Examination of Witness (Questions 120-139)
12 MAY 2004
SIR PETER
SPENCER
Q120 Chairman: I think the reason we
are querying it, Sir Peter, is that Kevin Tebbit spoke to us this
morning and the impression I had, and I shall have to read the
transcript, was that his prime concern was securing the best equipment
for the armed forces and what the wider factors were seemed to
be of secondary importance. I was more encouraged by your response
where you have factored in things other than price, etc. I am
not asking you a question on Hawk, merely making a statement.
The irony is that, according to Sir Richard, the evidence over
the Hawk decision was quite the reverse where it appeared that
the Government took into account other factors and you did not.
I am not asking for a response on that, merely giving you my résumé
of what I feel the possible differences are. I am sure by tomorrow
morning those differences will turn out not to have been differences
and I have made a misjudgment of what Sir Kevin said.
Sir Peter Spencer: I know that
his position and mine were identical and I saw what he took into
account. In terms of the time in which he had to do the recall,
I know that he factored those things in as well. If I take this
away from Hawk and make a fundamental point. If the Ministry of
Defence is going to be making this broad a judgment on value for
money and it requires additional resource to go for one particular
route than the other for benefits such as wider regional employment—this
is not Hawk—where does that resource come from?
Q121 Chairman: I would be the last person
to argue that duff equipment should go to the British Armed Forces
because the Government is obsessed with the creation of jobs,
but in many ways the decision that the MoD would make, and you
would make, has wider implications that would fall within the
scope of other Government departments. If you make, in your view,
a rational decision, "this is the best and probably the cheapest
bid, therefore we are attracted by it and will recommend acceptance
of it", if it means that other Government departments are
going to have to pay a higher price as a result of your decision
then that is not strictly joined-up government. I can assure you,
it is not a question of saying take party political decisions
which are not your responsibility, but merely to say that the
defence industrial base has important implications and if decisions
are made that may not advantage our British defence industrial
base then there is a downside to any decision. We merely recognise
that the decision making process is immensely complicated and
we are trying to work out the factors that are taken into account.
Sir Peter Spencer: That is really
the point I am trying to make. It is not possible to reduce it
to a single pass/fail criterion but there are value judgments.
Chairman: We agree with that. We have
taken a vote and made heavy weather of that as far as I am concerned
but things will be crystal clear now James Cran will ask the questions.
Q122 Mr Cran: Certainly simpler questions
than Mike Gapes asked but still on Defence Industrial Policy.
As he made clear, on 5 May we did meet the Defence Industries
Council and it is worth a read when this stuff comes out, if you
have not already seen it. The Vice-Chairman of Thales-UK made
it clear that there is a better dialogue between Government and
industry now which is clearly desirable, but—there is always
a but—he did go on to say this: "but there is still
some way to go in one particular area which is clarity about which
kinds of industrial capabilities and ... technologies are judged
to be of crucial strategic importance in the long-term".
That begs the question, what sort of Defence Industrial Policy
do we want? In the normal course of events I would never ask you
that sort of question, I would say it has to be left to the marketplace,
but you are the dominant purchaser and, therefore, you ought to
have a view.
Sir Peter Spencer: Yes, we do
have a view. One of the things which we are looking at over the
longer term is the size and shape of our programme, what our requirements
are going to be and where we believe that we need to have industry
in place in order to be able to deliver it. Under those circumstances,
I think the Defence Industries Council is right and it is recognised,
and, indeed, promoted within the Ministry of Defence by Lord Bach
that we need to take the Defence Industrial Policy as a starting
point and deliver it into strands for strategies for key sectors
of the market. As I mentioned earlier, there will be a meeting
with the NIDC next week when the way in which we are going to
approach this will be explained to Industry. We recognise that
there is a need to do that sector by sector. As I also mentioned
earlier, at a lower level but within the DPA I am concerned about
understanding the nature of bits of the industrial sector upon
which we are crucially dependent. The nuclear sector is very important
in terms of supporting the submarine building programme for a
nuclear steam raising plant. The surface shipbuilding sector is
very important in terms of ensuring that we have actually got
the capacity, the skills and the capabilities to deliver the very
large programme which is planned for surface shipbuilding, but
we have got a bit of a gap in the meantime, which is a worry,
and the work is wholly aimed at how we keep those key skills in
place and reassure the companies concerned that we are looking
at this intelligently. That is one of the reasons why I re-clustered
the projects in the way that I did at Abbey Wood, so that we had
projects working closely together within the same technical areas
and, therefore, largely in the same industrial areas so that we
have a more cogent approach to the totality of our business rather
than exepecting individual project leaders in a rather stovepipe
way to bid into a market which, as you say, is dominated by us
anyway and we have a responsibility to industry, as well as to
the taxpayer, to make the most efficient use of those industrial
assets. You could apply the same argument in a number of other
areas.
