Select Committee on Defence Minutes of Evidence

Examination of Witnesses (Questions 240-259)


28 FEBRUARY 2006

  Q240 Mr Hancock: Sir John, can I take you back to your opening exchange with the Chairman when you said that one of the benefits to small- and medium-size enterprises would be transparency. I was not quite sure I understood where the advantage would be in that.

  Sir John Rose: I think it is the simple business model. I think there is an assumption that the defence business has been quite easy. I think it has always been a very difficult business because it is quite difficult to predict demand. It is difficult to predict what is required, when it is required and how much will be required. In the commercial sector you have the ability to judge demand, you have population growth or travel, the requirement for electricity or whatever it happens to be, GDP growth. If you are going to make investment decisions, you want to do them with a sensible view forward of when you are going to get a return. John Chisholm made some clear points about the time to market and the time value of money. If you make an investment and you are significantly delayed in getting a return on that investment it is a very bad thing for you and therefore transparency, visibility and being able to make sensible informed judgments about where you are likely to get a return is absolutely necessary for a company that has to satisfy shareholders, whether it is private companies or publicly floated companies.

  Q241 Mr Hancock: Would there not be a degree of nervousness then for some companies reading this strategy, where it states quite clearly that new platforms are to have long service lives, to learn that future defence business will be supporting and upgrading them? That, by its very nature, would make it very difficult for some companies to retain design and research capabilities that might have been there if that was not the case. Most work in the future will be on updating what is already on a platform rather than bringing new platforms into place. Does that not cause some difficulties for industry itself?

  Sir John Rose: Oddly enough, I think it may be very positive, the recognition that that is going to be what is happening and that mid-life upgrades and so on, spiral development, is the way that we are going to work and that continuous technology and insertion and improvement is the way forward. The truth is that platform lives have always been very long. The B-52 is likely to be based on existing commitments and 80-year old aircraft when it goes out of service or it may even be 100-year old aircraft. It will have had technology insertions along the way, but when it started people did not think like that. If we go into the process believing that that is what will happen we will be prepared to take product to market faster in its initial stages and then recognise that in time, as technologies become available, we can upgrade and improve the platform, which is what we have done, but it is a recognition today, right from the start, that that is the way we are going to conduct business.

  Mr Turner: It is a recognition of what the reality is. There has been far too much attention paid by MoD in the past to the initial side of procurement. When you look at the expenditure through life, it can be up to four times on support and upgrades of weapons systems. The fact that the MoD is outsourcing more to industry because it can be done cheaper and more effectively is a real opportunity for the supply chain to play a much more significant role. I think it is good to see the focus on through life support and upgrades. The fact that the primes in the UK can now see a long-term future in that regard is not only a benefit for the primes but for the route to market for the SMEs which is far clearer and more specific than it has been in the past. I think it is a very good thing.

  Q242 Mr Hancock: The strategy also states that the MoD themselves do not envisage needing to design and build a future generation of manned fast jet aircraft beyond Typhoon and JSF. If JSF was to fail and not be delivered, would we be in a position to marinise our own version of Typhoon? If we were to go down that line, in view of the French interest in them buying one of the carriers, would we be interested in doing a joint venture with the French on that version? Is it something that industry has the capability to deliver or would want to deliver? If we do not have any capability or need for a fast jet aircraft in the future, how does the company see their future in that regard?

  Mr Turner: Of course, we are talking about a long time into the future. We have a lot of work to do on fully developing Typhoon. As you know, it was initially designed for both air-to-air and air-to-surface capabilities. So far all we are doing is optimising the air-to-air and, in due course, we will proceed to optimise the air-to-surface. There are many, many years of further development for Typhoon and work for our engineers and for our shop floor in the years ahead. Joint Strike Fighter has a long, long way to go. It is a very complex programme. It is an excellent programme that we, BAE Systems, and, indeed, Rolls Royce are involved in. There will be a lot of work for many years to come. It is important, as you know, that we obtain the technology in the UK from Joint Strike Fighter so we can play that role in supporting and upgrading the fighter when it eventually comes into service. I am sure there will be delays on JSF—these weapons systems are incredibly complex—and when it comes we do want to play a role in supporting and upgrading it, but with Typhoon, with Hawks, with Nimrods, with JSF and with exports we have a very significant future that we can look forward to.

