THE CHALLENGES FOR THE NEW HDES
Overview
17. For the UK economy, defence exports have been
a success story in recent years across all ranges of goods
the UK secures about 5% of the world export market, but in defence
products we have a 23% share.[50]
In the long term there is a real likelihood that our export performance
will suffer as declining research budgets, particularly compared
with other competing countries, mean that we cannot continue 'consuming
our technological inheritance', even if those budgets were used
ever more efficiently.[51]
The Committee will be examining the state of defence research
in a separate inquiry. There are also, however, some significant
near-term challenges (described below), which Mr Edwards may be
more readily able to influence. They will not make his job an
easy one.
The need for new markets
18. The UK is the second largest defence exporting
country, capturing 23% of global new export orders, behind the
United States with 42% (Figure 3). While performance of the three
other principal exporting nationsthe US, France and Russiahas
varied over the last few years, UK defence exports have risen
in each of the last three years (Figure 4). The most important
market area for the UK is the Middle East, which was the recipient
of 62% of the UK's defence orders secured in 1997 (Figure 5).
Indeed, over the last 10 years or more, the UK's share of the
global market has been principally driven by our performance in
the Middle East, with the bulk of exports to the region accounted
for the the Al Yamamah contracts. In the last two years,
the UK has won more of the Middle East market than has the US.[52]
The Far East is our second most important market accounting for
a further 18% of our exports. The UK's three government-to-government
sales agreements lie in the Middle and Far EastKuwait,
Saudi Arabia and Malaysia. UK defence export orders from Latin
America and Africa, on the other hand, have been much less significant$100
million in 1997, or about 1% of the UK defence export total.
19. On the face of it, countries looking to buy their
defence equipment from abroad could be expected to buy American.
Purchasing from the US would offer the prospect of political and
military links with the world's remaining superpower, and equipment
prices that can be kept down by high-volume US production runs.
In many ways it may be thought surprising that the US does not
secure an even bigger share of the world market than it does.
One needs only to bear in mind the recent competitiveness of international
markets (following reductions in US domestic orders and industry
rationalisations) which have made US firms very competitive abroad.
And yet the US is matched, and even out-performed, by the UK in
the Middle East. We raised this with Mr Edwards. He told us that
price, political ties with the UK and logistic and training support
all played a part in the UK doing well in particular markets,
but that a major overriding driver has been the desire in certain
countries not to put all of their eggs in one [US] basket, and
when they have looked around for another 'basket' they have looked
favourably upon the UK.[53]
20. However, the Asian financial crisis and reduced
oil price have now had an impact on UK defence export prospects.
The MoD considered that the defence modernisation plans of Malaysia,
Thailand and Indonesia were those principally affected by the
financial crisis, and that it expected them to delay by at least
two to three years some of their major planned acquisitions. Several
Middle Eastern countries have recently curtailed their procurement
plans because of the fall in oil prices over the last year. And
the South American market, though small, has also been affected.[54]
21. Our witnesses were nevertheless upbeat about
future prospects. Mr Edwards and his colleagues considered that
the important existing markets in the Middle East and Far East
would continue, though at a lower level, because the countries
involved still perceived threats and would continue to give priority
to, and find funds for, defence requirements.[55]
Many of these countries do not have indigenous defence industries,
and their military capabilities can only be upgraded for so long
before equipment is replaced. Over the next five years, the MoD
told us, perhaps 10% of previous export levels would be lost.[56]
In the Philippines, the economy had not been as hard hit as some
others. New potential markets were developing in Australia, South
Korea, Canada and South Africa,[57]
and when the three new NATO members (Poland, Hungary and Czech
Republic) are in a position to meet their significant new equipment
requirements the UK will be competing for the orders, along with
US and other European firms.[58]
22. The defence export market is clearly in for
a rocky ride in the next few years, but the MoD's assessment of
the UK's prospects is upbeat. We endorse the MoD's approach of
retaining close links with our traditional customers when their
defence budgets may be under pressure (showing that we are not
merely 'fair weather friends'),[59]
while working hard to generate new markets and resurrect old ones.
The consequences of rationalisation and collaboration
23. In our inquiry last year on aspects of defence
procurement and industrial policy[60]
we reported moves underway to rationalise the defence industry,
including trans-national mergers which were then beginning to
materialise. This raises important issues for DESO, which is charged
with facilitating UK defence exports. Mr Edwards told us
that
The guiding principle has been: let's look at the
activity which is going to result in this country [from a particular
export]jobs, technology, whatever it is ... how good is
it for United Kingdom plc? After that we look at the ownership
of the company or where the control is, and that seems fairly
useful for doing the initial cut, discriminating between the various
competitions that we could support. That means we [could] end
up supporting French-owned or American-owned or Canadian-owned
companies in this country in their efforts. The next dilemma is
if you are dealing with an Anglo-French joint venture versus a
Canadian-owned company in this country, for instance, you look
at where the activity is and if the Anglo-French joint venture
is going to have all of its activity in France and the Canadian-owned
company is going to have all of its activity in the UK, then we
will support the Canadian one. So we have been using this rule
of first of all [looking at] the activity, and then at ownership
to help ... but it is going to get more complicated.[61]
24. Such complicated cases include, for example,
providing marketing support for Swedish Saab aircraft because
they are 35% owned by British Aerospace.[62]
Similar difficulties arise with collaborative projects. With Eurofighter
the collaborative manufacturers have decided which of them will
take the lead in each market, and then DESO will come alongside
to lend support where appropriate.[63]
British Aerospace, and thus DESO, are earmarked to support the
marketing of Eurofighter-Typhoon in Australia, Bahrain, Canada,
Kuwait, Malaysia, Saudi Arabia, and the UAE.[64]
But as firms in the Eurofighter consortia rationalise and merge,
working out such arrangements is bound to become more difficult.[65]
25. We recognise that in marketing particular
products, establishing the UK's interests is not a precise
science, and that defence industry rationalisation is going to
make it far more difficult in future. Being able to do so, however,
goes to the heart of DESO's raison d'être and the
organisation must be able to demonstrate clearly that its marketing
works to the benefit of this country. Collaborative programmes,
by their nature, can serve to dilute the potential benefits of
exports that may be available for any one country. In these circumstances
we expect Ministers and DESO to do all they can to persuade DESO's
counterparts in other collaborative countries to shoulder a fair
share of the export marketing effort.
