Select Committee on Public Accounts Minutes of Evidence

Examination of Witnesses (Questions 120 - 139)



Mr Osborne

  120. One of the problems of going towards the end of the session is that you have to pick the subjects people have not asked about. Can I turn your attention to paragraph 2.2 on page 21 of the report? It talks about the role of the pricing staff in your Department. It says they play a major role in the Department's examination of contractors' costing and financial management. However, it says that they found the pricing staff were only used on a third, although I accept it is 80 per cent by value. Why are they not used on the other two-thirds of contracts examined in this survey, given that the contracts examined are at the higher end in that they are over a million pounds?
  (Mr Tebbit) It depends on whether their particular expertise is needed to clarify areas of the prices that companies are coming up with that would not otherwise be clear to us. The precise operation of the Pricing Directorate is something which Mr Porter is in a better position to discuss than I am, but they are a pretty scarce resource because these are very specialised people indeed and we have to be selective in how we use them to make sure we are using them to the best effect.
  (Mr Porter) As you noted, the report does say that the third constituted 80 per cent by value. The reasons why we might not use the pricing staff on lower value programmes is that we might already have agreed charging rates for the particular company, leaving us to make an assessment of the time that was likely to be taken to apply that charging rate to. It may be that we had a jolly good basis from the previous contract to a pricing structure at the lower value end and if the contractor's quotation for the follow-on contract is reasonable when judged against what happened previously, then we would seek to negotiate around the quotation.

  121. They obviously do a good job according to paragraph 2.3 in that they save the taxpayer—I was trying to add up these figures—about a third of a billion pounds. Mr Tebbit said they were a scarce resource so it slightly concerned to me to discover that they were going to become an even scarcer resource because you are about to cut 20 per cent of them.
  (Mr Tebbit) That is where I say that I devolve responsibility to the budget holder. Sir Robert Walmsley is the budget holder. He has to make his own value-for-money judgement as to how much of his budget he uses for these people and how much not, so I am happy to hear him now in front of the Committee.
  (Sir Robert Walmsley) There are about 400 people who are pricing specialists of which about 60 are accountants and maybe something over 200 are costing engineers. There is quite a lot of administration that goes on there and the pricing staff used to be part of a free-standing agency. They have now become part of the Defence Procurement Agency. They no longer need their own personnel management, they do not need their own training staff, they do not need their own substantial finance staff, they do not need to write their own agency framework document, etc, etc. The first thing I believe is that there is not an organisation on this planet whose efficiency cannot be improved and there is a straightforward way of improving the efficiency of the pricing staff by not leaving them with their own separate free-standing headquarters, and that is a structural issue. The second point is that industry have a part to play in this. You can imagine that when the pricing staff go to their facility, with which they are extremely familiar, they are asking for data. If somebody puts all that data in front of you on your desk on Monday morning when you turn up and it is all written in columns and every figure is dead clear—and that is entirely an industry matter—then you do not have to spend time phoning them up and saying, "I do not understand this number" or, "Fill this one in". I am very keen indeed to improve the efficiency of the pricing process and by making industry more conscious of what we require, and in some way coupling their performance on that aspect, particularly in post-costing, to our satisfaction with their overall performance as a contractor. There are those two routes.

  122. The report does say, and it is agreed in paragraph 2.11, that "the extent to which the picture of Directorate of Pricing as a properly resourced outfit can be maintained may be questionable given that the demands on their expertise are likely to increase". Do you agree with that?
  (Sir Robert Walmsley) Of course it is questionable. I could not but agree with it because I approved the text of this report, so it is questionable. Do I think it is as serious as many other risks facing us to do with the concentration of the defence industry: how we link up with advanced technology, how we compress procurement timetables? I think these are all balances that we have to strike. I genuinely do think that we can improve the efficiency of the pricing activity and that we have a sensible plan therefore to make sure that it is adequately resourced.

  123. On the Sting Ray post-design services contract pricing staff were forced to re-prioritise resources. Presumably if you cut resources there will be more cases such as that.
  (Sir Robert Walmsley) I do not know that there will actually. The text goes on to blame me for that, which I have to sign up to, as you will probably have noticed. There were two factors there. The first one was that we have a reciprocal pricing agreement with the United States. When you are pricing something for the United States it is quite clear that it is a British contractor who is going to get the order and the United States will not place the order until it has been priced, and we have an agreement with them that we will do it within 45 days, so when they parachute a requirement into our world we have to get on with it. The second thing is that I as the Chief of Defence Procurement occasionally have new requirements where I say, "I am not happy with the detail of the pricing on this. I want you to do it again." I did that and of course the report quite properly says that they were doing other work for the Chief of Defence Procurement, and I thought it was more important.

  124. So you are absolutely confident that your reduction of 20 per cent in staff numbers is not going to impact on the effectiveness of this part of your Department?
  (Sir Robert Walmsley) I think you have led me into the water there. I think I went as far as the water and I said that it was reasonable to question it and I planned to manage it and said that we had a good outcome.