Q123 Mr Cran: Therefore, it would be
correct of me to conclude from what you have just said that you—"you"
meaning the whole of the defence establishment as it were—do
have a view on the sort of defence industrial structure this country
will require in the future?
Sir Peter Spencer: We have a view—
Q124 Mr Cran: That is what you said.
Sir Peter Spencer: Yes. There
are some things where we know what our future programme is planned
to be in terms of building submarines and surface ships, we know
what the declared policy is for building those assets and, therefore,
we know we need those bits of the industrial base and we need
to find ways of making sure that they survive and flourish. In
other areas, we are going to be working through a process which
takes each of the factors which were mentioned earlier in terms
of individual project decisions, in terms of value for money,
and take a look at how we then determine the crucial nature of
the other bits of the industry as to whether or not we necessarily
need to ensure that we keep them in being or whether or not we
take a more free market approach. That is going to be important
work which will be done in consultation with industry because
it needs to be fed by a proper understanding of the detail.
Q125 Mr Cran: In terms of the sort of
industrial capabilities that we are going to require in this country,
you mentioned nuclear in the answer you gave to my first question,
could you give the Committee any ideas of other areas that you
and/or the Government consider comes into that category; industrial
capabilities we need to keep in this country?
Sir Peter Spencer: I think it
is difficult at the moment to make a declaration, simply because
we are still in the process of giving advice to ministers so they
can make those judgments. We can all think of areas where we currently
have industry and where the instinctive reaction is to say, "We
need to keep it in being", in perpetuity perhaps, but we
have to test those against some criteria. The first is, are they
absolutely critical to national security. The answer for nuclear
is self-evidently, yes, because it supports the deterrent which
the Government believes is fundamentally the backstop for national
security. Secondly, is it imperative for defence capability, in
other words are we going to need to have these skills in the longer
term to support the front line, in other words are we going to
need to upgrade them through life and respond to urgent operational
requirements during operations. Then there are the wider technical
benefits for the nation, do we need these skills for wealth creation,
and then there will be area employment issues. The judgment ministers
will wish to make is how they are going to weight those factors,
bearing in mind that the message which the Secretary of State
gave in his White Paper was that the way in which defence operations
and our capabilities are shifting in the future there is going
to tend to be less investment in platforms because as we fight
with better command and control information, knowledge, in a network
enabled sense, we need fewer platforms, we also need fewer platforms
because we have more precise methods of delivering weapons. It
is easy to say you are going to have that shift in investment
in terms of what you need in terms of capability, but we have
to manage the consequences of that, and we have to manage the
consequences of that ensuring we have an affordable programme
in terms of being able to do it. So there are some difficult questions
which are being asked at the moment and are being addressed, which
is why it is absolutely necessary for us to talk fairly closely
with industry to share with them our understanding of the position
they find themselves in, to find strategies for coping with the
future which may be a bit different from what they might have
imagined up until now.
Q126 Mr Cran: I entirely respect you
cannot tell us in detail at the minute, and that is fine. Any
timescale to this consideration which is being given in Government
at the moment?
Sir Peter Spencer: It is for ministers
to judge how soon they want to make decisions, but from my perspective
I would like to get on with it. One of the things which is absolutely
necessary for us is if, for example, with a particular industry
we decide that we want to ensure it survives in the UK in one
form or another, that may or may not be an argument for a non-competitive
strategy. It may be an argument for a competitive strategy where
we declare right at the beginning that industrial participation
in high quality work, ie both design and production, will be a
discriminating factor in the competition. So it means we can then
intelligently run those sort of procurement processes with the
right degree of consultation with other government departments,
particularly the DTI and the Cabinet Office and the Treasury.
