Select Committee on Defence Minutes of Evidence

Examination of Witnesses (Questions 260-274)


28 FEBRUARY 2006

  Q260 Chairman: Mr Turner, when you said that competition has been disastrous for the defence industry, would you repeat it as baldly as that or were you referring to competition from overseas?

  Mr Turner: I think that the competition policy of MoD allowed overseas companies to see an opportunity in this market to wipe out the prime systems capability of the UK indigenous defence base. BAE Systems, British Aerospace, did not need a competition policy to say it needed to be competitive globally. Look at how many Hawks we have sold overseas, how successful we have been as a business in exporting. I believe we are the number one manufacturing exporter from the UK. We only export because we are competitive. We are competitive in world terms.

  Q261 John Smith: Again, we have received a number of statements from witnesses expressing deep concern about the future development of BAE Systems being in a position of the sole monopoly supplier taking on board the views, in terms of international competition, of a global market. A number of very strong comments have been made in terms of BAE Systems possibly developing a strangle-hold on British defence procurement policy and that this document, the Defence Industrial Strategy—and this is contained in written submissions to this Committee—conflates the interests of a single British company with the interests of this country. What power does a British Government have to retain your company in this domestic market if you choose to go elsewhere? It will have no power at all—not at the moment, but this is a possible future scenario—because it has no other supplier whatsoever to turn to within the UK domestic market. What are your views on that?

  Mr Turner: BAE Systems (British Aerospace) for decades has had a monopoly on air systems, but it has been very good, very healthy for the UK. It has provided the best aircraft in the world in training and in fighters, and not only for the UK but for the world air forces, and it has provided a very healthy income to the United Kingdom. It has been good for British Aerospace in the past, but it has also been good for the UK. We have now a very significant position also in land and naval, and I hope that we can go on in land and naval, as we have done for the past decade, to be a success for BAE Systems in the UK. It has been very good news. You are right, the Government has no real way of stopping BAE Systems leaving these shores, but I can tell you that with the DIS, backed by John Reid and Lord Drayson, it is now becoming an attractive place to do business, which it was not. It was a very unattractive place to do business in the nineties and the early part of this decade, and it is now changing, and that is good. It is good for BAE Systems and it is good for the UK.

  Q262 John Smith: One final question. One of our witnesses, Professor Hartley, suggested that if this monopoly situation were to develop extensively within the British defence market, there might be a case for regulating your company as a utility. Do you have a view on that?

  Mr Turner: We are regulated by, in 1968, the Ferranti affair, with outrageous profits. Then there was the Laing Report that said that we needed a profit formula based on the cost of production and capital employed. That is what we have got. We very much have a regulated profit. I am afraid it is set at 8% for my company, compared to 15% in the US, but at 8%, with sensible terms of trade and the DIS, we can see a return on capital for our shareholders. We could not see that before. We are regulated.

  Q263 Mr Borrow: Can I come on to the specific area munitions. Under the DIS, BAE Systems have a dominant role in supplying munitions to MoD. Obviously there is an issue at the moment around the possible closure of Bridgwater and Chorley ROF sites. The closure of those sites would lead the MoD to be dependent upon foreign suppliers for certain munitions because they would no longer be produced by BAE Systems within the UK. I want to ask Mr Turner the extent to which that is a problem for the MoD. The DIS in many ways is seen as a document which strengthens and supports the defence industries in the UK, but at the same time we are seeing, or potentially seeing, the closure of capacity and dependence on overseas suppliers for key parts of military equipment or, in this case, munitions?

  Mr Turner: In fact, we are being consistent with the DIS, because it is quite clear that the MoD cannot afford to invest in R&T and procure everything from the UK defence industrial base. In the case of Chorley and Bridgwater, indeed, we are closing those sites because it is not economic for BAE Systems and the UK to keep those sites open, but where we are investing is in insensitive munitions. The raw materials (the explosives), when they are supplied (hopefully from a reliable source), and, indeed, security of supply will be an issue when we go to new suppliers for those raw materials. Indeed, the investment we are making in mixing those explosives into insensitive munitions, it is a world-beating technology that BAE Systems has and it is what we supply to the UK Armed Forces. That is where the DIS is focused, and rightly so, at the top end of technology, insensitive munitions. We cannot afford in this country to keep the supply of raw materials at an economic level. We cannot afford it.

