House of Commons - Defence

Select Committee on Defence Fourth Report

FOURTH REPORT

The Defence Committee has agreed to the following Report:—

THE DRAFT DEFENCE AVIATION REPAIR AGENCY TRADING FUND ORDER 2001

1. The Defence Aviation and Repair Agency (DARA) was formed on 1 April 1999, merging two of the MoD's longest standing agencies—the Naval Aircraft Repair Organisation (NARO)[8] and RAF Maintenance Group Defence Agency[9]—to form a single MoD-wide aviation deep-repair organisation. On 17 January this year, the MoD laid before the House a draft Order which, if approved, would establish DARA as a trading fund on 1 April 2001.[10]

2. One of the Defence Committee's standing objectives is to examine one or two defence agencies each year.[11] So far this Parliament, we have examined in some detail another trading fund agency — the Defence Evaluation and Research Agency[12]— which is being prepared for privatisation.[13] We have also conducted inquiries into the merger of the Joint Air Reconnaissance Intelligence Centre and Military Survey.[14] We have monitored the work of the Defence Procurement Agency and the Defence Logistics Organisation, which subsumes 12 agencies[15] (through our examinations of the smart procurement initiative and major equipment projects[16]). And we have taken evidence from the recruitment and training agencies in our recent Policy for People inquiry.[17] We decided to conduct this brief inquiry into the Defence Aviation and Repair Agency because we had not yet examined a maintenance agency and because of its imminent change of status as a trading fund. DARA's rationalisation plans had also attracted some parliamentary comment.

3. We accepted an invitation from the Minister for the Armed Forces to visit St Athan, near Cardiff—DARA's largest site and its headquarters—on 8 February 2001, where we were able to discuss the Agency's trading fund and rationalisation plans with DARA's Chief Executive, Mr Stephen Hill, and other key officials and trade union representatives. We also had an opportunity during our visit to meet separately Mr John Smith MP (within whose constituency St Athan lies) and others concerned about DARA's plans in the area. We took oral evidence on 14 February from DARA's Chief Executive and some of his senior directors, as well as from officials of the Defence Logistics Organisation (DARA's MoD 'owner'). We also received responses to written questions, and copies of certain key documents, from the MoD.[18]

4. This report examines the issues surrounding the MoD's trading fund proposals for DARA; the Agency's rationalisation plans, which are part of its preparations for its new commercial footing; and DARA's current performance against its targets. Our aim is to report to the House before the draft trading fund Order is debated in Standing Committee. The Government's business managers have been able to give us a commitment not to do so before the week beginning 12 March 2001.

The rationale for a trading fund

5. The costs of most MoD agencies, like the rest of the Department, are met from the defence budget—they are on the defence Vote. However, three agencies[19] have been established as trading funds, with their costs covered by the income they receive from their trading activities. The MoD does not contribute directly to their costs (other than through payments for services provided) except when the trading fund agency requires loans to support major capital investments, for example, or perhaps to cover significant cash flow deficits. Putting agencies on a trading fund footing does not make sense when there is scope only for 'trading' with the Department itself. Trading funds may be appropriate when the MoD has other potential sources for the services provided by an agency, and when the MoD is not the only potential customer for an agency's services.[20]

6. In DARA's case, there are particular factors driving the move to give it trading fund status. We heard during our visit to St Athan, and in evidence subsequently, that DARA's future is being shaped by some important underlying trends. The demand for aviation repair services is falling, both in industry and in the MoD, which is increasing competition between suppliers of these services. In the MoD, the distinction between maintenance work that would once have been allocated between the various locations, or 'lines' of maintenance (paragraph 9), is likely to become blurred, as contractors increasingly offer a package of maintenance support services to keep equipment and aircraft serviceable. Such packages offer the MoD customer potentially attractive alternative sources for its repair requirements, again adding to the competitive opportunities. There is also, we were told, less need for the MoD to maintain in-house deep repair capabilities (such as those provided by St Athan) simply to provide reinforcement and surge capacity for military operations, although this requirement has not entirely disappeared. We now explore some of these trends in further detail.