  125. You are absolutely confident?
  (Sir Robert Walmsley) No, I am not.

  126. You are not confident?
  (Sir Robert Walmsley) I am not guaranteeing, but we will manage it, and if it is wrong we will change it.

  127. As other members of the Committee have said, your candour is refreshing. In most of our hearings we face a brick wall. Could I turn to what you were saying about sub-contracting. I was surprised that you were surprised that a huge proportion of these projects were sub-contracted. This is on page 27. The Long Lead Merlin Spares, 89 per cent of the contract value were sub-contracts, yet only 25 per cent of those sub-contracts were completed; the Enabling Arrangements for the AS90 Spares, 95 per cent of the contract value was sub-contracted and yet only ten per cent of those sub-contracted by value were completed. Should you not be taking a lot closer look now at sub-contracting?
  (Sir Robert Walmsley) I think I should, and I do not mean to pander to this candour idea, but the fact is it is the one that caused—

  128. I have no problem with it.
  (Sir Robert Walmsley) The one that caught me by surprise, and there was only one that really did that, and I am just worried about my previous perception, was the one per cent on Sting Ray. I know Sting Ray torpedoes well. I knew the number would be low. I was surprised it was in fact that low. All the rest of them I think I could instinctively explain to you.

  129. Is one of the problems, as identified in 2.22 on the facing page, that "Of the NAPNOC contracts we surveyed, 37 per cent of those with sub-contracts did not have conditions in place which gave visibility of sub-contracting activity"?
  (Mr Tebbit) You are absolutely right. One of the recommendations of this report is that we should have visibility of how contractors manage sub-contracts. We need to build that into our partnering arrangements. We need to make sure it is clear in our codes of practice that this is what we expect our contractors to provide. There is a thing called DefCon 176A which is about whether the contractor makes or buys the various elements that it is going to bring together to deliver its side of the contract. There is also track record of past performance in managing sub-contracts that we would hope to build into our database in order to decide where we let the contracts in future. There is a lot of sub-contract data that we need to gather. It is a helpful recommendation here from the NAO. We were both a bit surprised and I suspect we need to keep working at this question of visibility of sub-contract information. As I say, once you get a prime contract, it is their responsibility to decide how they do it but we have a close interest in seeing how it is going.

  130. I was interested in what you said about the Americans effectively having a different culture on defence procurement in many ways. You also mentioned in another answer the Joint Strike Fighter. To what extent are we increasingly being bound into these essentially American procurement decisions so that all the good work which the NAO identified that you do on procurement becomes irrelevant because you are having to follow American procurement decisions?
  (Sir Robert Walmsley) The degree of purchasing from the United States goes up and down. We are essentially through the Trident programme now under which we have been purchasing an awful lot of hardware from the United States. That was done at the same price as the United States Government paid. That is the best deal that they were able to get. Their route to establishing their best price happens to be different from ours. Part of that is industrial pressure.

  131. And political pressure?
  (Sir Robert Walmsley) Perhaps. I know about the industry side. What the industry was saying was, "We simply do not believe that it is sensible when we are trying to develop articles at the cutting edge of technology to work to a fixed price in advance." We do not take that view. That is a huge difference between us.

  132. So on something like the Joint Strike Fighter, which presumably is the most important aviation procurement decision you have made recently, none of this applies because you have had in effect to go with the American decision?
  (Sir Robert Walmsley) What they have is a discipline called "cost as an independent variable" which sounds like jargon but what it is actually saying is that part of the requirement is what the plane costs, so they feed that in and in effect they are very prepared to trade capability against price so that if it starts to look as though the cost is going up, if they stick to their guns, then they will have to reduce the capability of the aircraft.

  133. But on something like the Joint Strike Fighter—
  (Mr Tebbit) But JSF was a competitive contract and that has been won by competition.

  134. Yes, but the competition was organised under a different kind of culture than the British programme.
  (Mr Tebbit) That is true.

  135. We were buying a much smaller proportion of the aircraft than the entire United States military. Do we in effect have any real say on the capabilities of the aircraft?
  (Sir Robert Walmsley) Oh yes, we did. One of the first things we said, before the Strategic Defence Review decision that we would procure new carriers, was, "Whatever else this aircraft does it has got to go down in the lifts in the existing Invincible class carriers", because clearly there would be no point in buying it if it did not. That was a huge design constraint on the dimensions of the aircraft. It was dead simple and everybody understood it. We were very privileged to be an integral part of the requirements development team in the United States and we have some really good people embedded into the joint project. And so of course we do not crack the whip over the programme, but where our key interests are, in laying down our requirements very firmly, we have been successful there. Where we have not been successful is in the form of the contract which they choose to use and that is beyond me.
  (Mr Tebbit) And I think it would be misleading to leave you with the impression that because of cost-plus approaches in the States it means that when we buy stuff from the United States we are paying more than we should because of course there are other factors that come into play, like economy of scale. If we are buying 300 aircraft from 3,000 it clearly changes the cost and value.
  (Sir Robert Walmsley) But if it is an independent procurement we do get a fixed price and the American contractors give it to us.