  Q243 Mr Hancock: The Minister, in answer to a question yesterday in the House, said that they had contingencies from A to Z on the understanding that if JSF did not materialise they had a whole series, and he actually went through the alphabet but did not tell us what they were. I am interested to know whether or not it is possible for you to foresee a situation where Typhoon could easily be adapted. The time is not that long. In eight years we will have one carrier in the water. There is no certainty that we will have the plane to follow for that.

  Mr Turner: I am not sure when we will have the carriers in the water. That is still to be determined.

  Q244 Mr Hancock: The Government gave evidence here saying that they were sticking to their programme, which suggests that by 2014 there should be one of them floating in Portsmouth harbour?

  Mr Turner: We are leading the programme and we do not know when we will be able to give an in-service date or, indeed, a budgetary cost for the programme.

  Q245 Mr Hancock: Maybe we should have asked you, not the Minister.

  Mr Turner: That is where we are, and hopefully in the next 18 months we will have a better view of the in-service date and the budgetary cost for the carriers. Indeed, it is possible to navalise Typhoon. It is not what we would recommend, because if Joint Strike Fighter proceeds, and we believe it will, I think, in terms of capability for the Armed Forces of the UK, it is the right aircraft, but, indeed, as Lord Drayson has made clear, there needs to be a fall-back in case something goes wrong. Therefore, we would suggest there should be an investigation into navalising Typhoon as very much a fall-back solution. We do not see any other fall-back solution.

  Q246 Mr Hancock: Is that going on?

  Mr Turner: No.

  Q247 Mr Hancock: You have not been asked to do that?

  Mr Turner: No.

  Q248 Mr Hancock: You are not doing any work on your own bat on that?

  Mr Turner: We have done some work on our own. We know that it is possible. What we need to do is to do some more funded work to look at what would be involved in navalising Typhoon, what the programme length would be and how much it would cost.

  Q249 Chairman: But it is not just in case anything should go wrong that there needs to be a fall-back, surely. If there is no fall-back, then it makes it more likely that it will be harder to get technology transferred from the United States, does it not?

  Mr Turner: That is my view.

  Q250 Mr Havard: I would like to ask you not about changes in industry but changes in the MoD. The Minister has said in the past that they would need to change also in order to accommodate the new strategy. What is your view at the moment of what the MoD is doing in terms of change? Are these changes taking place or do you see a static organisation? What is your view of the changes that are taking place in the MoD to accommodate the Strategy?

  Sir John Rose: I think it is too early, candidly. The Strategy was only published in December. There is evidence of change already, but you have to remember that you have got an organisation that has spent a long time operating in a different way and, therefore, inevitably, it will take some time before the sorts of changes that are implied by the Defence Industrial Strategy really manifest themselves, but there is no doubt that the conversation that took place between industry and the Ministry of Defence around the DIS was as helpful a conversation as we have had in the last 15 years. It was conducted well, it was very open, the way that it was handled encouraged openness on both sides and I think the outcome of the Defence Industrial Strategy reflects that. Clearly, the Strategy is only as good as the implementation.

  Q251 Mr Havard: Perhaps we can come to that a bit later on. The other thing, interestingly, that you said, Minister, earlier on was that perhaps in the past the emphasis has been on acquisition and the changes are going to have to be related to through-life processes and upgrades. The question has been raised in the past that it has been too slow and too expensive in terms of the MoD's response for industry and that the MoD's procurement processes and decision-making processes need to be in some way revised. What is your view of that? We have taken some evidence about the DPA and all the rest of it. There is both the procurement decision-maker and the actual process that delivers it. What is your view of changes there?

