Select Committee on Defence Third Report


12  COSTS AND RECOVERY

Net Additional Costs

328. First Reflections[486] states that 'under longstanding Government arrangements, operational expenditure is met from the Reserve on the basis of net additional costs (in other words, excluding costs that would have been incurred anyway such as Service salaries)'. MoD's Finance Director, Mr Trevor Woolley, set out the basis for calculating net additional costs:

    The costs that are included are the additional costs of, for example, pay; the allowances of servicemen who are deployed that would not otherwise have been incurred had the operation not taken place; the cost of the salaries of mobilised reservists that would not otherwise have been incurred; the cost of movements, air and sea charter; the costs of stock consumed—ammunition, fuel, clothing, food—that would not otherwise have been incurred. We also take into account certain non-cash costs, such as the depreciation of equipment, for example of urgent operational requirements that have been procured for the operation. The depreciation of those capital items would be included in the overall net additional costs. We net off against that any savings that we identify of activities or consumption that did not take place as a result of the operation—although that is a relatively small figure. In terms of compensation claims, yes, we would seek to capture any such costs and claim for those as part of the additional cost of the operation.[487]

329. Mr Woolley told us that both the principle and the practice for identifying net additional costs were 'straightforward'.[488] The NAO reported that 'the Department issued guidance on capturing the costs of the Operation to its top level budget holders in December 2002. There were marked differences between top-level budget holders' interpretations of what should be included, or what costs should be deducted, to arrive at the net additional costs of the Operation'.[489] Mr Woolley said that he was 'slightly surprised by that statement…. [and] did not feel that there was any ambiguity or any room for differences of interpretation'.[490] MoD subsequently told us that, in its view, the statement reflected the different circumstances of the top-level budget holders, not any ambiguity in the guidance as to what constituted a net additional cost.[491]

330. We asked whether MoD had any plans to make an assessment of the full cost of Operation Telic, Mr Woolley told us that MoD's view was that 'attempting to calculate the notional full cost of the operation would not actually provide any very useful information …. It would be attributing costs that the defence budget would in any case have incurred and simply attributing them to an operation.'[492]

Resource Accounting and Budgeting

331. First Reflections notes that 'this was the first major operation to be costed under full Resource Accounting and Budgeting (RAB) principles, which created some additional challenges for finance staff.'[493] Mr Woolley outlined the 'additional complications…. additional considerations…. to take into account in resource accounting and budgeting'.[494] He said that in terms of improvements and lessons it is 'principally a case of ensuring that our finance staff are properly trained…. and the need to ensure that all operational costs are properly identified.'[495]

332. We asked whether RAB had led to MoD running down its stocks to reduce the cost of capital charge. Mr Woolley told us that:

    I fully accept your point that the cost of capital charge that is applied to all assets, including stocks, is intended to give visibility to the notional cost of holding assets in the form of stock rather than in the form of cash, and therefore the notional interest that you might be able to earn on that cash if it was in the form of cash rather than the form of stock. So, yes, it is indeed there to identify the cost of holding stock. Having said that, I am not aware that that in itself has significantly affected decisions about levels of stock­holding.[496]

333. Resource Accounting and Budgeting (RAB) is a complex financial process and MoD needs to ensure that its staff are appropriately trained in its application. We remain concerned that the application of RAB may, perhaps through a misinterpretation of its aim, have led to stock holdings being reduced too far. We recommend that MoD undertakes a review which assesses whether RAB is leading to poor decision making, in particular in relation to stock level holdings.

Cost of the operation

334. Lessons for the Future[497] provides a breakdown of the cost of the conflict for 2002-03 (actual costs) and 2003-04 (estimated costs). These are shown at Table 4.

Table 4 Cost of the Operation 2002-03 and 2003-04

  
2002-03
2003-04
  
£ million
£ million
Service and civilian manpower costs
34.6
195.1
Accommodation (includes IT and communications)
83.6
77.2
Defence equipment, plant machinery and vehicles
160.6
167.5
Air and sea charter
89.6
108.9
Stock consumption
170.2
243.2
Depreciation and write-off of fixed assets
73.9
83.1
UORs and other capital items
217.7
219.9
Other costs (Op Welfare, currency gains / losses)
17.0
92.7
Total
847.2
1,187.6

Source: Ministry of Defence, Operations in Iraq: Lessons for the Future (December 2003), page 71

335. Lessons for the Future states that:

    Our latest estimates suggest that the cost of equipping and deploying our forces to the Gulf up to the point of starting active operations was close to £700 million. The costs of the actual conflict include the large quantity of equipment (including guided weapons, munitions and bombs) and a huge range of other stores deployed to the Gulf.[498]

    The cost of the conflict (including combat operations up to 31 March 2003) was £847.2 million (this includes the £700 million above for equipping and deploying our forces). It will take time fully to assess the costs of stock consumption, and of damage and losses to equipment. However, initial estimates suggest that the cost of recuperation may be in the region of £650 million; this figure will be subject to revision as the inspection and maintenance programme continues. For Financial Year 2003-04 MoD intends to seek a further £1.2 billion in the Winter Supplementary Estimates to cover the likely costs of the operation. This will cover, primarily, the cost of post-conflict operations and associated UORs. It does not include the cost of recuperation of MoD's operational capability mentioned above.[499]

336. We asked Mr Woolley whether the cost estimate for 2003-04 had changed since December 2003. He told us that 'the figure that we are likely to be asking for in the spring supplementary estimates is a total cost of the order of £1.5 billion for this financial year… an increase of around £300 million from that which we had sought and had voted in the winter supplementary estimate'.[500] He explained:

    the main reason for that increase is, partly, we have included some estimate of the costs of recuperation that we will be incurring this year which had not previously been included in the figures, and we have also included some provision for the non-cash costs of the depreciation of the urgent operational requirements which we procured for the operation and which had not been included in the previous figures'.[501]

