they face a difficult balancing act. The defence industry’s niche producers are an important engine of growth, and recognising and encouraging their contribution will be important in the coming months.