In late April, the Stockholm International Peace Research Institute reported that world military expenditure reached $2.887 trillion in 2025, an increase of 2.9 percent in real terms. Europe accounted for $864 billion of that total, a 14 percent annual rise and the sharpest growth in Central and Western Europe since the end of the Cold War. The 29 European members of NATO spent a combined $559 billion, and 22 of them met or exceeded the 2 percent of GDP benchmark.
For anyone allocating capital to the sector, these figures answer a question that has stopped being the binding one. Europe's constraint is no longer budget authority but the industrial capacity to convert it, and the next three years of sector returns will turn on how quickly that capacity arrives.
What the Spending Figures Actually Measure
National defense budgets record appropriation, not output. A government can commit to 3.5 percent of GDP and still receive the same number of artillery shells two years later if the supplier base cannot expand. The ReArm Europe framework, with its headline figure of €800 billion in mobilized defense spending by 2030, is a financing architecture. It does not manufacture anything.
This distinction matters because the equity market has largely priced European defense as though appropriation and production were the same variable. Prime contractor valuations across the continent have re-rated on order intake and backlog growth. Backlog is a claim on future delivery. Whether that claim converts depends on factors that sit two and three tiers below the companies whose shares have moved.
Where the Capacity Is, and Where It Is Not
European industrial capacity is genuinely strong in a handful of segments. Land systems, fourth-generation combat aircraft, and maritime platforms all have established production lines, experienced workforces, and supplier networks that have survived three decades of procurement austerity.
The picture is different in the areas where demand has grown fastest. Ammunition and propellant capacity was sized for a peacetime consumption rate that bore no relation to sustained high-intensity conflict. Energetics production, precision guidance components, and specialized electronics all depend on narrow supplier bases. Many European defense firms are small and produce at limited scale, which was economically rational when annual order volumes were flat and predictable, and is now the central constraint.
The Constraints Money Cannot Clear Quickly
Three bottlenecks recur across the continent, and none of them respond to a budget line within a single fiscal year.
Skilled labor is the first. Welders, machinists, systems integrators, and test engineers are in demand from civil construction, grid buildout, and energy projects at the same time. Defense manufacturers are competing for these workers against sectors that can often pay more and offer less security clearance friction. Training pipelines run two to four years.
Machine tools are the second. Expanding a forging line or adding a five-axis machining center involves lead times measured in quarters or years, and the tooling manufacturers themselves face order books they did not plan for. Capital expenditure approval is the fast part of this process.
Sub-tier suppliers are the third and least visible. Forgings, castings, bearings, connectors, and specialty chemicals frequently come from single-source SMEs, many of them family-owned. These firms have watched procurement cycles collapse before. They will not add a shift, let alone a building, against a framework agreement that carries no firm quantity commitment. Getting them to invest requires multi-year contracts with volume guarantees, and European procurement bureaucracies are still learning to write them.
The Efficiency Question
The Kiel Institute has argued that Europe is now spending more on defense than at any point in its post-war history and should turn its attention to spending better. The IMF's April World Economic Outlook reached a related conclusion from a different direction, finding that the macroeconomic return on defense spending varies substantially with domestic industrial content and R&D intensity. Money that leaves the continent to buy finished platforms abroad supports allied capability but generates little industrial base at home.
Fragmentation compounds the problem. Duplicated national programs producing small volumes of similar equipment raise unit costs and prevent any single supplier from reaching efficient scale. Consolidation would address this, and consolidation is politically difficult in exactly the countries with the largest budget increases.
Strategic Implications
The investable layer sits below the primes. Large European defense contractors have already re-rated and now trade on expectations of flawless execution. The companies that must expand for those expectations to be met are components manufacturers, energetics producers, precision machining shops, and test and qualification service providers. Many are private, family-held, and undercapitalized relative to the demand in front of them. This is a middle-market opportunity set, not a large-cap one.
Firm multi-year orders are the signal worth underwriting. A national budget announcement is not a contract. A framework agreement is not a purchase order. Diligence should focus on the contractual quality of the demand a target company actually holds, including quantity commitments, price escalation terms, and termination provisions.
Labor and tooling belong in the diligence file, not the appendix. For any manufacturing asset in this sector, the questions that determine whether a capacity expansion happens on schedule are workforce availability in the local labor market, the status of tooling orders, and the concentration of the target's own supply base.
Dual-use assets carry the most optionality. Companies serving both defense and civil industrial markets, particularly in sensors, materials, power electronics, and autonomy, have a demand floor if defense budgets moderate later in the decade and a clear path to margin expansion if they do not.
Outlook
The spending trajectory through 2027 is largely locked in by political commitment and treaty obligation. What remains genuinely uncertain is conversion. Over the next 18 months, European defense manufacturers will report either accelerating deliveries against their backlogs or a widening gap between orders booked and revenue recognized. That gap, where it appears, will not be a demand problem. It will be a capacity problem, and it will show up first in the sub-tier suppliers that nobody is currently modeling.
Capital allocated to that layer now, with contractual protection and a realistic view of expansion timelines, is positioned for a repricing that the headline defense indices have not yet reflected.
Abbert Capital provides strategic advisory services across defense and dual-use technology, industrial manufacturing, and cross-border M&A. For further discussion of these developments and their implications, contact us.
The views expressed in this article are for informational purposes only and do not constitute investment advice. This material may contain forward-looking statements based on current expectations that involve risks and uncertainties.