Examination of Witnesses (Questions 229-239)
SIR JOHN
ROSE, DR
SALLY HOWES
AND MR
MIKE TURNER
CBE
28 FEBRUARY 2006
Q229 Chairman: Welcome to all three of
you. We are very grateful to you for coming to give evidence about
the Defence Industrial Strategy. I wonder if I could start off
by saying that in your memorandum you welcome the DIS but you
state that "It will be important for the MoD to provide further
clarification on what the report means for the whole of the defence
industry . . ." Sir John, welcome. Would you like to give
us an idea of what you would like to see by way of further clarification?
Sir John Rose: I think that will
happen over time. The point is that this is a strategy document
and the key of any strategy is that it needs to be implemented,
and we will need to be very engaged with MoD, as industry and
through the trade associations who are partners with industry,
to ensure that the steps are taken and the changes are made both
within the customer and within the supply base to ensure that
we achieve the objectives that have been pretty clearly set out
in the Defence Industrial Strategy.
Q230 Chairman: What about the fears that
have been expressed by some people that some small and medium
scale defence companies might gravitate to other sectors, such
as the oil sector, do you have any views about that?
Sir John Rose: In some ways I
think the DIS should help rather than hinder the SMEs. The whole
objective of the DIS is to create greater transparency about the
opportunities that are available to companies in their dealings
with the defence customer. As you know, if you are going to try
and make decisions about where you invest your money then having
some clarity about where you will get your returns is pretty important
and therefore this is a good first step in improving the transparency
both for the larger companies that interact with the MoD and for
the smaller companies.
Q231 Chairman: You said in some ways
the DIS should help SMEs. Do you think there are ways in which
the DIS would not help SMEs or would hinder them?
Sir John Rose: I do not think
there are any ways in which it would hinder the SMEs at all. The
big step forward is in transparency.
Q232 Chairman: Do you think there is
sufficient coverage within the DIS of SMEs?
Sir John Rose: I think there is.
We have got to be clearer about the role of the strategy and the
customer. The SMEs are part of a supply chain. Some of them will
be direct suppliers to the defence customer and some of them will
be suppliers to the prime. In both cases it is helpful for them
to know the likely direction of investment either in the primes
who are their customers or in the MoD who is the direct customer.
The SMEs were involved in the debate that took place around the
creation of the DIS largely through the trade associations, of
which they are members, but also with representation on the DIC,
so they got a good voice in the conversation. It was equally the
case that the primes talked to their supply base to try and make
sure that they understood the direction that this debate was taking,
but my colleagues may have views to add to that.
Dr Howes: I think there has been
a tremendous amount of activity working with supply chains in
the industry over the last few years. Some of that is industrially
driven and some of it has been very driven by MoD itself as it
has taken a greater interest in supply chain relationships and
supply chain management. I would agree with Sir John that the
direction that the DIS has given as to where the market is going,
how the customer wants to be, how it wants to buy, gives tremendous
clarity for those supply chain improvement programmes.
Q233 Chairman: Do you think the MoD and
the DTI do understand the supply chain and the best way to manage
them?
Dr Howes: For the MoD it is the
start of a journey. I think there has been a lot of honesty that
there is not a tremendous visibility right down to the bottom.
I am not sure there could be because some of the supply chains
are very large and they are very complicated. That is just the
world of defence business as we see it today. So I do not think
MoD could expect to have complete visibility of that, but I think
that it is moving in the right direction in terms of working with
industry to try and understand those relationships. The DTI, in
extending that into the regions with colleagues in the RDAs and
with the devolved administrations as well, it has tried to get
a focus through things like the Manufacturing Forum, the Aerospace
Innovation and Growth Team and the Electronics Innovation and
Growth Team. A lot of that work has gone on the effectiveness
of the supply chain. So no longer is the DTI looking at companies
as isolated pillars but it is trying to look at performance across
the supply chain. I think we are all moving and growing in the
same direction. What the DIS now gives us is the customer end
to really stimulate the right kind of supply chain improvements
for the future.
Q234 Chairman: So the Defence Industrial
Strategy is the start of the journey for the MoD and the defence
industrial policy was not?
Dr Howes: Following the publication
of the defence industrial policy the MoD did begin this focus
on supply chain management and supply chain relationships, but
I think the DIS will give it the focus that it needs. I think
for me, in the document itself, on page 28, there is a diagram
in there that actually describes where the MoD has been in its
procurement and what its vision is. I actually think that this
is a very helpful diagram for us all and particularly for industry
because this shows the extent of the change. If you imagine the
implications of that in the supply chain, yes, it is the start
of the journey because there is clearly a lot to be done.
Sir John Rose: I think the biggest
contribution to the SMEs is the recognition that having a successful
domestic industry is a key objective. For the SMEs having a successful
domestic industry is crucial. SMEs have a relatively short reach.
Many of them tend to be taken to market through the primes or
the sub-primes or the major integrators and that reach tends to
be national and not international because by definition they are
small- and medium-size enterprises, they cannot afford necessarily
to enter other markets and it is difficult to do so and expensive
to do so and takes a lot of time. So the best thing for the SMEs
is a successful industry domestically.