  Mr Turner: It takes a long time. I think the big companies like BAE Systems can afford to continue with studies and with quotations and negotiations, but for smaller companies—I was on the Board of Babcock's until last year—it is very expensive continuing to run these competitions and delays happen. Yes, we would like to see the acquisition process speeded up, but I think fundamental to this is the investment that needs to take place at the beginning of a programme's life. In the past we have not as a nation invested sufficiently in derisking programmes and establishing the realistic in-service dates and budgets for these programmes, and that needs to take effect. We have shot ourselves in the foot as a nation by going out there and saying, "It will be in service then. It will cost so much", but we have not done sufficient work. These are highly complex weapons systems, as I have mentioned, and we need the early study works, indeed, to see if the programme is viable or not. We have not done that in the past. I think with the DIS we are moving in the right way. There is a recognition that we will be shooting ourselves in the foot as a country and undermining the defence industrial base by making it look as if we do not give value for money when in fact we do. If you look at the value for money that the UK defence industrial base gives compared to anybody else in the world in terms of cost and programmes and sophistication of capability, it is second to none, and we need to stop doing what we did in the past.

  Q252 Mr Havard: The Defence Industrial Council is, presumably, a body that some of these discussions will come back to in some fashion. The Integrated Project Team, the whole question about project management processes, has been at the heart of this whole discussion about the flexibility and fleetness of foot, or otherwise, of the DPA and other processes. What discussion is going on in the Defence Industrial Council in relation to that?

  Sir John Rose: That is a very broad question. The DIC is really about policy and strategic issues. It is not a programme management body. It is there to deal with the overview, as it were. There is a breakdown structure that goes below that and that will report into the DIC.

  Q253 Mr Havard: It presumably informs the work of the MoD itself and the DPA, and so on, in how it should make its change?

  Sir John Rose: Yes, it does. You will remember, we meet a couple of times a year at the NDIC and those meetings are now scheduled in, we hope, for the next 18 months or so. We meet as a DIC reasonably regularly and we take input from the team leaders who are interfacing with the MoD in the specific areas that we have agreed that they should, but, ultimately, we are there to suggest strategy, to inform policy and to monitor progress. Sally, you are the Secretariat, why do you not add to that.

  Dr Howes: There are a couple of specific things that are now under way within the MoD, particularly looking at acquisition change. Tom McKane is leading a review looking at what change is needed to implement the DIS. It is a small team within MoD, which is appropriate, but industry is involved in that; so people are contributing their thoughts about the acquisition process and their experiences into that. That is on a short time-scale—it is going to be reporting at the end of May. Certainly the outcome of that kind of work is the sort of thing that the DIC would be very pleased to look at and to provide comments on, but I think there is also something much more practical and tangible that is going on which, again, was defined in the DIS. Two Pathfinder programmes were defined. These are activities where MoD and industry will work together to explore what through-life capability management is and the implications of that on the MoD side and on the industry side as well. Some of the joint industry MoD groups that Sir John was describing were, if you like, the source of defining these ideas during the last year. It was picked up in the DIS, it is being taken forward now and we think these will be very valuable experiences to push through. They are not project-by-project, they are collections of projects, which is also very helpful. It is trying to find what the new acquisition processes should be.

  Q254 Mr Havard: So this is giving a real description of this diagram on page 29[3]?

  Dr Howes: That is exactly right, yes.

  Q255 Mr Hancock: Can I go back to the point about derisking. I think there is an issue there and I think the two carriers and the way that is being done possibly is the start. Just to give an example, the Astute submarine programme is a billion pounds over budget and four years late. I cannot imagine that the derisking on that would have been anything but very expensive. Who pays for the derisking?

  Mr Turner: The derisking on Astute that GEC received was zero. They were encouraged to enter into a competition to design, develop and supply three nuclear attack submarines with no prior knowledge of any of that, and I think that it is completely wrong for the defence industrial base of the UK. They clearly, as a company, had a strategy to go into a prime systems capability. At the time it was the only way that MoD was prepared to do business. What we are now seeing, and what I think is well recognised, is that it is the wrong way of going about this business. Indeed, Smart Acquisition many years ago recognised that the need for investment upfront—derisking—paid for by the customer: because it is the customer that has to take that risk until such point in time as the risk is understandable by industry and then industry can take the risk on.

  Q256 Mr Hancock: But I am interested to know who fixes the price for the derisking?

  Mr Turner: There is no price for derisking.

  Q257 Mr Hancock: I think you said the customer pays, but the Government cannot just say, "Tell us what it is going to cost for you to take all the risk out of this"?

