"Drones for sale! No reasonable offer refused! And if you order the Hellfire missile package, we'll throw in a satellite radio subscription for free!"
OK, that last bit may not be technically accurate. But all of a sudden, the U.S. government does seem to be very interested in expanding its share of the global market for drones.
According to a recent report out of IHS Jane's, the global market for military drones was worth about $6.4 billion in 2014 -- and growing. In less than 10 years, Jane's estimates, military drone sales worldwide could exceed $10 billion.
Unfortunately (for defense contractors, and the investors who own them), the U.S. has largely shunned this market in recent years, strictly limiting the situations in which international sales of unmanned aerial vehicles can be approved. Data from the U.S. Defense Security Cooperation Agency -- DSCA, the arm of the Pentagon responsible for coordinating foreign arms sales -- indicate that only a handful of such sales have taken place over the past decade.
For example, from 2008 through 2015, Congress authorized the sale of General Atomics MQ-9 Reaper drones to just five foreign countries -- France, Germany, Spain, the Netherlands, and Italy. In 2014, Congress also approved the sale of four Northrop Grumman (NYSE:NOC) Global Hawk spy drones to South Korea. (Japan is in negotiations to buy three more Global Hawks from Northrop Grumman.) This past summer, the U.S. sold an unspecified number of AeroVironment (NASDAQ:AVAV) RQ-11B Raven drones to Ukraine as well.
Now, AeroVironment sells a lot of drones -- $221 million worth last year, according to data from S&P Capital IQ. But most of AeroVironment's drones, including those heading for Ukraine, are unarmed. In fact, the common element to all of these sales is that the drones involved are unarmed. Contrariwise, Congress almost never authorizes the sale of armed -- or "weaponized" -- drones abroad. (Indeed, up until last week, the only other country known to have acquired armed drones from the U.S. was the U.K. -- with whom we've always had a "special relationship.")
Last week, that changed.
On Tuesday, Nov. 3, DSCA notified Congress of plans to sell to Italy a weapons package of:
- 156 AGM-114R2 Hellfire II missiles
- 30 GBU-12 laser guided bombs
- 30 GBU-38 Joint Direct Attack Munitions (JDAMs)
- 30 GBU-49 Enhanced Laser Guided Bombs
- 30 GBU-54 Laser JDAMs
All of this ordnance, plus 26 bomb racks, 13 M-299 missile launchers, and six MQ-9 weaponization kits, are intended to "weaponize" the Italian Air Force's six MQ-9 Reapers.
Presumably, the plan is to arm these six Reapers with two Hell-firing missile launchers apiece, as well as four bombs. It is also possible, though, that Italy plans to use some of the armament to weaponize its six General Atomics MQ-1 Predator drones.
What it means to you
Exactly why Italy wants armed drones in its air force isn't clear. DSCA says only that "it is in the U.S. strategic interest to support Italy's security contributions as a capable and interoperable ally," and that the drones will "support and enhance burden sharing in NATO and coalition operations" in which Italy participates. Italy's proximity to such hotspots as Syria, Libya, and a southwestward-expanding Russia, however, suggests a few reasons Congress might be inclined to approve the sale.
More important to us as investors is what this weaponization of exported drones means for the American defense contractors that sell these weapons. Historically, Israel has played an outsize role in international drone sales, with the U.S. a close second, and Europe lagging far behind. But Reuters reports that U.S. companies, including General Atomics in particular but also Northrop Grumman and Textron (NYSE:TXT) (Textron makes the Shadow armed drone), have been lobbying Congress for months to unshackle their sales forces and authorize more international sales of armed drones.
Those shackles started to loosen earlier this year when the U.S. State Department laid out a new policy allowing sales (under strict conditions) in February. This month's Italian arms deal suggests it may soon become open season on armed drone sales in the very near future.
Good news? Bad news? Critics will certainly argue the latter. But the plain fact of the matter is that a "$10 billion market" for drones is clear proof that there's demand for these products. Northrop, Textron, and AeroVironment shareholders can be forgiven for arguing: Someone is going to meet this demand, and it might as well be us.