ANNEX
INTRODUCTION
The Committee's report on the Defence Research has
been considered carefully by the Government and responses to the
main points in the report are set out in this memorandum.
The Government welcomes the Committee's recognition
of the improvements made following initial consultation last year
and its acknowledgement that efforts have been made to address
the issues raised by UK industry and our collaborative partners.
We are however concerned that the Committee has not yet recognised
the reality of the changing environment which DERA faces and the
need to take positive steps to ensure the continued survival and
development of a major national asset. The opportunities for NewDERA
to become a significant force for stimulating science and technology
within the UK economy also appear to have been missed.
In putting forward our revised proposals, we have
listened carefully to the views expressed by both the Committee
and our other key stakeholders. This has been a genuine process
of consultation and we have made changes to the proposal where
it is sensible and appropriate to do so.
Whilst we note that the Committee has reproduced
some concerns raised by certain stakeholders we are disappointed
that this appears to have been done in a relatively selective
manner. The overall response to the revised proposals released
on 17 April 2000 has been positive. Although many detailed issues
that will need to be addressed during implementation have been
identified, the majority of stakeholders have indicated that they
believe the proposal to be a workable approach capable of meeting
our PPP objectives.
We are confident that the Core Competence proposal
will meet the future science and technology needs of MoD. It will
encourage the development of stronger links with the expanding
global technology base and stimulate greater agility and innovation,
all for the benefit of the wider UK economy. Overall, we believe
that the opportunity to create partnerships between RDERA, NewDERA,
the rest of the private-sector, academia and our international
collaborative partners will lead to enhanced value for money for
DERA's customers while allowing MoD to retain access to world
class scientific and research capabilities .
We are grateful to all those, including the members
of the HCDC, who have contributed to the consultation process.
We believe that we have demonstrated a willingness to listen to
the views of our stakeholders and to make changes where these
are sensible and appropriate.
Following on from the results of consultation, the
Secretary of State announced on [25 July] that the Department
will proceed with the implementation of the Core Competence proposal.
We remain committed to a continuing dialogue with interested groups
as we move into the implementation phase.
A detailed response to the specific points of the
report on Defence Research follows. The Committee also asked for
a note on D/DPT's recent visit to the US, this is attached.
ADJUSTING TO A NEW RESEARCH ENVIRONMENT
Para 14
Ever since the MoD's original intention to explore
a 'part privatisation' of DERA emerged in 1998, the MoD has sought
to present a declining MoD budget for defence research as an immovable
constraint making the search for external finance seem the only
option available. As we commented in our Defence Research report,
'it is disingenuous for the MoD to suggest that funding constraints
are driving the need for a public-private partnership, as though
this is a factor beyond its control'.
It has never been the case that financial considerations
have been the primary driver behind the DERA PPP. Although DERA
has been a successful organisation it faces significant changes
to the environment in which it must operate, not least of these
is the increasing civil sector investment in high technology.
We believe that DERA must respond to these changes if it is to
continue to thrive, and if MoD is to continue to have access to
leading-edge technology for defence applications. Of course, strategies
must be set with funding constraints in mind. As we explained
in the oral evidence to the Committee, meeting the demands for
research and technology funding is a real problem, not just for
the UK but also for many other countries who are faced with exponentially
increasing requirements. But as we have also stressed throughout
this process, our objectives for the PPP are not primarily financial.
Amongst these objectives are the requirements to:
- enhance the opportunity for the exploitation
of technology locked up in DERA;
- improve access to technologies from the civil
sector for military application;
- introduce private capital into DERA to meet its
investment needs, and thereby accelerate its development through
exposure to private sector disciplines; and
- provide increased freedoms for DERA, in for example,
employee terms; conditions; reward; and its ability to grow commercial
business.
It is therefore important that we seek a solution
which not only meets the non-financial PPP objectives, but also
enables DERA to obtain private capital for investment and to facilitate
and accelerate the exploitation of technologies in the wider economy.
Para 16
When we considered the 'Reliance' model last year,
we noted that DERA staff could be properly rewarded and motivated
without DERA being privatised. We have no reason to change that
assessment in the light of the more modest proposals for partial
privatisation now being put forward. The terms and conditions
of Retained-DERA's staff must be protected. However, an additional
problem with the new proposals is that there would initially also
be 'a high degree of collocation, with staff from both New-DERA
and Retained-DERA being present on most sites', and there is,
it seems to us, an inevitable and demoralising problem when one
organisation's (perhaps more-secure) staff will have to rub shoulders
daily with those of the other body who could rapidly become better
rewarded and resourced. [As we discuss
later in this report, with DERA, more than with most organisations
facing privatisation, it is difficult to assess the likely value
of the company when it is a fully listed plc. Indeed the
multi-stage method proposed for the privatisation implicitly reflects
this]. We believe that the financial structure of New-DERA
should be arranged so that its executives do not benefit disproportionately
from any appreciation in the value of New-DERA shares arising
from property sales or other windfall profits.