Q127 Mr Cran: Do you think it is important,
and do those whom you speak to think it is important, that the
UK should have a defence company that can take on the role of,
I think it is called, prime contractor for these major projects?
That is an interesting question against the background of the
speculation we saw in the press quite recently about the Carrier
programme, where one particular company was saying that it thought
it was the prime contractor but it had the role taken away from
it.
Sir Peter Spencer: Which question
would you like me to answer?
Q128 Mr Cran: Both. Do you think we need
a prime contractor company for major projects or not?
Sir Peter Spencer: I do not think
the case is made for having a single company to be the prime contractor
for every major programme that we run, because we would then not
be complying with the bedrock of Defence Industrial Policy which
is competition. But the level at which we compete and how we compete
needs to be done on a case by case basis. So to sign away on day
one that all business will go to a national champion, prime contractor
for all complex systems, is not something which is a compelling
case. That does not mean to say we would rule out the companies
which are capable of being prime contractors, and there are more
than one. As far as the Carrier is concerned—
Q129 Mr Cran: You do not need to answer
that, it is coming up later and I would not want to steal the
questions on that. What you are saying to me very clearly is you
would ask the question on a case by case basis but you can see
prospects where a prime contractor role would be useful?
Sir Peter Spencer: It rather depends
on the form of contract that you are engaged in and how you define
prime contractorship, but there are many cases in which the traditional
prime contractorship will work extremely well, and in other cases
where there are ways of doing the business which are variations
which are tailored to meet rather different circumstances which
we found difficult to cope with in the past.
Q130 Mr Havard: On the Defence Industrial
Policy, this is a set of questions about budgetary processes and
how they impinge both currently and in the future on that. The
Chairman of BAE Systems was giving evidence the other day and
he made a series of statements, one of which was questioning whether
there was sufficient money to sustain the current commitments.
Essentially he was questioning whether or not there would have
to be a down-sizing of capabilities in order to match affordability,
and both of these things were essentially coming from the fact
that the budgets were not of sufficient size and commitment to
achieve that. If we could separate them out slightly because they
are slightly different. In terms of down-sizing capabilities in
order to meet affordability, because the budgets are constrained
in a particular way, that is a concern. Do you share any of that
or do you have observations on that?
Sir Peter Spencer: As Chief Executive
of the Defence Procurement Agency I respond to the needs of the
fundholding customer. He tells me what his priorities are, asks
me for an initial estimate of what I think the resource is he
is going to need to deliver it, we then engage in a series of
studies to iterate until we home in on a range of options for
how we can spend his money. One of the most important things which
is right at the centre of my thinking, and I have emphasised endlessly
to my people, is that we have to deliver on time and on cost otherwise
we become part of the problem as opposed to part of the solution.
The mission of the Defence Procurement Agency is to equip the
Armed Forces. Do we achieve it? Answer, yes eventually. Time is
money. What we do need to do is make sure we equip the Armed Forces
on time because on time is on cost as a generality. In terms of
whether or not there is enough money to deliver the capabilities,
that is formally the responsibility of General Fulton who will
be appearing on the 25th. It really is core in terms of how he
judges his ability to fund the capabilities which are needed to
be consistent with the declared Defence Planning Assumptions.
Q131 Mr Havard: On the second part of
it, which is the business about having the budgets to deal with
what has already been committed to, as it were, the industry seems
to have some concerns about that aspect currently. Are they right
to have concerns in that area?
Sir Peter Spencer: Industry has
an agenda clearly. It would like us to spend more money on industry
and ministers form a judgment with their Government colleagues
as to how much resource they need to fund the defence outputs
which have been agreed and I am not in a position to make a personal
comment on that. All I would say is that I think industry is in
agreement, certainly all of the senior chief executives and chairmen
in industry that I have spoken to are in agreement, and there
have been a lot over the last year, that we need to work better
together to make better use of the money that we are being given
already, we are in this together. I do not point the finger at
industry. We are chained together at the ankles really on this
and we must be jointly accountable.