  Q264 Mr Borrow: Would you agree that there is legitimate concern on behalf of the UK taxpayer and the UK military that closure of these two facilities could take place before we have actually nailed down and secured long-term supplies of alternative munitions?

  Mr Turner: We would not do that. There is no way that we would finish off manufacturing the raw materials that we currently do without being fairly sure that we had a secure supply for those materials for the UK Armed Forces.

  Q265 Mr Borrow: Are you in a position to give an undertaking to the Committee this morning that Chorley and Bridgwater will not close until such time as a secure alternative supply of those munitions has been sourced to the satisfaction of the MoD?

  Mr Turner: That is part of the process that we are going through now. Absolutely.

  Q266 Mr Hancock: Why is it that the product that we manufacture currently is not good enough for you to export to keep the business going in the UK?

  Mr Turner: We do not demand sufficient of it in the UK, so we are below critical mass.

  Q267 Mr Hancock: There is not an export market for it?

  Mr Turner: No. We cannot be competitive at that level of technology, the raw material level.

  Q268 Mr Hancock: Why is that? What is the problem there?

  Mr Turner: Because other countries can do it cheaper and more efficiently in that area than we can. We invest in BAE Systems in the higher technology.

  Q269 Mr Hancock: Is it because of lack of investment in the past in these plants?

  Mr Turner: We have to be selective where we invest our R&T, and we have selected to invest our money at the very top end of technology in systems engineering and systems integration. I think it would be wrong to invest in the bottom end of technology. That is not the future for this country.

  Chairman: We are moving on to research and technology.

  Q270 Robert Key: Mr Turner, I wonder if you can tell us roughly how much your company does spend on R&T.

  Mr Turner: We spend about £100 million of our own money on R&T in the UK and about £100 million of our own money in the United States on R&T.

  Q271 Robert Key: Sir John, I wonder if you can tell us roughly now much Rolls Royce spends on R&T?

  Sir John Rose: We spend gross over £600 million every year, net about £250 million, of our own money. About 20% of our total R&D spend is on research and technology acquisition, i.e. the raw materials of product development. About half of that is spent overseas and half in the UK. We used to spend 100% in the UK.

  Q272 Robert Key: Those are very impressive figures, and I would have expected nothing less from world class companies, but it is not that amazing compared to the British Government spend of about £250 million a year on R&T? This worries me very much indeed: because right through the Defence Industrial Strategy, on almost every page, there is reference to the importance of investment in R&T. It says nothing about increasing the Ministry of Defence budget on R&T. It says that we have now dropped to 1.9% of our GDP spend on R&T, it laments the fact that countries like China and India are going to be increasing massively their R&T but we are not. Were you as surprised as I was that the Government made no mention of any increase in R&T spend?

  Mr Turner: I am afraid it is all part of that disastrous policy that I talked about. We had Peter Levene, in the late eighties, come in and say that we are going to have a competition and we are going to buy more off-the-shelf and, as a result of that, we have stopped investing in this country in defence R&T. This country has had an absolutely tremendous return from the investment in defence R&T, but I am afraid it is not a priority for this country any more. There is a very different attitude in this country to defence and security than I see in the United States, and that is why it is $73 billion in the United States next year and a very low figure in the UK.

  Sir John Rose: I think you have got to read the DIS in conjunction with the work of the AEIGT, which did have, at the end of it, a recommendation that was endorsed by the MoD, the Treasury and the DTI for an increase in spending. We have not seen that come through yet, though there is some evidence that there is some increase. In our case we have seen something like a 75% decline in real terms over the last 15 years in MoD investment in R&T. It is part of the point that Mike Turner made earlier about derisking. Historically the MoD invested in R&T that was specific to the defence needs and in demonstrator programmes, which were the mechanism for derisking. We would like to see a return to that because it is very important for the customer and for industry to prove technologies before their insertion, and demonstrator programmes are the key mechanism for doing that. They have proven to be successful in the past, they were key to the success of Typhoon, as an example, but those were demonstrator programmes that were funded in the eighties initially. There is a recognition within the DIS that there needs to be an increase in the amount of R&T spending and that there needs to be a hierarchy that involves the universities, that involves industry and involves the industry partners and involves the MoD. I would just make one slight correction. The tree that you talked about does not have universities, then SMES, then primes. Very little R&T takes place in SMEs. They participate in some R&T programmes, but it tends to be driven by the larger companies, and the universities are a key part of that.