REDUCING WORKLOADS

7. There is already significant over-capacity in the aviation repair and overhaul industry,[21] and there are a number of factors combining to reduce demand still further. As DARA's Chief Executive explained—

INCREASING COMPETITION

8. The private sector, as well as DARA, is seeking work to keep its capacity fully loaded. The MoD provided us with a list of the firms it has identified as its principal competitors, including eight firms in the aircraft repair sector, four engine repair firms and four avionics firms.[23] Mr Hill explained that for many pieces of equipment the original manufacturers have surplus capacity in their factories—BAE Systems for aircraft, for example, and RollsRoyce for engines—and all are competitors for DARA's aircraft business.[24] Rolls-Royce, we were told, "have problems ... filling their factories with work as the MoD work has declined, so they are as interested in our business as we are."[25] As far as avionics is concerned, there are at least 50 companies seeking additional work.[26]

CHANGING WORK PATTERNS

9. The MoD is involved in the overhaul and repair of aircraft avionics, engines, transmissions and other mechanical components, as well as the aircraft themselves. This work is undertaken at various locations, and usually depends on the depth of the work required. Day-to-day servicing is done within individual front-line squadrons, usually by the squadron's own engineers—this is the 'first line'. More involved but routine maintenance tasks are undertaken centrally within each operational unit or station—the 'second line'. Deep overhaul and repair work is undertaken at dedicated maintenance workshops within the MoD (the 'third line') or in industry (the 'fourth line'). DARA is now the MoD's sole third line aviation repair organisation. Its work is divided between four sites:

St Athan, near Cardiff	'On-aircraft' maintenance of fixed-wing airframes; 'off-aircraft' maintenance of engines (mostly for fixed-wing aircraft), and mechanical components
Fleetlands, in Hampshire	Rotary-wing airframes; engines (helicopter and naval)
Almondbank, near Perth	Transmissions; mechanical components
Sealand, near Chester	Avionics

49% of DARA's current work programme is on airframes, 22% on engines and 29% on avionics.[27]

10. Industry is increasingly marketing integrated logistic support packages in which firms undertake the required maintenance work at the levels (or 'lines') that best meet the package's requirements. This is something of a departure from the MoD's traditional maintenance or repair contracts which specify a particular programme of work to be done at specified locations (for example at industry's facilities—at the fourth line). The focus of industry's package approach is on minimising repair 'turnround times', and ensuring good supply chains to smooth the progress of the work. Our MoD witnesses told us that the MoD's smart procurement initiative was playing a role in the MoD's determination for it also to be able to reap the benefits of these new approaches now available—the MoD's Integrated Project Teams were "going to be putting more and more pressure on DARA, and on industry collectively, to deliver faster turnround times at lower cost."[28] The Deputy Chief of Defence Logistics elaborated—

REDUCTION IN THE STRATEGIC REQUIREMENT

11. The MoD has needed an in-house deep repair capability for two main reasons— economic and military. It can be an alternative to private sector suppliers, and it may provide a reinforcement and production 'surge' capacity in times of crisis. As DARA's Chief Executive put it—

DARA provides a competitive alternative to monopoly suppliers. We have a unique position in terms of access to intellectual property rights and we are able to exploit that to the full. We are a competitive alternative in the event of industrial dispute. We provide an impartial intelligent customer role [for project teams]. We can surge in times of tension and war, and we have a unique capability to take on work because of our size, the skills of the workforce and our capacity.[

12. The Deputy Chief of Defence Logistics, as the primary customer for any repair work, emphasised the importance of having choices—

The in-house capacity lying with DARA remains particularly important where the Agency is the only source available for some capabilities. On some transmission systems there is no alternative available in industry—the only alternative to the Chinook transmission system test facility at Almondbank, for example, is at Boeing's in Philadelphia.[32] Sometimes, we were told, DARA undertakes work that cannot be justified by a hardnosed business assessment, due to insufficient throughput, but nevertheless does so because "it is absolutely crucial to the frontline ... that somebody does that work."[33]

