Hello, and welcome back to Inc.'s 1 Smart Business Story. It’s an interesting time to be a government contractor, especially for small and mid-size businesses who develop defense technology. The defense industry appears to be booming: The U.S. has already spent $25 billion on the war with Iran this year, and VC investment in defense tech soared to a record $49 billion last year. But as Issie Lapowsky writes for Inc., the smaller contractors developing cutting edge defense technologies are running into bottlenecks that threaten their businesses.
In this article, you’ll learn:
What recent changes at the Pentagon mean for small and mid-sized businesses
How the ‘valley of death’ is a risk for small and mid-sized contractors
What small and mid-sized contractors can do to navigate the current system
The Pentagon Wants Innovation. Small, Nimble Businesses Want to Deliver. So What’s the Problem?
Defense tech’s hot and the Pentagon’s changed how it buys weapons. And yet, ‘There’s a huge strain’ on the defense supply chain, as one CEO says. How smaller contractors are fighting to avoid the valley of death.
Earlier this year, Michael Buscher traveled to Killeen, Texas, to meet with Army unit commanders at Fort Hood. As president of U.S. operations for the Virginia-based dronemaker, Heven AeroTech, he was excited to speak with them about how Heven’s hydrogen-powered drones could be deployed on the battlefield.
Like a lot of defense contractors, Buscher was enthusiastic about the changes underway at the Pentagon, where leaders from the president on down have made modernizing the military and its arcane acquisition process a top priority. This year, Heven, which was founded in Israel in 2019, secured a basic ordering agreement with the Army, which allows Army units to more easily access its drones.
At least, that’s how it was supposed to work.
Instead, at Fort Hood, Buscher says he met a number of unit commanders who—while eager to get their hands on Heven’s technology—told him they lacked the funding to do so.
For Buscher, the visit illustrated just how much work remains to be done to make the administration’s plans for a faster, more flexible defense contracting ecosystem a reality. “The changes are being made,” Buscher, who is also a retired Army Reserve Lieutenant Colonel, says. “We have yet to see that trickle down to us.”
At a distance, the defense tech business would appear to be booming. The U.S. has spent $25 billion fighting the war in Iran, and the Trump administration is seeking the largest defense budget in history—$1.5 trillion—to aid in future fights.
The administration’s dramatic overhaul of federal acquisitions, designed to break down the bureaucracy of the centralized procurement process and open up opportunities for emerging technologies, is ongoing. Not coincidentally, venture investment in defense tech is soaring, with a record $49 billion pouring into that sector last year, as startups and investors try to capitalize on growing demand. (Inc. contributor Nancy Scola covered this recently in "Inside Silicon Valley's Quest to Power the Trillion-Dollar War Machine.")
Yet despite the glut of capital and apparent desire from the top, the outlook for small and mid-sized defense contractors remains murky, marked by stalled funding, a strained global supply chain, and what business owners say is hesitancy among many military decision makers to experiment with more modernized defense systems. One recent analysis found that, for all the hype, defense tech accounted for just one percent of all Pentagon contract dollars in 2025, and 88 percent of that money went to just three companies: SpaceX, Palantir, and Anduril.
At the same time, government contractors face wider uncertainty, following DOGE’s slash-and-burn campaign of 2025. The Small Business Administration recently kicked more than 600 contractors out of the federal 8(a) program for “socially and economically disadvantaged” businesses, a program that the administration said was rife with “abuse and DEI discrimination.”
Then there is the Pentagon’s ongoing battle with Anthropic over its opposition to allowing its AI to be used for domestic surveillance and automated weapons. The Pentagon retaliated by labeling Anthropic a “supply chain risk”—a designation typically reserved for foreign adversaries—sparking a legal showdown that is still winding its way through the courts.
While many contractors understand the Pentagon’s argument, its actions left others spooked. “We're walking a political tightrope right now,” says L., the CEO of one national security contractor who asked to speak anonymously for fear of retaliation. (The Department of War didn’t respond to Inc.’s requests for comment.)
Government contractors are now left with a sense of whiplash—hearing the government’s urgent calls for speed and innovation, but finding few clear or reliable pathways to actually deliver. To meet the moment, they’re shifting strategy and offering lessons for other business owners along the way.
Read the full article here.
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