The actual situation is more complex than implied
by the Committee's comments. In certain areas of technology, which
are also highly attractive to the civil sector, DERA is currently
experiencing significant difficulties in recruiting and retaining
staff. This in itself is a risk to the MoD as potentially it could
reduce the access for defence applications to expertise in these
areas. In order to respond to this problem NewDERA needs to offer
reward packages that can compete with other private-sector companies.
The degree of freedom and flexibility necessary to do this would
not be appropriate for an organisation within the public sector.
Although RDERA must be capable of attracting scientific
staff of the highest calibre, it will be a smaller organisation
tightly focused on delivering science and technology in areas
that could not easily be transferred to the private-sector. Therefore
we believe that the staffing problems will be less acute. For
some people, the opportunity to carry out challenging work within
a public-sector body for some or all of their careers will be
extremely attractive. This will ensure that RDERA can attract
sufficient staff to be a highly successful organisation making
a key contribution to meeting the country's defence needs.
We agree that the terms and conditions of staff transferring
to both RDERA and NewDERA must be fully protected. This will be
achieved through the application of the Transfer of Undertaking
for the Protection of Employment, TUPE. RDERA staff will remain
part of the Principal Civil Service Pension Scheme. For NewDERA
a new pension scheme will be established and this will have to
be certified by government actuaries as delivering benefits which
are broadly comparable to the existing scheme.
We fully recognise that both organisations must offer
career opportunities and reward packages that are attractive to
the pool of people from which they need to recruit. NewDERA will
enjoy private-sector freedoms to motivate and provide incentives
to its staff. Within MoD we are currently reviewing the broader
career management arrangements for scientific and engineering
staff across the department. This includes examining incentive
mechanisms, opportunities for secondments to industry or overseas
governments, as well as revisions to the existing Fast Stream
promotion arrangements.
It is not necessarily true that, as asserted in the
report, staff in NewDERA would be better resourced than those
in the retained organisation. RDERA performs a critical role for
MoD Customers who will wish to ensure that RDERA has sufficient
resources to perform the tasks required of them.
Ensuring that the taxpayer receives full value both
during and after the transaction has always been a primary consideration
within the PPP. As acknowledged by the Committee, the proposal
envisages a mechanism to ensure that the Government retains a
financial stake in NewDERA to ensure that the taxpayer gains from
any growth in NewDERA in the period following its transfer to
the private sector. Retention of such a stake would not be a long
term position.
We are working with specialist city and financial
advisers to ensure that NewDERA's business and assets, including
property, are properly valued at the point of transaction, and
that this value will be reflected in the sale price. Consequently
we will be seeking to ensure that growth is a result of genuine
improvements in the company's business and not the result of an
artificially low initial valuation. It is our intention that at
the implementation point remuneration packages should be strongly
linked to performance and that there should be full transparency
in the introduction of reward mechanisms.
Para 17
In similar vein, it would appear that New-DERA's
ability to attract private-sector capital under the Core Competence
model would be similar to that of the privatised elements of DERA
under the Reliance approach. Again, when we evaluated the Reliance
approach last year we considered that attention might better be
directed at adjusting Treasury rules to give DERA greater financial
freedom, before turning to a public-private partnership. The new
public-private partnership proposals repeat the MoD's requirement
for sufficient private sector involvement in DERA for it to raise
capital to exploit its intellectual property, and to introduce
more flexible rewards for its staff. As the Core Competence proposals
do not change those underlying assumptions, we remain unconvinced
about the justification for a public-private partnership.
It is accepted that the ability to attract private
sector capital under the Core Competence model would be similar
to that of the privatised elements under the Reliance approach,
and this would be the case under any model which involved elements
of DERA moving into the private sector. However, as the Committee
are aware, the revision of our original proposals was not due
to its inability to attract private capital, but was the result
of a range of other concerns expressed by our major stakeholders.
These focused on the need to retain within the public sector functions
including:
- the integration of different elements of knowledge
and research to provide high level advice to MoD to aid its decision
making process;
- work of a particularly sensitive nature; and
- sensitive work related to Government-to-Government
international programmes.
