The continued decline of defense spending this year will likely force new revenue streams for the aerospace and defense industry, a recent analysis suggests.

And according to Deloitte Touche Tohmatsu Limited’s annual Global Aerospace and Defense Outlook report, these new streams may include innovations in intelligence, precision strike technologies, and cyber security, a recent analysis suggests.

The forecast also predicts that strong commercial aerospace growth will again more than make up for continued falloff in defense spending, Tom Captain, DTTL Global Aerospace and Defense Sector Leader, tells Leo Rommel of Industry Today.

The end result, the report says, is that the industry will repeat a modest growth of 5 percent – the same rate of growth experienced in the last two calendar years.

That might be a good thing, this newfound and continuing stabilization, Captain says.

“You’ve got to remember that we’ve had flat growth for so long until the resurgence of commercial coming out of the Great Recession,” he says. “Five percent is still $30 billion of growth, and $30 billion of growth would, if it were a company, represent something like the seventh-largest aerospace company in the world.”

Still, the 2014 forecast is the continuation of a tale of two contrasting industries, Captain says.

“Commercial aerospace is going to be responsible for all of the growth this next year and more with a total of 5 percent improvement in its total revenues on a base of almost $700 billion across the world,” he explains. “All of that growth, of course, is going to be, and more, from commercial which is really taking off, not to overuse that pun.”

The commercial aerospace sector is expected to again set records for production of aircraft, due to the accelerated replacement cycle of obsolete aircraft with next generation fuel-efficient aircraft, and growing passenger travel demand, especially in the Middle East and the Asia Pacific regions.

In fact, 2014 will likely bring high single to double-digit levels of growth in the commercial aerospace sub-sector, Deloitte finds.

But on the other side, Captain says, is what’s happening with defense.

Well, defense is shrinking, has been shrinking for the last three years, and is expected to continue to shrink because of the drawdown of the active armed conflicts in Afghanistan and Iraq as well as the affordability problems being seen in North America as well as in Europe for defense.

It is anticipated for 2013, global revenues for defense companies will track to similar levels in the past two years, around an estimated minus 2.5 percent, the report says.

“The United States represents about 40 percent of the total spending in defense,” Captain says. “When the United States defense coughs, the rest of the world catches a cold, right?”

This triggers a disproportionate effect, he says.

“We’re seeing another huge reduction in defense spending for the two reasons I mentioned. One is the drawdown of forces. When you’re not fighting wars, you’re not spending as much money,” he says. “Second, we have other domestic priorities in the United States for our funding and our tax revenues. A lot of that’s going towards other domestic priorities and not defense.”

According to the report, global revenues for defense companies have been on a downward trend for quite some time, declining 1.3 percent in 2012 and 1.9 percent in 2011.

Still, the report findings shows that defense spending is increasing in others areas of the world, especially in the Middle East, India, China, Russia, South Korea, Brazil, and Japan.

The decline in defense spending will challenge the industry to find new sources of revenue.

“The imperative for defense is to grow,” Captain says. “One way will be through foreign military sales.”

But other avenues, according to the analysis, may include innovations in next generation intelligence surveillance, reconnaissance and precision strike technologies, cyber-security, opportunities in adjacent markets, potential new commercial ventures, and also acquisitions of synergistic businesses.

Diversification, Captain says, will be key.

“Some examples would be companies that make bullets for armies and ground forces also making bullets for the sports-ammunition market, for hunters,” Captain says. “Another one would be a use of UAV’s to catch bad guys in Afghanistan. Well, we can use those for border security or police and traffic control.”

Nevertheless, the significant demand for new commercial aircraft will pressure supplier networks to continuously improve its engineering design, manufacturing, and supply chain management capabilities, all the while being able to cost effectively meet tougher price concession requirements from customers, the report says.

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