Why diligencing compliance processes is critical in defense and dual-use investments

The defense sector is an inherently higher-risk environment for corruption, bribery, and financial crime. Governments are the ultimate buyers of defense equipment and therefore the degree of interaction with state actors (including politically exposed persons or PEPs) is high.  

Taking Europe as an example, the market has 27 end customers (the EU member state governments), with funds flowing either through contracts directly with governments or via subcontracting arrangements with prime defense manufacturers. These dynamics present a heightened risk of corruption and fraud, with the UK government’s anti-corruption strategy specifically identifying the global defense sector as a focus for enforcement. 

Good ABAC compliance requires board-level governance 

For private capital firms, whether investing through equity or lending, robust due diligence of a target’s anti-bribery and anti-corruption compliance is essential. Good ABAC compliance requires an up-to-date and comprehensive policy framework; strong controls around third parties such as agents and intermediaries who deal with governments on the company's behalf; evidence of proper due diligence and robust approval processes before engaging with third parties; a well-functioning internal reporting and whistleblowing system; and board-level governance showing that the framework is operating effectively.  

These governance checks should examine what data is being reported at board level, for example around the number of third parties being onboarded, any internal reporting on identified issues, and what measures have been implemented to mitigate risks. Both the UK SFO and the U.S. DOJ demand data-led evidence that compliance processes are working, not just that businesses have a framework in place. 

Where risks are identified, early remediation is essential 

A key consideration for investors is the maturity of a target given that early-stage businesses may lack robust compliance infrastructure. Where a target is found to have immature ABAC processes, investors should implement robust compliance and mitigation measures as early as possible post-acquisition.  

In the U.S., an M&A safe harbor exists such that if a buyer discovers post-completion bribery issues that did not surface during due diligence, prompt self-reporting to the authorities provides significant mitigation with regard to enforcement.  

Compliance risks may be exacerbated by the practical limits of due diligence in the sector; defense contracts and company information may be classified and therefore cannot be disclosed to prospective buyers ahead of closing, meaning that potential issues could remain invisible at the point of commitment (an issue we explore in more detail here).  

As far as legal developments are concerned, the EU anti-corruption directive, approved by the European Parliament in March 2026, will require some member states to tighten their bribery laws, meaning defense companies operating across Europe will need to keep their ABAC policies aligned with evolving local requirements.  

While the current U.S. federal administration announced a retreat from FCPA enforcement after the 2024 presidential election, no notable decline in activity has materialized, and the limitation period for anti-bribery offenses outlasts any single government’s term. 

Sanctions and export control regimes present added complexities 

Beyond bribery and corruption, the defense sector raises heightened compliance risks around sanctions and export controls (an issue we explore in more detail here), anti-money laundering, and counterterrorism and proliferation financing. Private capital investors must conduct due diligence on the ultimate beneficial ownership of targets and subcontractors to confirm they are not sanctioned or linked to prohibited parties. The prevalence of cross-border transactions can complicate efforts to trace where funds are flowing to, with the use of complex ownership structures and shell companies important red flags.  

The Financial Action Task Force has published specific guidance on proliferation financing, warning that support networks use the international financial system through indirectly connected intermediaries and front companies; involvement in proliferation financing, even unknowingly, can result in severe regulatory penalties and inclusion on sanctions lists. Ongoing portfolio screening for emerging legal and regulatory risks is critical. 

Finally, investors must be mindful of the reputational consequences of exposure to the defense sector. Association with controversial weapons or unethical arms sales can lead to divestment by limited partners and public backlash, and multinational banks have historically been reluctant to lend to defense companies for fear of these risks. Proactive compliance, rigorous due diligence, and ongoing monitoring remain the most effective safeguards.