The comments on adjustments to the Treasury rules
are noted but this is not considered to be an viable route for
securing DERA's future in the long term, or for meeting the needs
of its major customers. Indeed, regardless of Treasury rules,
it is the case that the freedoms necessary to allow the successful
exploitation of the knowledge and expertise locked up within DERA,
and to develop the links necessary to transfer civil technology
into defence applications are simply not appropriate for an organisation
within the public sector. In addition it is apparent that UK industry
would have considerable and legitimate concerns over the creation
of an organisation with an increasingly commercial agenda residing
within the public sector.
IMPLICATIONS FOR INDUSTRY
Para 23
New-DERA's potential involvement in 'defence manufacturing'
needs to be clarified by the MoD if it is to go ahead with a public-private
partnership. However, we regard this problem principally as yet
another example of the unnecessary entanglements that this ill-conceived
proposal brings in its train.
We accept that clarification is required to define
the parameters of defence manufacturing and as we stated in our
written evidence to the Committee the detail will be developed
following consultation. However, we envisage the broad principles
will include the following:
(a) NewDERA would
not, without the express permission of MoD, be permitted to undertake
the manufacture or supply of equipment, products or systems whose
principal use is intended to be for a military, defence or security
application, other than small numbers of prototypes or demonstrators.
(b) Unless there was
a clear conflict of interest, NewDERA would be permitted to act
as a Systems Integration contractor and to work in partnership
with, or as a sub-contractor to industry. This is seen as an important
mechanism for ensuring that the results of work within NewDERA
can influence the design of new defence systems
It is not proposed to prohibit NewDERA from undertaking
any activities performed by the current DERA. The prohibition
is intended to be consistent with the present restrictions on
the development and manufacture of equipments for sale by DERA,
which are set out in the Framework Document that governs the activities
of the trading fund. It is recognised that for this prohibition
to be effective it must be defined in an unambiguous way and,
similarly, the processes and procedures used to administer this
provision must be clear and not intrusive.
We do not accept the prohibition of defence manufacturing
to be an "unnecessary entanglement" but rather an important
mechanism which will ensure that a conflict of interest does not
arise in NewDERA's ability to advise and support MoD in the delivery
of military capability. Indeed, this reflects current practice
whereby DERA are prevented from engaging in defence manufacturing
through their framework agreement.
Para 25
This inconsistency highlights the essential contradiction
in the MoD's approach to the public-private partnership. It apparently
seeks to launch a private sector commercially-motivated organisation
to exploit its capabilities aggressively, but at the same time
the Department also seeks to maintain the cosy and trusted relationship
it currently has with DERA. The MoD appears to be trying to have
it both ways, particularly in the eyes of DERA's other stakeholders.
We do not accept that there is a contradiction in
the MoD's approach or that the Department is seeking a "cosy
and trusted relationship" with NewDERA. It is fully recognised
throughout MoD that NewDERA will be a critical supplier to the
Department. It will contain many capabilities and facilities of
great importance to its MoD customers, and it is likely to continue
to be the MoD's largest source of scientific and technical advice
into the foreseeable future. However, this does not imply that
the relationship between MoD and NewDERA will, in principle, need
to be different from that which exists with other private-sector
organisations. Indeed, as identified in the consultation document,
it is important that there should be a clear separation between
the two organisations. Stakeholders, particularly industry and
our collaborative partners, have indicated strongly that they
want to be clear whether the people with whom they deal are in
the private sector or the public sector. It is also clear that
there would be a fundamental contradiction between allowing NewDERA
the commercial freedoms necessary to operate successfully in the
private sector whilst at the same time allowing it to have a privileged
relationship with MoD and we have carefully avoided this in constructing
our proposal.
THE DEFENCE DIVERSIFICATION AGENCY
Paras 29 & 30
It is clear that the Defence Diversification Agency's
future is still far from decided. We have warned before of the
poor record of support for defence diversification initiatives
and their lack of impact and effectiveness. Nothing in the latest
consultation proposals serves to reassure us that this is not
the fate that awaits the DDA if the public-private partnership
goes ahead.
. . . it cannot fit comfortably within either
of the new DERA organisations that would be set up under the public-private
partnership. [As the trade unions said,
'New-DERA would have no interest in opening up its laboratories
or providing information to its commercial competitors, and Retained-DERA
would have no ability to do so']. While the Defence Diversification
Agency has a place in the current structure, which needs to be
developed and encouraged, under a public-private partnership for
DERA its role would be over-shadowed and largely out of place.
With a New-DERA aggressively exploiting and diversifying its knowledge,
the Defence Diversification Agency could be marginalised.