Q132 Mr Havard: Maybe you share my interesting
observation which is all of these questions come at a time of
expansion and that is very interesting in terms of the money that
is available. I wonder what they would be saying in other circumstances.
I have one other area of questions which are slightly technical
questions in some respects as to what the effects are of the resource
accounting and budgeting processes that have come in and how that
is constraining or affecting your ability to meet equipment projects.
What are your observations about the deployment of that as a process?
Sir Peter Spencer: The fact that
under resource accounting and budgeting, I am charged interest
on assets in the course of construction—
Q133 Mr Havard: You made the point about
putting things in as a key indicator earlier in the new process
that is coming up.
Sir Peter Spencer: The fact that
I am charged interest on assets in the course of construction
is an incentive for me to deliver on time because if I have budgeted
for the interest on capital expenditure over a certain period
and we run on over time I then have to find that money, or rather
I have to go back to the military customer and say "I am
afraid we are going to have to try to find headroom to fund this
cost overrun". In itself, it is a good discipline because
it confers on the people doing the procurement in the public sector
the same disciplines that the people face in the private sector.
It was not so very long ago that quite senior people in the Ministry
of Defence would simply not agree the proposition that time is
money because it was not their money, so we had this disconnect
with industry. Now we actually face the problem from a very similar
perspective.
Q134 Mr Havard: We have read lots of
stories, and you will have seen them, that there are savings activities
having to be undertaken, partly being driven by the discipline
of resource accounting and budgeting or maybe insufficient budgeting,
in order to achieve commitments already given. Do you have observations
to make about whether it is the process or not?
Sir Peter Spencer: I think from
the perspective of what we do in procurement, I detect there is
not a downside in it other than the fact that when the results
are published in terms of our cost overrun, for example, it will
include the additional cost of capital. For example, last year
when the date of Typhoon's beneficial use to the Royal Air Force
was redefined and, therefore, it stayed on my books for a considerably
longer period, there was a £1 billion[5]
hit in terms of how bad it looked which was actually the additional
time I paid this notional interest, which was also a corresponding
saving to Strike Command because they would not be paying any
interest on it, so it kind of made the headlines more garish than
usual. I would not be human if I did not say that there was a
slight downside to that because some 40 per cent of the cost overruns
declared as the bottom line in MPR 2003 were those interests on
capital charges. It makes it look worse than it actually is to
the person in the street who is used to thinking more in cash
terms. So far as the way it operates inside the Ministry of Defence,
we have got the systems in place and we now use those systems
to make the sort of strategic judgments about what we need to
do that you might expect. I mentioned earlier the business of
the rate of delivery of assets in the course of construction.
You could not preside over an organisation where year-on-year
the value of your assets went up by a billion, say, because you
would simply demonstrate the inefficiencies of what is going on.
It is a very powerful indicator that something is not right in
the organisation and leads you in the right direction that you
have to roll your sleeves up and do something practical about
it.
Q135 Mr Havard: Sir Richard effectively
was saying that given the budgetary processes around commitments
and all the rest of it, in terms of modern business the MoD would
be as close as having to go to the liquidators because of the
way the processes were run but you are taking a bit of the invective
out of that. Are you saying to me that in terms of the processes
you have put in place, and you answered my colleague's questions
earlier on about how effectively you are putting in management
processes, providing sources of clarity about particular projects
for your purposes but also for the purposes of industry, you are
putting these disciplines in place along with new budgetary disciplines,
is it really the case that industry does not really understand
the process that is now being applied in perhaps the way that
they should and, therefore, make the statements that they make
because they see the wrong question? It is more to do with their
ability to respond rather than yours. What is being said about
that because they hold these perceptions very, very strongly?
They come from somewhere, so whose is it?
Sir Peter Spencer: I answered
the question from the point of view of capital expenditure inside
the Defence Procurement Agency. There has been a broader discussion
between the Ministry of Defence and the Treasury, which may have
been touched on this morning, as to the way in which we address
overall within Defence our understanding of the resources which
have been made available and the flexibilities which are available
in terms of using those resources. It is really for other people
to explain where that discussion has got to. Some speculation
was apparent in the press and people pick up on that, but from
my perspective there is nothing in RAB that has affected the way
in which I run the Defence Procurement Agency that has been a
cause of anything other than trying to help industry because it
focuses our minds on getting on with the job.
