WASHINGTON — The National Defense Industrial Association gave the defense industrial base an overall failing grade for the first time ever, as the ongoing COVID pandemic continues to upend the sector.

In its third annual Vital Signs report released Feb. 2, NDIA gave the industrial base a health and readiness score of 69 out of 100, which it deems an unsatisfactory and failing grade and “cause for real concern.”

NDIA, which worked on the report with decision science company Govini, scores categories on a 100-point scale, and scores below 70 are considered failing. The association based most of its study on data sources from 2020, the first year of the pandemic and before vaccinations began, so some of these results are lagging indicators.

NDIA said the two of the eight key categories it uses to measure the health of the defense industry — the supply chain and companies’ production capacity and ability to surge if necessary — have deteriorated significantly, “almost certainly” due to the pandemic’s effects. Three other categories — industrial security, innovation and production inputs — also received failing scores in 2021, though production inputs and industrial security saw slight improvements over the previous two years.

And with the pandemic continuing, the association added, it is crucial for the nation to figure out how to sort out these problems. However, NDIA said it opted not to offer policy recommendations, support specific legislative or regulatory changes, or call for investments in the report.

“This score serves as a wake-up call to all who care about the state of our national security,” retired Gen. Herbert “Hawk” Carlisle, NDIA’s president and CEO, wrote in the report’s introduction. “The pandemic reinforces the fact that our defense industrial base is not isolated from the American economy or the global business environment. Now, more than ever, we must pay heed to the health of our base as it serves our warfighters.”

Govini CEO Tara Murphy Dougherty said in a Wednesday morning press conference that problems with the defense sector could become a national security concern if the defense sector can’t attract the most innovative companies — particularly because China’s government is investing heavily in emerging technologies.

“DoD has to attract the companies that are working on bleeding-edge technology in the commercial sector of the United States economy,” Dougherty said. “If we cannot accomplish that, the techno-military challenge and competition that we’re facing with China will continue to undoubtedly get more difficult.”

The defense industrial base includes manufacturers, systems integrators, service providers, technology firms, labs and research organizations, and other suppliers across the entire United States that in one way or another help supply the military. NDIA said its findings were not to judge the companies themselves, but the environment in which they operate.

Nearly 400 businesses also responded to a survey NDIA conducted last August. Of those, 71% said their business had been moderately or greatly hurt by the pandemic, and 14% don’t believe their business will ever get back to what they once were.

Pandemic-related assistance also appears to have largely dried up, with 63 percent of respondents reporting they had not received financial help from any source since the end of December 2020.

Ailing supply chains

Supply chain problems — which have been repeatedly highlighted by top industry leaders in recent months — largely erased the considerable progress the industry had made the prior year. Between 2019 and 2020, the supply chain score in NDIA’s reports increased from 60 to 71 — a barely passing grade. But the 2021 score plunged 8 points to 63.

With the pandemic snarling all parts of the supply chain, it took companies considerably longer on average to recoup a dollar invested in a product as a cash receipt, NDIA said. This had ripple effects, as companies that had to wait longer for their sales also had to wait longer to re-invest those revenues into producing new goods for sale, stretching bottom lines.

And NDIA predicted that the next Vital Signs report will show even more pandemic-caused supply chain turmoil.

Carlisle said in the press conference the budget uncertainty caused by the lengthy and frequent use of continuing resolutions worsens the sector’s supply chain problems. If companies can’t be sure when the Defense Department will have the money to pay them, they can’t place the pre-orders or advance purchases they need to operate most efficiently, Carlisle said.

And that’s an entirely self-inflicted wound, said Wes Hallman, NDIA’s senior vice president for strategy and policy, adding that it’s one the nation’s adversaries do not have to work around. Hallman also highlighted the problems caused by a sluggish nomination and confirmation process, which has left multiple key DoD positions unfilled.

“Without having those folks there, we are losing something that we can never get back, and that is time,” Hallman told reporters. “Time wasted is time that we cede to our competitors. Our competitors do not have to operate under a CR.”

Hallman said other nations have the ability to force their industrial base to support military goals. The United States doesn’t want to do that, he said, but it needs to be able to leverage the creativity of its own economy.

“The harder you make that and the less that you have direction, and the less you have certainty, then those folks are unwilling to make those investments or to jump into this sector,” Hallman said. “That’s something that Congress can focus on as well.”

Productive capacity and surge readiness — which NDIA said is “a key test” of the defense industrial base’s health and measures industry’s ability to expand its output and meet increased military demand — are also victims of supply chain woes, seeing the most significant slide since before the pandemic. In 2019, NDIA gave that category a healthy score of 80. In the following year, it slid 13 points down into an “unsatisfactory, failing” score of 67.

Amid the pandemic, this productive capacity and surge readiness category plunged another 15 points down to a score of 52, in the “critical, failing” range. NDIA said this was largely due to declines in industry’s output efficiency. That score was an already-critical 48 in the 2020 report, but this year’s report saw it plunge even further, down to 20.

The production input score, which ticked up one point to a still-unsatisfactory 67, measures factors such as the costs of goods and services, access to vital materials, the diversity, productivity and compensation of the industry’s workforce, the talent pool for science, technology, engineering and mathematics workers, and the security clearance process. The sluggish security clearance process and access to strategic materials such as rare earth metals needed for microelectronics, batteries, magnets, and other electronic components, continued to be a major — although improving — drag on this sector.

But two-thirds of respondents said it remained somewhat or extremely difficult to find workers with the security clearances they needed.

The healthiest sector in the report was in the “demand” category, which improved significantly along with the growth in the military’s budget and increased contracts. Demand was spurred in part by a notable increase in foreign military sales in recent years, which grew from almost $32 billion in 2017 to more than $50 billion in 2020 and represented “a bright spot for the defense industry.” But, NDIA noted, growing inflation and the potential for flat budgets could deal a blow to demand.

And while competition overall remains strong, NDIA highlighted a “worrying” drop in the number of new vendors entering the defense industrial base, from 6,500 entering in 2019 to 6,300 in 2020. If the defense industry has to rely on a smaller pool of vendors, that could lead to production or innovation shortages, the report said, or discourage other potential new vendors from competing.

As in past years, industry leaders told NDIA that the two main things the government can do to help the defense industrial base would be to streamline the acquisition process and — after years of continuing resolutions and other uncertainties — to provide budget stability. Most industry leaders also said uncertain business conditions would cause them to hold back from expanding their military production capacity, and that excessive paperwork is discouraging them.

Stephen Losey is the air warfare reporter for Defense News. He previously covered leadership and personnel issues at Air Force Times, and the Pentagon, special operations and air warfare at Military.com. He has traveled to the Middle East to cover U.S. Air Force operations.

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