Military modernization in Poland and the Ukraine to meet NATO standards will benefit international defense firms, a market research report says.

London's Frost and Sullivan said Visegrad countries -- namely the Czech Republic, Hungary, Poland, and Slovakia -- after joining NATO have been focusing on modernization and replacement of Soviet-era weapons and defense equipment to meet NATO interoperability criteria.

The global economic downturn and limited defense expenditure have slowed the process but as a result of Polish procurement programs and Ukraine's ambitious naval plans, the defense industry in the Central and Eastern Europe region should remain secure, with growth in expected expenditure from $17.5 billion in 2011 to $17.9 billion in 2020.

Most defense ministries in Europe are underfinanced, Frost and Sullivan said, and the majority of armed forces in the CEE region suffer from consistent budget shortfalls and lack of foresight in procurement planning. Large proportions of equipment stocks are reaching the end of their operational life spans but defense ministries will be unable to finance all planned modernization programs.

In contrast to the most CEE countries, the situation in Poland looks "rather promising."

"Poland is to continue being the regional leader in terms of defense spending," said Dominik Kimla, Frost and Sullivan's industry analyst for Aerospace, Defense and Security group.

Already the main contributor to the defense expenditure in the CEE region, the country is expected to increase its share from 52.1 percent in 2011 to 55.4 percent in 2020. One of the key market drivers is the Polish government's legal commitment to allocate 1.95 percent of the previous year's gross domestic product to defense spending.

Under 2009 procurement plans, the Polish Ministry of Defense envisages spending of almost $11 billion by 2018 on defense equipment in the form of 14 ongoing programs. Polish utility helicopter and air defense system projects will be the biggest defense tenders in the CEE region.

There is also a great market opportunity in support-in-service outsourcing. Frost and Sullivan estimates that outsourced SIS expenditure in Poland will reach $4.09 billion by 2020.

"Upcoming privatization of the defense industry in Poland will also bolster growth," said Kimla.

The state-owned Bumar Group is undergoing a significant restructuring and consolidation process and the government plans to sell a minority stake of the Poland biggest defense industry player by mid-2013.

Moreover, the aviation industry attracts many foreign investors; the upcoming utility helicopter tender is estimated to amount at least $2 billion. The bidding decision is to be made after elections this month.

"Ukraine will also significantly contribute to the CEE defense industry," said Kimla. "The country's defense industry inherited a better developed manufacturing base than others in the region, as a legacy of the Soviet Union.

"Even though approximately 20 percent of the defense sector export is going to Russia, Ukrainian companies have been looking to collaborate with Western European suppliers."

Frost and Sullivan said the most promising project in terms of Ukrainian-Western European defense industry cooperation is the Ukrainian navy's corvette program to introduce four new corvettes by 2021, with an expected value of $2 billion.

Lack of advanced naval technology creates an opportunity for foreign suppliers to provide up to 80 percent of the corvettes' components.

"Cooperation in this upcoming program can create a base for future defense projects after 2016, when the country financial situation improves," Kimla said.

"Overall, Poland's $11 billion modernization program presents many opportunities for the European industry players," the analysis said. "Defense companies should consider participation in the upcoming initial public offering of Bumar Group to establish or develop a strong footprint in the CEE region and increase their chances to win planned defense tenders.

"The Ukrainian navy's corvette program too should be also carefully analyzed since it creates an opportunity for Western suppliers to provide significant proportion of the corvettes' components."