  136. Can I in the time remaining time turn to questions that my colleague Nick Gibb asked about: whether you thought there was going to be an increase or a decrease in the amount of non-competitive procurement. Indeed, the report—and this is not a criticism of you; it is a criticism of the report—is slightly contradictory on this in that paragraph 1.6 says: ". . . the increasing use of commercial off-the-shelf procurement, particularly for information technology, should allow the Department rather more scope to use competition", and then paragraph 2.11 says, ". . . the increased likelihood of non-competitive procurement [is] as a result of industrial consolidation, for example, in the missile industry", so there are conflicting pressures. I wonder if, as part of procurement policy or maybe as part of broader Ministry of Defence policy, there is a desire to encourage as many suppliers as possible in the defence industry that you can draw on. Do you in any way resist consolidation by, for example, encouraging the smaller firms by giving them contracts and so on?
  (Mr Tebbit) This issue of whether we should have an industrial policy over and above competition and value for money is always a very tricky one indeed. There is certainly a dialogue that goes on very actively with small and medium sized companies within the defence industry to ensure that they still get a fair crack of the whip even under prime contracting arrangements that go to very powerful main companies, and we do look after that and take care of that. It is certainly the case as well that where we can, that is to say, where we can influence the issue and it is not too expensive for us in the overall calculations we can make, we try to preserve competition for the future so that we are not in the state of only being able to get it from one supplier. We do what we can to sustain competition. It is in our interests to do so but it is increasingly hard to do it purely on a national basis, and increasingly we are looking at big international mergers and developments. It is a global game now, not a UK-only one.

Mr Williams

  137. Sir Robert, I was very impressed by the story of the inseparability of the seaman and his paintbrush. At the risk of getting anecdotal, I told this to your predecessor but Sir John is the only one here who will have been here long enough ever to have heard it before. In my days as a junior officer in the Royal Air Force one of my supernumary duties was to hold a couple of inventories. One of these inventories consisted of the contents of several of the airmen's billets. Quarterly or half yearly—I cannot remember which—you had to do an inventory check and I got an insight into how equipment is controlled and managed within the RAF. For example, at either end of the billet you had these metal mini-furnaces with pokers metal as they were described, one at each end. When I discovered to my great grief that one was missing in one billet my first step was to talk to the sergeant and the sergeant said, "Hold on. I will go and look at my store". He comes back and says, "No, I have not got a poker metal, but do not worry; I will get the corporal". He gets the corporal who is then despatched with the one good poker metal and instructed to find a metal saw. He then comes back and saws it in two—I promise you this is absolutely true—and one half is taken one day to the equipment officer to claim a new poker and the other half is taken on another day to get a new poker, so I now have two pokers and there is still a third poker circulating somewhere on the camp. As you can see, the RAF is gradually building up a considerable surplus and I thought this was unique to us, but an army sergeant in the engineers who was a friend of the family told me that they were closing down a mill in South Cumbria or a tower in West Wales (I have forgotten which of the two it was) and he and a small group of men were left behind at the end of the closing down operation and their job was to go to the sand dunes and bury the surpluses because surpluses were even more difficult to explain than deficiencies. At some time in 500 years' time no doubt archaeologists will discover these mysterious remains in the sand dunes. However, I have no doubt paintbrushes are treated with greater sanctity nowadays.
  (Mr Tebbit) It is unfair of you to put that to Sir Robert Walmsley because I think you are talking about the performance of our logistics supply chain. All I would say there is that we have set ourselves a target from the Strategic Defence Review to reduce the costs of our logistics operation in output terms by 20 per cent by 2005. We have already taken out of the inventory two billion pounds worth of stock since the Strategic Defence Review in 1998 and we are putting in place much better management systems to have visibility of everything in our support and supply systems. We are on the case and it is getting better.

  138. I am relieved. What about the pokers metal? Have you sorted that out?
  (Mr Tebbit) I think a lot of pokers metal will have been in that two billion.

  139. Until you can tell me you have sorted it out I will not be assuaged. Coming to the report, I was very impressed, listening to `Should Cost' and post-cost and reality checks, and I looked at box one on page 16, Profit Formula. There I discover in the first two lines that the profit formula is based on the comparability principle related to the average of return earned by the United Kingdom industry. We have a clear basis on which you compare the profitability of the contract you enter into. Unfortunately there is then a little footnote 1, which says: "Industry is defined as the reference group used for assessing comparability with non-competitive work let by the Government. Originally the yardstick was the overall earnings of British manufacturing industry." But then later on they change this because there were changes in manufacturing industry, and so now, since 1998, all sectors of industry and commerce are used for the comparator, "except for banking, insurance, investment trusts, mining, oil, gas, water, power, rubber and tea and companies controlled by overseas parent companies", and of course the Eurotunnel is excluded. Well, I am glad about that last one, but at least now we have a precise definition of the comparator. I ask you: what on earth does that really mean? Can you assure me that it is regularly updated and it has an appropriate flexibility to allow you to change the profitability of whatever is left of British industry and commerce to be included in the comparator?
  (Mr Tebbit) Mr Williams, this is very much the work that Mr Porter is engaged in and I wonder if he might explain.

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