2023-Public-Sector-Perspectives

According to McKinsey, the increase in defense budgets and spending in many countries will most likely focus on equipment, given that many weapons programs have been scaled back in recent years. Governments must decide between short-term spending with current defense suppliers and long-term investments such as R&D projects. Short-term investments could put pressure on supply chains if scale-up is faster than expected; there is limited supply of materials such as platinum group metals and titanium, for example. Longer-term investments, in contrast, have the potential to develop and enhance domestic defense industries. Growing recognition of ESG credentials Until recently, it was common for defense companies to trade at a material discount to fair value, partly because their activities were perceived to be incompatible with environmental, social and governance (ESG) principles, which are increasingly important among investors. While defense companies were not excluded from financial markets, they attracted greater scrutiny from regulators, shareholders, and other stakeholders. In some instances, this limited their ability to attract capital, potentially constraining their production capabilities and ability to invest in R&D to ensure future growth. In response, some defense companies sought to highlight their ESG metrics. Industry players began to emphasize their safety improvement efforts, and their alignment with United Nations Sustainable Development Goal (UN SGD) 8.8, which focuses on a safe and secure working environment. Many of these companies also began to communicate their efforts to investors via ESG- focused Investor Days and adopted ESG goals relating to site/production emissions, customer/ product emissions and gender equality. How Ukraine has shifted the ESG debate Abraham Maslow’s A Theory of Human Motivation , published in 1943, classified safety and security as basic human needs. Conflict between states clearly impacts human security but it also has knock-on consequences for many other key components of human security, such as food, jobs and income and human rights, as detailed in the 1994 UN Human Development Report. Based on these definitions, Russia’s invasion of Ukraine in February 2022 clearly jeopardizes human security. It has impacted Ukraine’s territorial integrity and its political stability and has had direct implications for individual and collective security due to military action. Moreover, the war has put approximately 44 million people at risk of a humanitarian catastrophe. Russia’s actions have damaged Ukraine’s economic and financial system and threatened basic human needs such as food, energy, water and health. Russia’s invasion of Ukraine has therefore accelerated the reassessment of the ESG value of the defense industry. Key reasons for this reassessment include: 1. The increase in risks to democracy and basic freedoms has amplified public demand for well-prepared and technologically-updated armies. 2. The role played by the defense industry in preserving peace by deterring potential aggressors and encouraging diplomatic solutions has come to the fore. 3. Defense companies have been key to supplying national armies with equipment while partnering with democratic countries to preserve peace by deterring potential aggressors, encourage diplomatic solutions, promote justice and strengthen institutions. Citi Perspectives for the Public Sector 35