Q136 Mr Havard: One aspect of this is
the phasing of particular projects which you have made reference
to. Do you think that might be part of the engine that drives
these perceptions, that things might be altered in terms of the
phasing and the way in which they are done and that causes the
perception?
Sir Peter Spencer: I am sympathetic
to the concerns of industry when they hope that we will proceed
with a given programme by a given date and, despite best endeavours
all round, we do not get to that point. I have also been very
sympathetic to the proposition that there are occasions when,
even allowing for allowance to be made for the complexity of our
programmes, the decision making in the competition does too often
take longer than we believed that it would and we need to find
a way of being much more efficient at bringing those processes
to an end so that people do not have to live with the uncertainty,
because it is the uncertainty which is a major concern. All of
that feeds speculation as to what the causes of delay might be.
Q137 Rachel Squire: Sir Peter, can I
come back to some of the responses you were giving earlier to
Mr Cran about the kind of defence industrial capabilities that
it is important for the UK to retain for strategic reasons. I
want to come on to ask you about our links with the United States
because it is seen by many in the UK defence industry as the main
threat to the technological base in the UK because of the ability
of the USA to invest huge amounts of money in research and technology.
We are all aware that a number of American companies are currently
looking at takeovers of UK defence companies. So can I ask you
how concerned you are with frankly the scenario put to us last
week that "the UK is simply going to become the American
metal basher".
Sir Peter Spencer: I do not think
that is likely to happen.
Q138 Rachel Squire: Would you like to
comment any more on the relationship between the UK and US defence
industries?
Sir Peter Spencer: I would say
there are a lot of companies in this country who sell a lot of
high-tech equipment into the United States, particularly the second-tier
niche suppliers. It is a much tougher question, as you know, selling
the primary platforms into the United States, so one has to draw
a clear distinction between which part of the industry we are
talking about. There are numerous examples of technology which
has been pioneered in this country which the United States themselves
have not been able to invent and which they have been very happy
to purchase from us. They benefit a lot from us and we certainly
benefit from the opportunities, such as with Trident, such as
with Tomahawk, where we obtain from them off their much bigger
production line a product which we could not have afforded to
develop ourselves or to buy in such small numbers. So there is
inevitably a case by case judgment on this. In terms of ownership
of companies, I am not really in a position to comment on the
most recent proposition because it is subject to the regulatory
process and it is just improper for me to get engaged, but the
Ministry of Defence is able to make representations on two principles,
one is security and the Office of Fair Trading will be looking
at competitive issues. If I look at other examples where Thales,
for example, has bought UK companies, they have continued to create
wealth and create technology inside the UK, it has sustained jobs,
it has sustained the source of supply and we treat them in terms
of Defence Industrial Policy as if it was a UK company; was part
of the definition of UK industry. By the same token, quite a large
chunk of British Aerospace is owned in America. The whole process
is becoming increasingly global. We need to be very clear about
the principles which apply here and security of supply during
future operations and over time is clearly a key concern of the
Ministry of Defence.
Q139 Rachel Squire: On that basis you
are in effect saying that consolidation, restructuring, the UK
defence industry is basically going to be an international club
but one based in the UK?
Sir Peter Spencer: The restructuring
will be inevitably—and I know it is a slightly irritating
answer but it is the only answer I can give—a matter for
the shareholders of the companies concerned, and there are limits
as to the ability of the Ministry of Defence to alter any of that.
We can make it clear outside the regulatory process what it is
that we hope to get, what we will continue to be able to do after
any such restructuring has taken place, and, because in the main
the prospective owners of these companies wish to continue to
do business with us, whilst we cannot compel we certainly can
be persuasive. So if hypothetically you get a change of ownership
which gives a strong underpinning of a company to ride out the
peaks and troughs of our own demand on industry because they are
able to provide work from elsewhere, that can actually be very
helpful as a component of nurturing the industrial base over time.
So I can see there being risks in some areas but I can also see
there being benefits, and I do not think it is possible to give
a completely general answer.
5 Note by Witness: The additional costs reported by
Typhoon in MPR2003 consisted of £649m in capital charges,
£291 millon in payments to industry and £97m for additional
capability. Back
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