European and UK banks are discriminating against defence companies by curbing lending to the sector and “debanking” customers, defence industry leaders claim.
They accuse banks of taking an “activist” stance against defence companies preventing them from opening bank accounts and excluding them from loans, investments and other financial services due to an increased focus on environmental, social and governance criteria, a situation they say is “unacceptable” given a resurgent Russia and increased geopolitical tensions.
“There is a misperception that it is the EU imposing regulation in terms of defence companies access to finance, but this is not the case, it is financial institutions taking an activist position,” said Jiří Šedivý, chief executive of the European Defence Agency, which has been tasked by EU defence ministers with “actively monitoring” the impact of ESG factors on Europe’s defence and technological industrial base.
Šedivý said the defence industry is still perceived by the shareholders of financial institutions as something that is stigmatised. “We cannot accept [this]. Strong defence is a pre-requisite for the sustainability of our democracies. It is a very dangerous world we are living in.”
UK defence trade association Make UK Defence, which focuses on small to mid-sized companies, said 5 per cent of 137 member firms that responded to a survey it conducted earlier this year reported issues with opening a bank account, 4 per cent had banking services withdrawn, and another 4 per cent experienced problems securing investment, all due to “ESG issues”.
[These banks] enjoy the security of living in an advanced economy with a very capable defence force, but they are not willing to fund the industry that makes the equipment
Andrew Kinniburgh, director-general of Make UK Defence, said companies were told banking services were withdrawn because they derived 10 per cent or more of their turnover from defence activities. “The big banks, and some of the challenger banks, are debanking customers because they are in defence,” he said. “[These banks] enjoy the security of living in an advanced economy with a very capable defence force, but they are not willing to fund the industry that makes the equipment [that keeps them safe].”
Kinniburgh said he thought it wasn’t just a UK problem, but that colleagues in France had reported similar issues in accessing finance.
A UK Finance spokesperson said each bank has its own approach to the defence sector and all firms have to ensure they adhere with all applicable laws and regulations. “We recognise some defence companies have experienced challenges accessing financial services. To address this we have worked with representatives of the defence sector and government,” the spokesperson said, adding that it had issued joint guidance setting out how companies operating in defence can get the best out of financial services.
The French Banking Federation said major French banks conduct a large part of international military equipment financing operations, and no major French export project had been financed without a French bank. It said French banks have an “ongoing dialogue” with the defence sector’s professional associations which shows that difficulties can arise “occasionally”, but are more related to the financial situation of companies. For example, SMEs do not always have internal technical and legal expertise to assist them in preparing their credit applications.
The European Banking Federation has also been contacted for comment.
In May 2023, the Financial Times reported that UK investment funds had cut their holdings in large UK defence companies such as BAE Systems and QinetiQ by an average of 9 per cent since the start of 2022, which some blamed on “overcautious or misapplied ESG considerations”. However, EU investors increased their ownership of British defence groups by 9 per cent while increasing their exposure to European companies by 4 per cent, according to the article.
According to data provider Dealogic, aggregate loans to the EU’s defence industry were €4bn in 2018, compared to just €450mn in 2023. During the same period the value of debt capital market issuances by defence companies increased slightly from €1.5bn to €2.3bn.
Make UK Defence and the EDA’s comments come as European ministers gather in Brussels today for an EU summit to discuss how to finance “the biggest rearmament of Europe” since the end of the cold war. At the summit, French President Emmanuel Macron is expected to propose a “defence bond” as one option for boosting European defence spending.
EU member states are under pressure to scale up investment in defence in response to the war in Ukraine, which has led to defence equipment and ammunition shortfalls across EU countries. There are also concerns that Europe cannot continue to rely on the US for its defence and security needs if Donald Trump returns to the White House following US presidential elections later this year.
Trump has stated that he would not protect countries that fail to meet Nato defence spending targets, which require countries to spend at least 2 per cent of their GDP on defence. Many European countries still fall far short of this target, with the exception of central and eastern Europe and Nordic and Baltic countries that border Russia.
Following “intensive consultations” with its shareholders, financial markets and key stakeholders, the European Investment Bank recently announced that it would “step up” its support for Europe’s security and defence industry by waiving a previous requirement that “dual-use” defence and security projects it finances should derive more than 50 per cent of their expected revenues from civilian use.
The EIB also created a dedicated security and defence office to “speed up” investment and improve access to EIB financing for the European security and defence sector. However, European Bank for Reconstruction and Development president Odile Renaud-Basso has ruled out investing in defence, noting the bank’s shareholders include countries like Armenia and Azerbaijan, which have been at war with each other over the disputed region of Nagorno-Karabakh.
Finance access mainly an issue for small to mid-caps
Although Russia’s war in Ukraine and rising geopolitical tensions have seen the profits of European defence contractors such as BAE Systems and Rheinmetall surge to record highs on the back of new equipment orders, EU defence ministers said access to public and private finance is a “growing concern” for the EU’s defence industry, specifically small and medium-sized enterprises.
In a joint statement they issued in November, ministers attributed the shortage of financing to “the rapid expansion of environmental, social, and governance investing and the increasing significance of ESG reporting within Europe”.
Many ESG indices exclude companies with activities in the defence and armaments industry, which has wide-ranging “negative consequences” for the defence industry, the ministers stated, including limiting the number of potential institutional and private investors, damaging defence’s reputation, and making it harder for the industry to attract talent.
Decreased access to finance severely impacts SMEs’ ability to scale up and finance research and development operations, the ministers argued, thus pushing them away from the defence market, which is reliant on innovation. “If you look at [the war in] Ukraine, the drivers of technology and innovation are SMEs, who are much faster and more agile than larger defence primes,” said Kinniburgh.
EU defence ministers called on public and private finance institutions and other market participants to “avoid discriminating against” investments in the EU’s defence technological and industrial base, which they said plays a key role in ensuring Europe’s security and resilience.
“The unique character of the defence industry needs to be duly taken into account when assessing the [European Defence Technological and Industrial Base’s] ESG performance and pursing efforts aimed at enhancing the sustainability of Europe’s economy and industry,” EU defence ministers stated. “These efforts cannot come at the expense of the operational effectiveness of the member states’ armed forces.”
Defence is not included in the EU taxonomy, which lists environmentally sustainable economic activities. The taxonomy does not limit financing of any specific sector. However, critics claim it has negatively impacted defence which they say is viewed as “dirty” or “unsustainable”, which means the majority of banks do not provide the “necessary investment”.
“If you declare weapons to be sustainable, the whole idea of sustainable investment is perverted,” said Antje Schneeweiß, managing director for the working group of church investors in the German Protestant Church. Schneeweiß worked on the EU’s social taxonomy before it was shelved.
“Some banks exclude armament because they do not consider weapons [to be] sustainable, but most are not,” she said. “As to the EU taxonomy, there are many other sectors not included. I have not heard any of them saying that they face issues with access to finance.”
However, Trevor Taylor, director of the defence, industries and society programme and professorial fellow in defence management at UK think-tank the Royal United Services Institute, said the war in Ukraine has undermined whatever credibility the ESG case had.
“Ukraine has demonstrated what ruthless governments can do to another society unless it can protect itself,” he said. “It is unreasonable to treat defence companies as a pariah. They are the route through which armed forces are protected.”