We note the Committee's comments on the Defence Diversification
Agency (DDA) but with an impressive start by the DDA since their
inception last year, our experience to date has been a positive
one. Seven offices have been opened across the UK and a further
seven are expected to open before the end of this year. Over 300
company enquiries have been handled, the majority of which have
resulted from the successful partnerships the Agency has already
developed with Business Links and other enterprise groups.
The Government remains fully committed to the aims
of the DDA. In the light of the DERA PPP proposal, we need to
consider carefully the organisational structure which will enable
the DDA to function to best effect. Once this work has been completed
we will make an announcement, followed by a period of consultation.
The chosen solution will be the one that best safeguards the ability
of the Agency to achieve its aims. Integral to this, we envisage
establishing a Defence Diversification Council with membership
drawn from a wide range of stakeholders.
THE MoD'S INTELLIGENT CUSTOMER CAPABILITY
Para 35
The Core Competence model now being put forward
envisages a much larger component of DERA being retained within
the Department than under the Reliance model, and this does appear
to reduce the risks of losing an impartial, scientifically capable,
intelligent customer capability.
It is encouraging that the Committee recognise the
improvements we have made to our original proposal in order to
address the concerns of raised by stakeholders. However, this
section of the report does go on to highlight the continuing concern
that some stakeholders have over the ability of RDERA to maintain
sufficient capabilities and it is important that we address this.
We can assure the Committee that our analysis provides confidence
that the proposal would result in the establishment of RDERA as
a vibrant and sustainable organisation, providing high quality
scientific and technical output to its customers. It would be
a significant force in the field of defence science and technology,
undertaking systems level research and key Government work unsuited
to the private sector, while maintaining an ability to provide
a high level overview across the whole spectrum of science and
technology currently addressed by DERA. This would ensure that
MoD has an impartial source of advice and systems research capability
to provide high level assessment, integration and management of
its research programme and international research collaboration.
As we stated earlier, we believe that, contrary to the IPMS's
concern, the range of functions which RDERA would undertake would
assist in the retention of experts by providing rewarding opportunities
for employees to develop and enhance their skills in defence science.
Para 36
While the rebalancing of the dividing line between
New-DERA and Retained-DERA appears to make each more logically
structured, the net result is a deliberate diminution of the intended
capabilities of Retained-DERA, in order to bolster the flotation
prospects for New-DERA. This we find a poor omen of the importance
the MoD is likely to attach to protecting fully the MoD's 'intelligence
customer' safeguards.
Throughout the PPP process ensuring that customer
needs are fully met has always been an overriding objective. These
needs have been set out by the Customer Focus Group, a senior
level body which represents DERA's main MoD and other government
customers. The current Core Competence approach has been fully
endorsed by this group as being capable of meeting their requirements.
Therefore, we do not accept the assertion that the planning of
capabilities to be retained by government is a deliberate diminution
of the RDERA organisation in order to bolster NewDERA's flotation
prospects. The Committee itself acknowledges that "the rebalancing
of the dividing line between NewDERA and RDERA appears to be more
logically structured" and this has been a direct consequence
of the detailed work we have done to establish two viable and
sustainable organisations. We can assure the Committee that the
separation of NewDERA and RDERA has been planned so that there
would be an equitable division of key staff between the two organisations
whilst ensuring that each has the necessary capabilities and expertise
to carry out its defined role. We are confident that the way in
which we have planned the division of capabilities will fully
protect access to the capabilities needed by MoD to carry out
its 'intelligent customer' role.
Para 37
If the Centre for Defence Analysis is to be so
diluted, it is clearly important that at least those parts that
provide urgent support to commanders during operations—the
so-called 'front-line CDA'—fall on the public sector side
of the fence.
We do not accept that implementation of Core Competence
will lead to an overall dilution of the analysis capability available
to meet the MoD's requirements. As we stated in our earlier written
supplementary answers to the Committee, we recognise that the
functions undertaken by the CDA are fundamental to the business
of the MoD as a whole, by sustaining impartiality and supporting
major expenditure decisions and the coherent development of future
defence policy. However, our analysis showed that it is possible
to maintain this capability whilst at the same time allowing NewDERA
to retain a number of CDA's current staff. This would allow it
to continue to operate under its current business model and would
add value to the other capabilities offered to customers. As indicated
previously CDA has capabilities in several technical areas, each
of which typically comprises a number of staff and analytical
models. Although we will retain the full range of capabilities
in MoD it may not be necessary that the current level of
staffing is required to meet only those requirements that must
be carried out within Government. Pilot studies have given us
confidence that it is possible to create an adequate level of
capability within RDERA to meet MoD's impartiality requirements
in a particular area without keeping 100% of the current staff.