In terms of certainty, Mr Woolley told us that 'we do not really get certainty… until our accounts are audited by the National Audit Office… a definitive figure will not be available until our resource account in published in around August [2004].[502]

337. The Spring Supplementary Estimates 2003-04 presented to the House of Commons on 23 February 2004, requested an additional £309 million (£231 million Resource and £78 million Capital) in MoD's Departmental Expenditure Limit to reflect the costs of peacekeeping in Iraq.[503]

338. We asked Mr Woolley why it was taking so long to assess the costs of stock consumed and equipment lost or damaged during the conflict phase. He told us that:

    One of the reasons is that when, for example, ammunition is returned from the theatre to this country, it is often not clear whether or not it is still usable or whether it may have been damaged in some way…. A second reason is that when we are looking at capital assets we have to consider the extent to which the life of the asset, and therefore the amount of depreciation, may have changed as a result of damage in the conflict, which is also not entirely straightforward. I think that it is also fair to say that those engaged in theatre, unsurprisingly, do not regard it as their highest priority to make these assessments…. The costs of recuperation are then slightly different in any case, because the issues there are not so much about the impact on the value of the assets: it is about the cost of repairing assets and the extent to which we decide to replace assets. These often give rise to different procurement decisions in different cases. So it is quite a complex judgement, quite a complex calculation; but I would accept that we are not as far advanced as we might be in bringing this to a conclusion.[504]

339. It will be some time before the costs of the operation in 2003-04 are known—perhaps not until late summer 2004 when they are published in MoD's Annual Report and Accounts. MoD acknowledges that it has taken longer than expected to assess the costs of stock consumed and equipment lost or damaged during the conflict phase. We expect MoD to ensure this work is advanced as quickly as possible and for the outcome to be reported to Parliament as soon as it is completed.

340. In terms of recovering costs from other nations, Mr Woolley told us that 'there are longstanding arrangements by which, where we buy or sell fuel between countries that are on operations, this is reimbursed'.[505] We asked about the arrangements for recovering the cost of fuel provided to the United States by the UK air tanker fleet. Mr Flaherty told us that 'in Cyprus we had a fixed amount of fuel that was there and we know exactly how much the US used. We have spoken to them and have an agreement with them that they need to give us that money back.'[506] We expect MoD to recover these costs as soon as possible.

Funding of the Operation

341. Consultations between MoD and the Treasury on the resource requirements of the operation started early in the planning process and have continued on a regular basis. The Chancellor announced in his pre-Budget Report to Parliament in November 2002 a '£1 billion special reserve in 2002-03 to ensure that resources are available to meet overseas and defence needs in the fight against global terrorism.' In March 2003 the Chancellor increased this figure to £3 billion, to take account of the military campaign and the need for immediate humanitarian assistance to the Iraqi people.'[507] We asked MoD whether there was any conflict between the Treasury and MoD about the costs of the operation. Mr Woolley told us that 'the principle—which…. the Treasury is fully subscribed to—is that if a cost is incurred as a consequence of the operation…. then it is a cost of the operation that is reasonably charged to the reserve.'[508] We discuss relations between MoD and the Treasury in respect of UORs at paragraphs 171-7.

EQUIPMENT RECOVERY

342. Lessons for the Future reports that:

343. MoD estimated that the cost of recuperation may be in the region of £650 million (paragraphs 335-6). Some equipment has already been replaced. For example, the stocks of some guided weapons have been replaced through the use of UORs.[510] In respect of the items of major equipment that were lost in the operation, MoD told us:

    the Sea King helicopters will be replaced, in the sense that Sea King airframes that we already have will be equipped with the Searchwater radar to perform the role that the lost Sea Kings undertook… we are not planning to replace the Challenger 2 tank that was lost… or an additional Tornado to replace the Tornado that was lost. We will be planning at some stage to have additional UAVs to replace the Phoenix that were lost, but they will not be Phoenix. We have not yet made a decision on the precise equipment.[511]

344. We expect MoD to replace the equipment, and the stores and supplies, necessary to restore the operational capabilities consumed or lost during Operation Telic as soon as possible, to ensure that Armed Forces personnel can undertake their roles effectively.


486   Ministry of Defence, Operations in Iraq-First Reflections (July 2003), p 37. Back

487   Q 1851 Back

488   Qq 1853-4 Back

489   National Audit Office, Ministry of Defence: Operation TELIC-United Kingdom Operations in Iraq (HC 60 Session 2003-04: 11 December 2003), para 6.8. Back

490   Q 1861 Back

491   Ev 430 Back

492   Q 1856 Back

493   Ministry of Defence, Operations in Iraq-First Reflections (July 2003), p 37. Back

494   Q 1891 Back

495   Q 1891 Back

496   Q 1897 Back

497   Ministry of Defence, Operations in Iraq-Lessons for the Future (December 2003), p 71. Back

498   Ministry of Defence, Operations in Iraq-Lessons for the Future (December 2003), para 12.7. Back

499   Ministry of Defence, Operations in Iraq-Lessons for the Future (December 2003), para 12.8. Back

500   Q 1857 Back

501   Q 1857 Back

502   Q 1859 Back

503   HC (2003-04) 330 Back

504   Q 1870 Back

505   Q 1888 Back

506   Q 1890 Back

507   Ministry of Defence, Operations in Iraq-Lessons for the Future (December 2003), para 12.6. Back

508   Q 1852 Back

509   Ministry of Defence, Operations in Iraq-Lessons for the Future (December 2003), para 12.3. Back

510   Q 1872 Back

511   Q 1880 Back


 
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