The Rise of AI-Enabled Drones: A $5.3 Billion Boom for the Defense Industry
The U.S. Department of Defense is spending billions on unmanned systems – platforms across air, land, sea, and space that operate remotely or autonomously using AI. This surge in spending is driven by the increasing need for AI-enabled military drones in a world facing heightened global conflicts. With the rise of AI technologies and the ongoing security efforts in the Indo-Pacific region, the DoD is undergoing a "generational transformation" of its unmanned fleets, according to BTIG vice president and analyst Andre Madrid.
Key Takeaways
- The DoD is investing heavily in unmanned systems, with a $5.3 billion request for fiscal year 2025. This funding is expected to grow at a 9.5% compound annual growth rate through fiscal year 2029.
- The Collaborative Combat Aircraft (CCA) program, designed to create AI-enabled, low-cost unmanned combat aerial vehicles (UCAVs), is the biggest driver of this growth.
- The U.S. Navy is the largest beneficiary of the DoD’s funding requests, while the Air Force will see the biggest growth in funding over the next five years.
- Several companies are poised to benefit from this spending boom, including AeroVironment, General Dynamics, Kratos Defense & Security Solutions, Northrop Grumman, and Lockheed Martin.**
A Shift in Defense Strategy
The DoD’s increased spending on unmanned systems reflects a significant shift in defense strategy. Modern conflicts increasingly rely on advanced technologies, like AI, to gain an advantage. This has led to a greater reliance on autonomous systems, which can operate in dangerous environments and perform complex tasks without human intervention.
"The DoD is really thinking about how they can leverage unmanned technology and autonomy to accomplish a lot more missions in the near future," Madrid said. "A lot of people look at unmanned technology as just the hardware and they neglect to consider the brains of it that might be going into it, which is also a huge focus item of the DoD… Traditionally, the DoD has never really procured software at this scale before."
This emphasis on AI-enabled drones is part of a broader trend in the defense industry.
The Rise of AI-Enabled Drones
The Collaborative Combat Aircraft (CCA) program embodies this shift. The CCA is aimed at developing a new generation of AI-powered UCAVs, designed to enhance the capabilities of manned fighter jets. These drones will be able to perform complex tasks, like aerial reconnaissance, target identification, and even offensive strikes, all while working autonomously alongside their human counterparts.
The CCA program, while still in its early stages, has already attracted significant interest from several companies, including Northrop Grumman, Boeing, and Lockheed Martin. The Air Force has chosen Anduril and General Atomics to lead initial phases of development.
Riding the Wave: Stocks to Watch
The growing demand for unmanned systems is driving investment in several defense companies. Here are some key players to watch:
Northrop Grumman: A Legacy of Unmanned Expertise
Northrop Grumman is a major beneficiary of the DoD’s focus on unmanned systems. The company has a strong track record in developing and building unmanned aerial vehicles, having produced demonstration UCAVs like the X-47B and X-47 in the early 2000s.
Northrop is well-positioned to capitalize on the CCA program, potentially creating a system that can work alongside its B-21 Raider stealth bomber. The company is also a contender for upcoming CCA production contracts.
Beyond the CCA, Northrop Grumman has a strong presence in the unmanned market with its MQ-4C Triton high-altitude long-endurance UAV for the U.S. Navy and its RQ-4 Global Hawk unmanned aircraft system for the U.S. Air Force.
Madrid has a buy rating and a $565 price target on Northrop Grumman stock. Analysts polled by FactSet have an average price target of $520.35. Northrop shares have advanced roughly 8% this year and are up over 17% in the past month.
AeroVironment: The “Unmanned Pure Play”
AeroVironment is a smaller company with a dedicated focus on unmanned systems. It is the largest competitor in the drone market for military applications, particularly among publicly traded companies.
AeroVironment’s Switchblade drone, a loitering munition, has gained significant attention for its use in the Ukraine conflict. This international demand, alongside sales to U.S. allies, has made AeroVironment a key player in the unmanned domain.
Madrid has a buy rating and a $245 price target on AeroVironment, which implies a potential upside of more than 28%. The average analyst price target is $204, suggesting an 8% potential upside. AeroVironment shares have roughly doubled in price this year.
Kratos Defense & Security Solutions: Expanding its Unmanned Footprint
Kratos currently has a smaller portion of its business dedicated to unmanned systems, primarily focusing on target drones. The company is expanding this focus, with its Apollo drone already under contract and its Athena drone expected to be contracted this quarter.
Kratos has also been operating a combat drone, the Valkyrie XQ-58A, since 2019. It has expressed interest in competing for upcoming CCA contracts, and its increasing involvement in the unmanned domain could make it a more attractive investment in the future. Madrid currently rates the stock neutral.
General Dynamics: Diversifying in the Unmanned Arena
General Dynamics is another player with a diversified portfolio, including small and medium unmanned undersea vehicles, unmanned S-MET ground vehicles, and littoral combat ships.
The company is well-positioned to benefit from the DoD’s increased spending on unmanned systems, and its strong financial position makes it an attractive investment. Morgan Stanley’s Liwag has upgraded General Dynamics to overweight and lifted her price target to $345.
A New Era of Defense
The rise of AI-enabled drones is transforming the defense landscape. The DoD’s substantial investment in unmanned systems reflects the growing importance of these technologies in modern warfare. Companies with a strong focus on unmanned systems, like AeroVironment and Northrop Grumman, are likely to see significant growth in the years to come. The overall trend points towards a future where AI-powered drones play a central role in defense operations, shaping the world of warfare as we know it.