  Q273 Robert Key: The DIS talks too about the importance of looking towards Europe in relations both industrially but also in terms of research. There is quite a lot of duplication in research and technology, is there not, across Europe? Would it be practical for this country to take a lead perhaps in rationalising that, preventing some of this waste in the same way that you suggested there has been a lot of waste in the previous models of defence procurement in the past? Am I right, first of all, in your experience, that there is duplication across Europe?

  Mr Turner: There is duplication. You have seen that with Rafale, Typhoon and Gripen. I think the fundamental problem, though, that Europe has got is that it is just not spending enough on R&T generally. There is duplication, yes, but when you compare Europe with the appetite for spending on R&T in the United States, the great concern that we have for our Armed Forces is how are they going to get the capability to be able to peace-make and peace-keep alongside the United States? That is why we have stressed that when we do acquire from the United States, as we will have to in certain areas because we clearly cannot afford everything in this country any more, we need to get the highest level of technology transferred across to the UK to sustain the capability for the support and upgrade through life. Yes, there is a case for trying to get Europe to get the act together, but who is going to move first? Everybody wants the technology in their country, everybody wants the highest level of technology jobs in their country and there is a very limited amount of resource available anyway for doing it. I am not optimistic about that.

  Q274 Mr Crausby: Sir John, the Defence Industries Council tells us that it is keen to work constructively with the MoD to ensure an effective implementation of the Defence Industrial Strategy. How involved is the DIC with the implementation of the DIS and are you satisfied? Is it clear to industry who is responsible for implementing the various aspects of the DIS and in what timescale? The SBAC suggests that ministers are looking to a two-year period for the implementation. Do you agree with that? How will industry in the long-term measure the success of the Defence Industrial Strategy?

  Sir John Rose: I think we would all like to input to that answer. I would start by saying that I think Sally Howes has covered a lot of the answer in her earlier comments. We have got the first of our post DIS/NDIC meetings tomorrow. We will have regular meetings with the MoD, and tomorrow very much on the agenda we will be trying to work out exactly how we do monitor the progress, but clearly the big items are going to be do we see change in the effectiveness of the programmes that are delivered, do we see changes in the way that MoD procure and are structured and do we see changes in the way that industry interfaces with the MoD? There are going to be a lot of a sub-mechanisms, as Sally mentioned earlier, where we look at different components both through the DIC mechanisms but also in terms of the individual company's interface with the MoD.

  Dr Howes: I think all of the actions that were suggested in the DIS are being undertaken one way or another. We are satisfied that the bases are being covered. It is very clear that this is going to require some strong leadership to keep all of this together during the period. As Sir John mentioned, the NDIC is scheduled to meet four times rather than two, which is normal, this year, and we have an agreed timetable for check-points and for looking at the progress of the implementation itself. I think it is early days, but we see activity under each of the headings.

  Mr Turner: I can tell you what is happening in BAE Systems on implementation. On air, land and sea, clearly where they were specifically clear in the DIS on the future importance of the highest level of systems engineering and integration in the UK, we have a very senior lead within the company on air, land and sea in discussions with somebody in MoD, appointed by MoD, to agree the partnering arrangements, milestones, in taking the DIS forward. We were fortunate on the land side that Lord Drayson and I, on the day of the announcement of the DIS, signed the milestones for taking land systems support and upgrade forward, and we are now working together on the air side and on the naval side to put similar partnering arrangements in place, to set milestones in place, to prove that we can deliver, as we say we can, against certain milestones. The biggest issue for us, though, is the cultural one, the relationship over many decades now between the DPA and industry. That is where there has got to be the most radical change. We have proved, in partnership with the DLO, that there are great savings to be made on support and upgrades by working in partnership to improve the availability of Nimrod Mk IIs, of Harriers, of Tornados, at reduced cost to the taxpayer, and we believe that, by working in partnership and working in a similar way with the DPA, we can deliver savings to the taxpayer on the initial equipment, but I think that is a big challenge.

  Chairman: That is very helpful evidence. Thank you all very much indeed for coming this morning.

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