NewDERA would remain accessible as a potential supplier to MoD
and the overall level of capability available for MoD to draw
on would not be reduced and may even be enhanced.
It is also incorrect to suggest that the proposals
would dilute the capabilities of DERA technical libraries and
databases that lie outside of the Defence Research Information
Centre (DRIC), and that this would lead to risks affecting the
future safe custody of sensitive information.
Firstly, the site-based information centres that
lie outside of DRIC, whether they are in NewDERA or in RDERA would
continue to provide local library and information services to
their host sites in the way they do today. DRIC would continue
to function as the MoD repository of defence-funded scientific
and technical reports and to provide those reports to authorised
users in MoD, DERA and the defence industry as necessary. The
retention of DRIC would, therefore, in no way dilute the capabilities
of information centres, which would continue to have access to
the same sources of information for approved purposes.
Secondly, the handling of sensitive information and
its passage to the private sector would continue under the same
strict controls that have been in place for some time. In this
way, there would be no increase in risk to the information provided
by defence industry or our collaborative partners as a result
of DERA PPP. Information centres within RDERA would have full
Government access to this information. Centres in NewDERA would
continue to have access to such information on a 'need-to-know'
basis, having exactly the same access as any company to which
MoD has attributed an appropriate level of security clearance.
Indeed, NewDERA would still hold and protect classified material
in exactly the same way as any such company.
THE IMPLICATIONS FOR COLLABORATIVE RESEARCH
Para 43
US approval of the public-private partnership,
which in our earlier report we called for as a precondition for
proceeding with it, is far from certain.
In the preceding section to this statement the Committee
rightly highlights the importance of international collaborative
research to the UK. The overall response to the proposal from
the US, and other international partners, has been generally positive
and our partners have repeatedly stated their desire to ensure
that collaboration continues. Ministers and senior MoD officials
have had a number of discussions with counterparts in the US DOD
and intelligence communities. During consultation an MoD team
visited a wide range of US laboratories to brief scientists and
managers on the proposals and to discuss any issues that they
wanted to raise. Together all of these exchanges have given a
high degree of confidence that existing collaborative agreements
will be unaffected, and that we can continue to develop new areas
of co-operation after the implementation of the PPP. Indeed, it
would be surprising if this were not the case as ensuring the
continuation of these links was a significant factor behind the
changes we have made in response to the previous consultation
process.
Rudy de Leon, Deputy Secretary for Defence, welcomed
the announcement made on the future of the Defence Evaluation
and Research Agency, saying—
"We did have some concerns
about the previous proposals, but I welcome the new proposal,
which I believe to be constructive and workable. Inevitably there
are a number of detailed issues to be resolved during implementation,
but I am confident these can be addressed satisfactorily. I look
forward to working closely with the UK to maintain our strong
collaborative research links."
Although the Committee has primarily focused on collaboration
with the US, the MoD has important collaborative relationships
with a wide range of other nations, and is involved in a number
of major international scientific fora. There have been extensive
discussions and correspondence with many collaborative partners
including those within both The Technical Co-operation Programme
(TTCP) and the NATO Research and Technology Organisation. The
MoD will obviously continue to meet fully its obligations under
international agreements. In general, our partners are content
with the principle behind the Core Competence proposal, although
they obviously wish to be satisfied that government-only information
is properly protected. We have therefore provided assurances to
our partners that any information provided by them to the UK would
not be passed outside government without their specific agreement.
We will obviously continue detailed discussions with our partners
throughout implementation and beyond.
Para 45
We have doubts about the practicality of being
able clearly to identify personnel who would need to be kept in
Retained-DERA in order to facilitate international collaborations.
Effective collaboration depends on the scientists involved in
the research having relationships of trust with their opposite
numbers, and that trust will be much more difficult to maintain
if the scientists in question are in the private sector.
We are in the process of identifying the key points
of contact for international collaborative work who would remain
in RDERA. Most of these individuals have been deeply involved
in such programmes for many years and have established strong
personal links with their international colleagues. As one of
the first activities during implementation these individuals would
visit the US and other collaborative partners to ensure the effective
continuity of collaborative programmes. Representatives from RDERA
will represent the UK on international groups such as The Technical
Co-operation Programme.
THE 'COMPLIANCE FRAMEWORK'
Para 49
We would welcome a requirement for transparency
in the application of the proposed compliance regime for New-DERA,
which the MoD should build into the Articles of the new company.