DESO's resources
26. A key DESO target is to support UK companies
to achieve annual defence export orders of at least £5 billion
a year over five years, measured on a three-year rolling average.
For the three years to 1997 export orders averaged £5.2 billion
a year.[66]
However, as the global market constricts further, a goal expressed
in terms of market share may be adopted instead, with DESO being
set the target of helping the UK retain its second place after
the USA with at least 20% of the market.[67]
Over the period 1994-1997, the value of exports per DESO employee
improved by 30%.[68]
DESO has a target of improving this ratio by 3% a year over the
next five years. While the MoD as a whole has an efficiency target
of 3%, DESO's target is rather different in that a critical element
in the ratio is the volume of UK export orders over which it has
only limited influencethus far the 'efficiency' gains appear
primarily to have arisen from expanding UK defence exports. This
target is likely to become more challenging to achieve, however,
as the global export market contracts further.
27. Of more concern to this Committee, however, are
the resource assumptions built into DESO's plans, and in particular
the cut of over 100 staff over the four years to April 2002a
fall of 16%. The new HDES said that this was in part based on
assumptions about the winding up of the Kuwait project office
in another two to three years unless there are new orders[69]there
are no current plans for any new project offices.[70]
Mr Edwards, who has inherited the previously planned DESO staff
reductions, summed up his own concerns about resources
[The staff figures] worry me as well, because if
we are being this successful and if we are bringing in receipts
far in excess of our costs, 'why do we not do more' is the question
I would ask, 'instead of less of it?' ... Certain assumptions
have been made that there will be less work to be done, and therefore
fewer people needed in the project offices. I understand that
these drops are mainly due to the project offices which have about
half of our people. So those assumptions, I think, need to be
questioned going forward, and if we are successful in selling
more things in Kuwait that project office will not drop in size.
[For] the remainder, if you like the core of DESO, ... we are
building in assumptions that we will improve productivity [by]
3 per cent a year ... So I think what you have put your finger
on is that if we are as successful as apparently we are, why have
we planned to get smaller? I think we have to question those numbers
in the future, based upon whether we want to maintain the size
of the project offices, and maybe add another project office if
we are successful in another country, and not arbitrarily allow
our capability to go down. On [staff for] licensing [work], that
is so sensitive that I will make the commitment to keep an eye
on making sure that we have the appropriate resources to make
sure that not only do we handle them efficiently, but handle them
responsibly as well.[71]
28. The global defence export market involves some
fiercely-fought competitions, and the US in particular push their
products very hard. If opportunities present themselves for
expanding the UK's market share, the resources needed by DESO
should be reassessed by the MoD. By the same token, if a shrinking
world market for defence-related goods renders government support
for exports disproportionate to the potential benefits, we would
again expect DESO's resources to be re-examined. Any significant
changes proposed should be notified to the Committee. That
said, Mr Edwards' determination to fight his corner over resources
for DESO, and his commitment to provide sufficient resources to
discharge responsibly DESO's export licensing role (especially
in view of the need for improved parliamentary scrutiny of defence
exports, the case for which we reaffirm), is entirely appropriate.
Meeting the challenges
29. These challenges we have set out above are significant.
In selecting Mr Edwards as the person to meet these challenges,
the MoD has secured someone with some 35 years' experience in
the defence and aerospace industry.[72]
Significantly, these include 16 years with firms in the US[73]
which has dominated the market. He told us that he hoped to address
the opportunities there were to employ more effectively the marketing
approaches used in the US, in particular customer support.[74]
We endorse his appointment, and look forward to seeing evidence
of the success of his stewardship of the Defence Exports Services
Organisation.
50 Ev p 24 Back
51 Q
6 Back
52 In
1997 the UK won US$5.5 billion of orders in the Middle East compared
with US$4.0 billion by the US Back
53
Q 64 Back
54 Ev
p 29 Back
55 Q
67 Back
56 QQ
69, 70; and Ev p 32 Back
57 QQ
69, 70 Back
58 Q
70 Back
59 Ev
p 29 Back
60 HC
675 Back
61 Q
75 Back
62 Q
75 Back
63 Q
76 Back
64 Defence
Management Journal, Vol 2;
issue 1. Alenia is leading for Brazil, Philippines and South Africa;
CASA is leading for Chile, S Korea, Thailand and Turkey; and Dasa
is leading in Belgium, Czech Republic, Denmark, Greece, Hungary,
the Netherlands, Norway and Poland. Back
65 Q
76 Back
66 Ev
p 27 Back
67 Ev
p 29 Back
68 Ev
p 27 Back
69 Q
59 Back
70 Q
61 Back
71 Q
99 Back
72 Q
2 Back
73 Q
8 Back
74 Q
3 Back
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