13. Clearly these considerations will continue to be important factors in supporting the need for an in-house capability. But in other respects the strategic imperative is diminishing. The Chief Executive set out the changes under way—

14. As a trading fund, the cost of DARA's strategic role will be subject to close scrutiny. It will have to pay cash (rather than notional accounting costs) for all services it currently receives from the MoD, including £3 million a year for security and guarding of the St Athan site alone. This is provided by servicemen, and is needed because the MoD has decided that servicemen are to be based there (the MoD, rather than DARA, set the standards and rules for this extra security). DARA receives a 'military premium', negotiated with the relevant commands, to cover the extra costs of having posts filled by servicemen rather than civilians. The extra cost, along with the premium to cover it, is likely to diminish over the next few years as the number of military posts in DARA falls (already down by nearly a thousand since the Agency was established in 1999).[35]

15. The longer term requirement for servicemen within DARA has yet to be decided.[36] Although diminishing, however, it seems that the Agency's strategic operational role is unlikely to disappear completely. It is in that context, the MoD assured us, that DARA's future status was as a trading fund rather than as a private company—

We note that phrase 'at this stage of our development'.

DARA's strategies for winning work

16. To help prepare itself for commercial operations, DARA has been conducting an 'Enterprise Transformation Programme'. This has involved conducting internal reviews to identify and eradicate duplications and unnecessary tasks, reforming pay and grading structures, and introducing new organisation-wide management information systems. This work provided the basis also for other initiatives, including establishing options for rationalising the work undertaken by the various sites and further developing 'package' based work with industry partners. We explore some of these developments below.

RATIONALISATIONS

17. When DARA was formed on 1 April 1999 it merged two agencies into one (paragraph 1). There had been duplication and under-utilisation of facilities in both, we were told, which DARA's rationalisation programme is intended to eliminate.[38] In benchmarking against industry and similar operations abroad, DARA told us that it was clear that it had too many people for the output it produced. From the start, DARA's management structure was based on functions, rather than sites, specifically to address this fundamental problem. Managing 'avionics' as an entity, for example, had highlighted duplication of capacity to undertake this sort of work, which had been spread over several sites. The aim of DARA's rationalisation programme, its Chief Executive told us, is to reduce its overheads and make it more competitive in an increasingly aggressive marketplace. [39]

18. Within the Agency, separate study groups have been looking at options for rationalising engines, components and airframes work, as well as pay, personnel management and recruitment functions which are currently conducted at more than one site. The principal potential rationalisations are shown in Figure 1. These include some internal reorganisation of avionics facilities at Sealand to occupy fewer buildings within that site. For mechanical components, St Athan work may move to Almondbank (the study looking at this is due to report in the very near future).[40] There is spare capacity at Almondbank, we were told, with people on 'waiting-time'. Two of the relocations involved have attracted particular controversy—the transfer of engine work from St Athan to Fleetlands in Hampshire (already decided and announced) which will concentrate all engine work at Fleetlands, and the possible transfer of fixed-wing airframe repair work to a new site (probably at Cardiff Airport). These are examined in more detail below.

19. After a period of rationalisation in the period before DARA's formation, the Agency's overall manpower—nearly 5,700—has remained generally stable.[41] There have been reductions (and some civilianisation of posts),[42] however, in the military personnel attached to the Agency, whose numbers have fallen from 1,806 two years ago to 824 now.[43] In the current round of proposed rationalisations, overall numbers at most DARA sites were not expected to change markedly.[44] The manpower implications of each of the options for providing new infrastructure for St Athan's Aircraft Business Unit (paragraph 24) were similar, but being able to bring the Unit's disparate elements together could (under all of the options) allow manpower numbers to be reduced from the current level of 1,857 to around 1,400.[45] The Chief Executive told us that any such reductions at St Athan would be through natural wastage.[46]