But the compliance committee, as proposed, will in no way be analogous
to the external regulators seen in other privatised sectors, and
it will have no sanctions. If it proceeds with its public-private
partnership proposals, the MoD is likely to need other means to
assure itself about New-DERA's compliance with its operating constraints,
as will industry and the MoD's overseas research partners. If
those groups have doubts about the rigour and integrity of the
proposed compliance regime in practice, New-DERA will not be trusted
and the putative benefits arising from its freedom to operate
in the commercial marketplace, such as they might be, will be
lost. By the same token, if the compliance
regime is too onerous, the benefits will again be diluted
or lost. This is another example of where it seems to us the risks
of getting the new regime wrong almost certainly outweigh the
supposed benefits to be gained from the change of ownership structure.
We agree that there is a balance to be drawn in ensuring
firstly that the compliance regime provides MoD with sufficient
protection of its key interests and secondly that NewDERA is not
overly constrained in its commercial activities. We have recognised
this in the development of our proposals and a major advantage
of the Core Competence approach is that it protects many of the
most sensitive areas of technology by retaining them within government.
Consequently the burden imposed by the constraints package on
NewDERA can be minimised and its effect on the company's competitiveness
should not be significant.
It would of course be premature to try and fully
define the nature of the constraints package, as these will develop
as a result of detailed work during implementation. However, as
we have stated throughout this process it will be important to
preserve the independence and impartiality of NewDERA and ensure
that is not subject to undue influence. With regard to the Compliance
Committee, this is not intended to carry out the role performed
by external regulators in other privatisations, and is indeed
much more analogous to the audit committee which, in common with
other companies, NewDERA will have in place. However, the Compliance
Committee should be viewed as one element of the overall package
of measures to protect MoD's interests, as we have described in
the consultation document.
The Committee rightly highlights the fact that other
stakeholders, including industry and international partners, will
wish to be assured of NewDERA's integrity. We are confident that
the constraints of the compliance regime, together with the normal
contractual mechanisms which are applicable to any private sector
supplier to the MoD, will provide stakeholders with this assurance.
The contractual conditions would include confidentiality clauses,
adherence to the Official Secrets Act and other security provisions,
and processes for organisational, physical and information separation
and compartmentalisation. The use of third party intellectual
property would also be protected through contractual mechanisms.
VALUE FOR MONEY AND THE FLOTATION OF NEWDERA
Para 53
Duplication of knowledge and expertise between
New-DERA and Retained-DERA may be desirable in an ideal world,
but it comes at a cost which the MoD will ultimately have to pay.
It is not the intention that there should be substantial
duplication between RDERA and NewDERA. The proposal is based on
the principle of retaining within government those functions which
our stakeholders indicated during previous consultation would
be unsuitable for transfer to the private sector. In some areas,
such as CBD, there would be no duplication of capability between
the organisations. In other areas, such as analysis, both RDERA
and NewDERA will have some technical capability, however the functions
they perform will be different. The basis of Core Competence is
that MoD via RDERA will remain expert in the systems area and
certain other specialist topics. These experts will draw world
best technology predominately from NewDERA or where ever the best
technology exists.
The report states that RDERA's role would be that
of bringing together the strands of knowledge generated by other
contracted bodies' primary research. Clearly this is an important
role and indeed one that NewDERA would be likely to replicate
for its own business management, but it would not be the retained
organisation's only function. RDERA would undertake its own primary
research where security or sensitivity demands. RDERA's primary
role is to carry out work which can not easily be conducted outside
government. Therefore the scope for competition with NewDERA or
other outside suppliers should be minimal. This is true across
the range of MoD customer requirements, including those of the
Integrated Project Teams within the Defence Procurement Agency.
Para 54
Systems integration work is likely to be the area
with the highest added-value, and without it New-DERA may be regarded
by potential investors as a less attractive organisation with
lower potential. This is another example of the dilemma—whether
to beef up Retained-DERA to meet stakeholders' concerns, or to
beef up New-DERA to boost its value—which can never be resolved
satisfactorily, and exemplifies clearly the risk of proceeding
with this public-private partnership.
As stated before, it has been an overriding objective
for the PPP to ensure that the requirements of MoD customers will
be fully met. Customers have been directly involved in pilot studies
to evaluate our ability to create two organisations capable of
fulfilling their required roles. This has not highlighted significant
potential problems in relations to establishing the necessary
level of systems integration capability within either NewDERA
or RDERA. It is not our intention to prevent NewDERA from carrying
out some systems integration work. As stated in response to para
23, unless there was a clear conflict of interest NewDERA would
be permitted to act as a systems integration contractor and to
work in partnership with, or as a contractor to industry.
Paras 55 & 56
With its budget already having been based on the
assumption of the appropriation of £250 million from the
flotation, and nothing more, the longer term value of the DERA
deal for the MoD depends on the extent to which New-DERA's prices
for its research outputs will fall, including the extent to which
any efficiency improvements it achieves are shared with the MoD.