Q235 Mr Borrow: The Defence Industrial
Strategy is important in the sense that it sets a framework within
which industry can operate, but the assumption behind the strategy
is that industry itself will need to reorganise and reshape itself
to meet that framework. Could you say a little bit about how you
see that reshaping taking place and in which sectors there will
be mergers and which sectors will be most involved in that reshaping?
Sir John Rose: I think we all
have views on that. I think it is impossible to predict. I think
industry as a whole responds to its customer. We do that in the
commercial sectors and we do that in the defence sector. We will
respond as an industry to changes that take place in the MoD as
a consequence of the implication of the DIS. Clearly there will
need to be changes in the MoD in terms of the way that they operate
with industry. I could not possibly predict what will happen in
terms of the central consolidations in particular. All I would
say is that the nature of industry has been that over time the
supply chain has become more consolidated because at the top of
the supply chain there is a drive for simplicity. Let us take
as an example Rolls Royce. If we developed an engine in the late
Eighties we would have had 250 or more suppliers; our latest engine
has 71. They are bigger and within that there have been some system
integrators who have taken on more responsibility and they need
to be bigger because they take on more risk, they have to take
on the investment requirements, the R&D requirements and so
on. I think the industry will simply respond to the demands of
the customer in the way it structures itself because that is what
industry does.
Dr Howes: It is probably worth
just saying that on the whole when you speak to companies further
down the supply chain the DIS is seen as a good opportunity for
industry to transform and to prosper as long as it is able to
invest and I think that will be the challenge over the next year
as the sector strategies begin to develop. Many of them have milestones
this year to do with setting up partnering agreements and deciding
the future. As those begin to mature I think we can then judge
what sort of reshaping there will be in industry.
Mr Turner: I believe industry
and businesses will go where the market is. BAE Systems is a global
defence company. That is why you have seen us expand in the United
States, which is clearly the most important market for defence
research, technology and procurement. You have seen us expand
in other parts of the world like Australia and Sweden and South
Africa and indeed we are now investing in Saudi Arabia in line
with the government requirements of the King and the Crown Prince
there to see investment in skills and employment at the highest
level in Saudi Arabia, and clearly there is a market in those
countries. The good news for the UK now is that at long last we
have a DIS in the UK and my board and my shareholders at long
last can see the possibility of a sustainable profitable future
for the business in the UK and that we can, as we do in other
parts of the world, supply the highest level of capability to
the Armed Forces. That is what we are about, the highest level
of capability wherever we operate in the world to those Armed
Forces in America, Sweden, South Africa, Saudi Arabia and in the
UK but also making a return to our shareholders. Industry goes
where the market is and now that we have a DIS I think there is
a strong market in the UK which was not there previously.
Q236 Mr Borrow: Specifically on BAE Systems,
you may not be able to divulge very much at the moment, but is
the Defence Industrial Strategy affecting the way in which your
company plans for the future and reconfigures itself and reshapes
itself within the UK?
Mr Turner: Absolutely. The basic
shape of BAE Systems has evolved over the last few years. You
have seen us grow in the United States because it is the most
important market, you have seen us reduce our investment in businesses
in Europe because we believe that there is a real question mark
about the future of defence in Europe compared to other parts
of the world, and you have seen us investing in Saudi Arabia.
Now that we have this strategy in the UK I think there is real
potential for the UK defence industrial base which we did not
see before.
Q237 Mr Borrow: There has been quite
a bit of talk in the press in the last year or two of a merger
or some collaboration between BAE Systems and another major company
in the United States. Would you say that the Defence Industrial
Strategy affected those issues or is that still a live issue?
Mr Turner: I think what the Defence
Industrial Strategy has done is encourage BAE Systems to remain
and to invest in the United Kingdom. The talk in the press some
years ago about a merger was all part of a recognition by the
board that we needed access to US technology. The UK no longer
invests sufficiently in R&T, as I think has already been said,
and therefore we needed access as a global defence company to
the world's most important market. Clearly with the weakness of
my company a few years ago one way of accessing the United States
would have been by a merger with one of the big players in the
United States. I think that is far less likely now. We are a much
stronger company now and we have managed to grow organically and
by acquisitions in the United States. We are now an $8.5 billion
turnover company in the United States. We have access, therefore,
to other technologies, to the market and therefore a merger strategically
is no longer necessary for BAE Systems.
Q238 Chairman: And you say it is far
less likely.
Mr Turner: It is not necessary
for us now to execute our strategy by a merger, but it does take
two to tango and at the moment I can assure you there is nobody
talking to us. We will keep looking for organic growth in the
United States and acquisitions in the US. The budget going forward
in Congress for 2007 is $73 billion on R&T, it is huge and
it is very difficult to see how the UK and Europe can match that.
If the UK Armed Forces are going to have the very best capabilities
that they must have to peace keep and peace make then the UK has
got to have access to the very best and that is what we intend
to do.
Q239 Chairman: When I asked you whether
it was far less likely, as you had previously said, you said it
was less necessary but you will still be looking. Can I press
you on what you previously said? Is it far less likely?
Mr Turner: It is far less likely,
yes, but not impossible.
Chairman: I was not asking for a commitment
written in blood.
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