  Mr Turner: No, there are milestones. In a design and development contract you have milestones for the programme and, as those milestones are achieved, you then move on to the next milestone. These complex high-tech programmes have to be milestone driven, and, yes, it is not an open-ended budget, but what MoD now do is allow a certain amount of money to get to the next milestone and, if sufficient risk reduction has occurred, you move to the next milestone. When you get to a sufficient point that you fully understand the programme and have derisked it to an acceptable level, then industry can step in and take the risk, but not until then.

  Chairman: Can we move on to partnering arrangements.

  Q258 John Smith: My questions are directed to Mr Turner. In a number of areas now the MoD is moving towards long-term partnering agreements. Your company is becoming, in a number of cases, the sole supplier of these long-term contracts. Two years ago you told the Public Accounts Committee (and you referred to it earlier), "There are far more attractive markets in the United States if the MoD's terms of trade do not change." Have those terms of trade now changed, do you think, to your company's satisfaction and, if so, in what ways?

  Mr Turner: I think what has happened over recent years is that the terms of trade have changed in the way I have described with the customer (MoD) taking that initial risk recognising that it has to take that additional risk in the complex design and development phase and then industry taking on the risk when it is understood. For BAE Systems, I think the change in the terms of trade and the DIS actually having a strategy for the defence industrial base for this country is very, very significant. Whilst the US remains a more attractive market in terms of the attitude towards profit and in terms of wanting industry to make a 15% return on defence contracts, where it is about 8% in this country, therefore if you were starting from scratch you would not be investing in the UK, but we are in the UK and we now believe that, with those profit rates only at 8% compared to 15% in the US, there is sufficient attraction in sustaining the capabilities in the UK now because of the DIS and because of the more acceptable terms of trade. In fact there are a significant number of key plus points to come out of the DIS: the recognition of partnership instead of competition, partnership that recognises the real issue is value for money not just competition to find the lowest initial cost and then real problems downstream; it recognises partnership, it recognises the importance of systems engineering and integration at the highest level in air, land and sea—and that is where BAE Systems plays a role. The UK is now becoming a far more attractive market. Even though there are lower profit rates, as I said, we can see a sustainable business in the UK forum for our company.

  Q259 John Smith: I think most people agree that the Strategy is welcome in terms of identifying future market opportunities and in what direction Government is going in the future in terms of its defence thinking, but one of our witnesses in an earlier session suggested that the shift away from competition towards partnering is not necessarily in the interests of your company or other defence companies in this country in the longer term because you will not be exposed to such competitive pressures in the UK domestic market. Is that a concern?

  Mr Turner: No, I think competition has been a disaster for the UK defence industrial base. I think, frankly, if it had continued, you would have seen the end of prime systems capability in the UK, in UK, Companies. We are not in the fortunate position of the United States. They have a number of primes. They have Boeing, Lockheed, Northrop, Raytheon, GD, and, indeed, now, BAE Systems North America. All we have in the UK, overwhelmingly, is BAE Systems in air, land and sea and, in fact, now we can see a sustainable way forward with a strategy for the first time ever in this country, championed by John Reid and Lord Drayson, and thank goodness for that. If competition had continued, allowing foreign companies to play the UK tactically, I think it would have been a disaster in the long term, and you would have seen the exit of prime systems capability in the UK with overseas companies offering lower-tier technology to UK companies but then the through-life support and upgrade would not be possible, it would be dependent on foreign entities.

  Sir John Rose: May I just add to what Mike has to say, which is that it is not only partnership. I think it is really important that we remember that the DIS is very clear that there are areas where partnership is the right answer and there are areas where competition is the right answer. None of us, as suppliers to the MoD, can make sense of a business that is simply about supplying, in a partnership arrangement, to the MoD. In order to be successful we have to have a product that is capable of being sold overseas against competition. There is plenty of competition around, with no shortage of competitive pressures in all the markets which we try and serve, including the US, and, like Mike for Rolls Royce, the US is our biggest defence customer, and it has been that way since the early nineties, so we have had plenty of exposure to competition. The danger was that the sort of competition that was being exercised here meant that you were competing against a marginal cost supplier, in effect, and that does not make any sense if you are trying to retain a sensible industrial base. That does not mean that you have to retain all capabilities, it does not mean that partnership is the only answer, but it is one of the answers, and that is what the DIS says.

3   Note by Witness: The page number is, in fact 28 and not page 29. Back

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