Indeed, unless New-DERA can make additional efficiency improvements
and generate third-party income to more than offset the new company's
higher cost of servicing its capital, and can be forced to pass
on the benefits to the MoD through competition, the MoD's funds
spent with the firm will buy less research. If such benefits do
not materialise, dealing with a private-sector DERA may put additional
pressure on the MoD to raise its research budgets just to stand
still.
The assumption of falling costs arising from the
disciplines of private enterprise and competition are therefore
the only really substantial rationale for DERA's restructuring,
and it is an assumption yet to be tested. Furthermore, such benefits
will have to cover the substantial part of the flotation proceeds
going to the Treasury if the sale is not to be an effective cut
in the MoD's budget. This is because New-DERA will have to charge
the MoD more for its research in order to cover the cost of the
capital raised for New-DERA's acquisition. It could be argued
that that in itself might not financially disadvantage the MoD
if it were to receive the full sale proceeds, which could
then be used to offset the higher research costs. The Treasury's
take represents a cut from that otherwise neutral position.
It is of course premature, and not in the taxpayer's
interest, to speculate on the sale price or level of proceeds
which would arise from the flotation of NewDERA. The estimate
of a £250 million credit to the defence budget as a result
of the PPP is simply a planning assumption. The Committee should
be aware that, in addition, we are exploring the potential to
re-invest a proportion of the receipt in research and technology
thereby providing benefits to both customers and suppliers.
NewDERA will remain as one of the larger science
and technology organisations within Western Europe. It will continue
to benefit from significant economies of scale, which should be
enhanced by its increased ability to win additional commercial
business. We are confident that in adopting market disciplines
and introducing more competitive practices, there will be increases
in productivity, efficiency and responsiveness enabling NewDERA
to continue to build on the efficiencies and cost-savings achieved
by the current organisation. In addition, the research competition
initiative which is being introduced by MoD research customers,
independently of the PPP, will maintain pressure to keep prices
down. We therefore do not believe that MoD will have to pay more
for its research.
Paras 58 & 59
This whole arrangement seems to us to set up an
entirely unhealthy set of conflicts between the Exchequer and
the MoD.
With the Treasury set to gain most from the timing
of DERA's flotation, we can also expect that the Treasury's priorities
will be influential on the timing of the sale.
We do not accept the assertion that there would be
conflict between the Exchequer and MoD over the timing and method
of sale. We have highlighted within the consultation document
that we retain the option to seek a strategic financial investor
as an interim step if this should prove to be desirable. Although
it is obviously in the interests of DERA's staff and customers
that we should complete the proposed changes as quickly as possible,
there is absolute agreement amongst all parties that any transaction
should be timed to ensure maximum value for the taxpayer.
Conclusions
Para 60
.
. . the potential benefits of a partial
privatisation remain to be convincingly demonstrated by the MoD.
In our judgement the current risks of proceeding with the public-private
partnership—even in its new and improved format—continue
to outweigh the still hypothetical benefits. The MoD needs to
do more to persuade their Treasury colleagues that the likely
receipts from DERA's flotation will be only a negligible fraction
of the MoD's equipment procurement budget over the lifecycle of
major programmes, and that such a receipt does not compare well
against the risks inherent in the public-private partnership for
the UK's continued ability to acquire militarily effective equipment
for our armed forces.
We are concerned that the committee has not yet recognised
the reality of the changing environment which DERA faces and the
need to take positive steps to ensure the continued survival and
development of a major national asset. The opportunities for NewDERA
to become a significant force for stimulating science and technology
within the UK economy also appear to have been missed.
In putting forward our revised proposals, we have
listened carefully to the views expressed by both the Committee
and our other key stakeholders. This has been a genuine process
of consultation and we have made changes to the proposal where
it is sensible and appropriate to do so. We are confident that
the Core Competence model will result in two sustainable structures
which will deliver value for money and a range of real, not hypothetical,
benefits including:
- introduction of commercial disciplines into NewDERA
resulting in reduced contract prices for MoD and other customers
as a result of increased competition, economies and productivity;
- providing NewDERA with sufficient flexibility
to develop commercial business partnerships and engage in a greater
range of joint ventures thereby positioning itself to anticipate,
rather than merely react to, customer needs;
- access to private capital through either equity
or debt in order to build capability and support future investment
in technology;
- strengthening the links between civil and defence
technology so that MoD and the wider economy benefits from broader
application of technological advances;
- effective and productive relationships between
private and public sector reflecting MoD's aims under the Smart
Procurement Initiative;
- the ability to address skill shortages in critical
technologies;
- a structure that provides international partners
and other stakeholders with confidence that collaborative relationships
will be maintained and protected.
