Investors pay close attention to unique treatment of IP in defense contracts

For investors and acquirers pursuing targets specializing in the development and supply of defense and dual use technologies, understanding the dynamics that surround ownership and control of IP (including rights in technical data and knowhow) within the defense sector is vital. Defense procurement frameworks often allocate IP ownership and usage rights in ways that can materially impact long term commercial upside if not managed carefully.

As the nature of battlefield technology evolves from heavy engineering to weapons systems whose efficacy is defined by software, AI and robotics, how the interests of governments to protect national security are balanced against innovators’ need to benefit from their investment in R&D has emerged as an important challenge.

IP arrangements are legacy of hardware-driven defense era

Defense contracts typically give governments broad rights over IP created by contractors (including both background and foreground IP); a legacy of the hardware-dominated era where R&D was largely the preserve of prime manufacturers developing equipment that was funded entirely by its government customer.

As well as funding, traditional approaches have also been informed by security concerns, a desire to protect any background IP contributed by the government customer, the need to retain control and flexibility within complex supply chains, and to ensure access to technical developments in the national interest. 

In the U.S. for example, the Defense Federal Acquisition Regulation Supplement (DFARS, which we explore in more detail here), gives the U.S. government “Unlimited Rights” (affording rights to use developments for any purposes in programs fully funded by the Department of War) and “Government Purpose Right”, affording broad rights to use, modify, reproduce and disclose developments “government purposes” (including purposes of the U.S. government, foreign states and international defense organizations).

After five years the government purposes limitation falls away and unlimited rights kick in. Once these rights vest, inventions can be shared with anyone for any reason, including the creator’s competitors. Similar government purposes rights are a feature of UK defense agreements.

Governments traditionally sought broad IP rights to preserve optionality

Defense contracts and policies also generally give states broad rights over background IP that forms part of a contract deliverable. From a government’s perspective, these provisions are necessary to preserve optionality for future defense programs, but in practice they can dilute the economic incentives that underpin private investment in innovation led defense technologies.

Where a contractor risks losing control of valuable background IP, it needs to be careful what pre-existing technology is utilized in delivering under the contract. To the extent a government acquires different usage rights as between background and foreground IP, the contractor must clearly distinguish between background and foreground technology to avoid background IP being swept up in broader usage rights granted in relation to foreground IP.

Where sensitive technologies or inventions that have been specifically commissioned by a government are concerned, either IP ownership will vest in the government customer, or a broad, perpetual, freely-transferable and royalty-free license will be granted to the government customer.

Contractors will typically bear the contractual burden of securing the same expansive IP rights from their subcontractors and supply chain as they commit to provide to the government customer. Failure to effectively “flow down” these rights can lead to breach of contract. The contractor may be required to identify any restrictions on the government customer’s ability to use or disclose background IP.

In scenarios where defense products are developed through cross-border collaborations and joint ventures (an issue we explore in more detail here), these dynamics can create commercial challenges in relation to foreground IP created from innovations contributed to the alliance that are either controlled or owned by a JV party’s home state.

In addition, governments will often have statutory rights to exercise compulsory licenses over IP deemed critical to national security under mechanisms such as “Crown Use” powers in the UK and Australia. These rights allow governments (or their contractors) to use IP without the IP owner’s permission, usually limited to purposes vital to the national interest (including defense).

New approaches emerge in line with evolution of the sector

As the universe of businesses that comprise the modern defense supply chain has broadened, some states have re-evaluated their IP practices to incentivize greater participation and innovation, and to acknowledge that the R&D programs of this new generation of suppliers may have been entirely funded by the business or its investors.

It is increasingly acknowledged that by allowing contractors greater scope to own foreground IP, this may result in more competitive pricing, encourage delivery of better solutions and potentially provide the possibility for royalty-sharing opportunities foe government contractors (whereby a levy is imposed on further commercial exploitation by the contractor).

The U.S. government’s approach to defense IP has been revised several times in recent years. The DFARS framework has been amended to give contractors more IP rights in certain technology areas, while the DOW can also now use structures such as Cooperative Research and Development Agreements (CRADAs) to create bespoke IP agreements outside of DFARS. This more flexible approach was further reinforced in the 2025 Intellectual Property Guidebook, giving defense suppliers greater leverage in contract negotiations.

In the UK, recent institutional reforms such as the launch of UK Defence Innovation (UKDI), signal a growing recognition that traditional IP models may need to adapt, although how this translates into commercial outcomes remains highly deal specific.