Despite no factory expansions or major arms export contracts yet, the market is reacting. Mitsubishi Electric has emerged as one of the standout stocks in Japan's spring market, with its share price climbing to record highs since late March. Investors are drawn to the company due to its air defense and space technologies, particularly in light of U.S. President Donald Trump's plans for a next-generation air defense system, the "Iron Dome," and Japan's efforts to enhance its air defense capabilities.
Investors are betting not on the current state of Japan's defense industry, but on future prospects fueled by increased defense spending, the lifting of export restrictions, and rising global military expenditures. According to the Stockholm International Peace Research Institute (SIPRI), global military spending is projected to reach a record $2.887 trillion in 2025, a 2.9% increase from the previous year. As geopolitical risks grow, demand for defense equipment is expected to rise. The Nikkei reported that the combined market capitalization of Japan's three major heavy industries has increased more than 14 times over the past six years, significantly outpacing the growth in net profits during the same period.
A shift in profitability structures is also contributing to this trend. Historically, Japan's defense sector has been viewed as a "money-losing business." However, starting in 2023, the Ministry of Defense has raised the expected operating profit margin for defense equipment suppliers from about 8% to as high as 15%. This change makes it easier to reflect costs related to inflation and quality improvements in pricing. Kawasaki Heavy Industries has reported that contracts awarded under these new conditions are expected to increase to about 90% by the 2026 fiscal year, indicating a significant improvement in profitability.
Market expectations for industry restructuring are also growing. Unlike the U.S. defense giant Lockheed Martin, which derives nearly 90% of its revenue from defense, Mitsubishi Heavy Industries generates less than 20% from this sector. The defense segment is dispersed among large corporations, making it vulnerable to underinvestment and inadequate resource allocation. Calls for reform are emerging from within the government as well. A research group led by former Defense Minister Yasukazu Hamada has proposed separating and consolidating the aircraft, drone, and missile sectors from private companies by the end of 2025. The market hopes for the emergence of a leading company akin to "the Toyota of the defense industry" that can unify fragmented defense capabilities to enhance quality, profitability, and scale.
Changes are also occurring outside the traditional defense sector. According to the Nikkei, Japanese drone startup Terra Drone released a video in April showing its technology intercepting and targeting Russia's Shahed suicide drones. The company’s "Terra A1" drones cost less than 500,000 yen (approximately $3,700) each, significantly reducing the financial burden compared to existing intercept missiles, which can cost tens of millions to billions of yen. Last month, the Defense Equipment Agency gathered around 100 startups and venture capital firms, previously distant from the defense sector, to announce a "fast-track procurement" system aimed at shortening procurement processes that typically take over a year. The focus of defense manufacturing is beginning to expand beyond traditional heavy industries to include drones, AI, and robotics companies.
However, rising stock prices and regulatory changes do not immediately translate into industrial competitiveness. Japan's defense sector will find it challenging to quickly match South Korea in terms of pricing, delivery, and mass production capabilities. Without increased overseas demand, economies of scale will not materialize, and it will take time to reestablish factories, partnerships, and skilled labor. The entry of drone and AI companies cannot replace the foundational heavy industries that produce destroyers, fighter jets, and missiles. Nonetheless, regulations have been relaxed, the government is restructuring profitability, and investment capital is beginning to flow. The focus should not be solely on today's Japanese defense industry but on how these changes will accumulate over the next decade.
* This article has been translated by AI.
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