Para 61
The balance struck between these two new organisations
will tell us ultimately whether the current initiative is a public-private
partnership, or simply a privatisation
misleadingly labelled.
Our proposal for the future of DERA will be capable
of meeting MoD's future science and technology needs and will
ensure that our armed forces retain access to leading edge technology.
The approach that we are following will stimulate the creation
of partnership between RDERA, the private-sector, academia and
international partners. NewDERA will be free to form its own partnerships
and stimulate the wider exploitation of defence technology whilst
at the same time encouraging the application of ideas from the
civil sector to defence systems. Such partnerships go beyond the
area of research, and are a fundamental tenet of the Smart Procurement
initiative, whereby the development of stronger relationships
with industry is seen as beneficial both to the MoD's procurement
processes and in ensuring long term value for the taxpayer.
Para 62
In the meantime, damage has been done to the Department's
relations with industry, DERA's personnel and the US Department
of Defense.
We recognise that this process has caused some uncertainty,
particularly with DERA personnel. But it has been important that
we find the right solution for both DERA and MoD and this has
necessitated long and detailed consideration of some very complex
issues. The Committee can be assured that consultation has been
genuine and we have been determined to thoroughly examine and
address all concerns raised by stakeholders. Despite the uncertainty
we do not accept that relations have been damaged. We have agreed
with stakeholders that there have been issues to address and we
have worked together to ensure resolution, and of course will
continue to do so throughout implementation. In order to demonstrate
to the Committee that our efforts to resolve issues have been
genuine, detailed below is a summary of consultation with the
specific groups highlighted by the Committee:
(a) Industry.
Consultation has taken the form of informal workshops, meetings,
briefings and seminars. Contact has generally been focused through
the trade associations or other relevant professional bodies such
as the Defence Industries Council (DIC), Defence Manufacturers
Association (DMA) and the Association of Independent Research
and Technology Organisations (AIRTO). The Principal Finance Officer
hosted an industry seminar on 16 June where the proposal was explained
in detail and industry were given the opportunity to air views
and discuss areas of specific concern. The general industry message
is one of support for our latest proposals and an agreement that
they are workable and will inject a welcome degree of private-sector
discipline into NewDERA.
(b) DERA Personnel The Chief Executive
outlined the detail of our new proposals on 17 April in a satellite
link to major DERA sites. This was accompanied with cascade briefings
and upward feedback. The CE/DERA and the DERA Executive Committee
(DEC) have also been undertaking a listening exercise, with visits
to all DERA sites. A DERA PPP website was established, enabling
staff to register and discuss views via an electronic chat room
and to submit anonymous feedback. A DERA PPP Helpdesk was also
established to identify and respond to the concerns of DERA staff.
The opportunities for staff to express their views has therefore
been comprehensive. Staff have also expressed views through the
Trade Unions and their MPs. Clearly staff are concerned for their
future employment and terms and conditions. We have assured them
that we are confident that our PPP proposals will bring benefits
for job security and that terms and conditions will be protected
through the application of the Transfer of Undertakings (Protection
of Employment) regulations (TUPE).
(c) US. Officials have visited the US
to outline in detail the Core Competence proposal and, as indicated
in our response to para 43, the US reaction has been generally
positive. At research establishments there was a warmly expressed
desire to continue collaboration, and a belief that under the
Core Competence model this would be possible. It is our intention
that, during implementation, nominated RDERA points of contact
will visit the US and other international partners to ensure the
effective continuity of international collaboration. These plans
have been welcomed by our international partners as a sign of
genuine and productive consultation.
Para 63
By the time the division and partial privatisation
of DERA are effected—if the plans proceed—the MoD
must not be surprised if critical relationships of trust have
not been irreparably damaged.
Again, we believe the Committee is overstating the
position. We believe that our willingness to engage in genuine
consultation with our stakeholders and the fact that we have made
changes in response to the views that they have expressed has
had a positive affect on many of our important relationships.
We are therefore confident that the Core Competence model has
the general support of our main stakeholder groups. There are
of course issues to be worked through during the implementation
process, but we do not see these as insurmountable in the establishment
of NewDERA and RDERA as two sound and sustainable structures.
To ensure the continuation of effective working relationships
we have made it clear to all stakeholder groups that consultation
will continue throughout implementation. Indeed, it is the intention
of Minister (Defence Procurement) to meet with key stakeholders
early in the implementation process, and this includes the Trade
Unions and Industry representatives.
Ministry of Defence
28 July 2000
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