House of Commons - Defence

Select Committee on Defence Sixth Report

2 PROGRESS IN IMPLEMENTING THE DIS

5. Just prior to our oral evidence session on 19 December 2006, the MoD provided us with a "Summary Progress Report on significant DIS Milestones".[7] This sets out in detail the progress made against the checklist provided to us during our first inquiry into the DIS.[8] A summary of progress at 19 December 2006 for the various areas is provided at Table 1.

Table 1: Summary of progress against DIS implementation milestones at 19 December 2006

Area	Progress against planned actions
Maritime	The planned action of achieving a programme level partnering agreement with a single industrial entity for the full lifecycle of the submarine flotilla is on-going (the second part of this action of implementing a unified submarine Programme Management organisation within the MoD was achieved). The planned action of arriving at a common understanding for surface ship design and build of the core load required to sustain the high-end design, systems engineering and combat systems integration skills was not achieved and is on-going. The planned action of exploring with industry alternative contracting arrangements and the "way ahead for contracting the next upkeep periods" was achieved.
Fixed Wing	The planned action of agreeing a Long Term Partnering Agreement was not achieved and is on-going. The planned action of moving ahead with a substantial Uninhabited Aerial Vehicle Technology Demonstrator Programme was achieved, with the award of a contract in December 2006, for a programme to build an experimental Unmanned Air Vehicle (TARANIS).
Armoured Fighting Vehicles	The one planned action in this area was achieved in December 2005 with the signing of an Armoured Fighting Vehicle Partnering Agreement with BAE Systems Land Systems.
Helicopters	The one planned action in this area was achieved in June 2006 with the signing of a Strategic Partnering Arrangement and Business Transformation Incentivisation Agreement with AgustaWestland.
Complex Weapons	The one planned action in this area was achieved, with the formation of Team CW (Complex Weapons)
General Munitions	The one planned action in this area was not achieved by Summer 2006 and is on-going.
Research and Technology	Three of the four planned actions in this area were achieved, including the publication of the Defence Technology Strategy which was launched on 17 October2006. The remaining action is on-going.
Internal Change	Seven of the eight planned actions in this area were achieved with the remaining action on-going. Among the actions achieved were the publication of the Enabling Acquisition Change report in July 2006 and the appointment of a Defence Commercial Director in June 2006.

Source: MoD[9]

6. In summary, progress in implementing the planned actions in the various areas during 2006 was mixed. There had been good progress in several areas, namely Armoured Fighting Vehicles, Helicopters, Complex Weapons, Research and Technology (R&T) and Internal Change, but disappointing performance in the Maritime area.

7. We asked Lord Drayson for his overall assessment of the progress which had been made during 2006. He told us that he was

8. In its written submission, the Society of British Aerospace Companies (SBAC) noted the momentum in implementing the DIS and said "the determination of Lord Drayson and his senior level team to drive this change programme forward continues to impress".[11] With the notable exception of the Maritime sector, good progress was made in implementing the Defence Industrial Strategy in 2006. We congratulate the Minister for Defence Procurement for driving the process forward at a fast pace.

Reshaping of the UK Defence Industry

9. The DIS stated that industry would have to reshape itself in order to improve productivity and to adjust to lower production levels once the current major equipment projects had been completed. Industry would also need to retain the specialist skills and systems engineering capabilities required to manage military capability on a through-life basis; and would need to adjust to sustain the capabilities the UK needed once the current production peaks had passed.[12] We have examined the progress made in reshaping industry in three key sectors: Maritime; Fixed-wing Aircraft and Complex Weapons. We have also examined the impact on jobs resulting from the reshaping of industry and possible further consolidation of the defence industry.

MARITIME SECTOR

10. The Secretary of State for Defence acknowledged in November 2006 that the progress made towards industrial consolidation in the maritime sector had been disappointing. In writing to the Committee, he said that he considered that the lack of progress reflected not only the complexity of the task, but also the fact that industry was "enjoying a period of high workload from MoD's current shipbuilding and submarine programmes and does not feel a strong sense of urgency to implement the necessary changes". He considered that industry needed to be realistic about the MoD's future orders as the market would get smaller.[13]

11. Lord Drayson told us that he thought "the most difficult this year has been the maritime sector"[14] and that this was the one he had "been pushing hardest to see progress on, and was getting a bit worried about…. but I really do think we are now starting to see some real progress on that, both on ships and submarines".[15]

12. We asked why the Maritime Industrial Strategy had not been implemented in 2006 as Lord Drayson had expected in February 2006. Lord Drayson told us that:

13. Lord Drayson considered that progress had been slow in part because industry was looking at ten years of very significant orders. However, he had told industry that the orders would not be coming unless the consolidation and the changes happened.[17]

Surface ships

14. There have been some moves towards consolidation of the surface ship industry. Press reports in mid-November 2006 referred to discussions between BAE Systems and the VT Group to consolidate their shipbuilding assets. The reports claimed that an initial attempt to merge the assets at the start of 2006 had failed because Babcock International had demanded too high a price for its ship-repair facilities. Several options were being discussed: BAE Systems could buy out VT; the two companies could create an alliance but continue to operate as separate entities; or they could form a joint venture spun out of the parent companies. BAE Systems has yards in Scotstoun and Govan, Scotland, and the VT Group owns Portsmouth shipyard. The press reports suggested that the MoD was forcing the pace of the negotiations and was using the Future Carrier programme as an incentive to speed up the consolidation in shipbuilding.[18]

Future Carrier

15. Lord Drayson told us he was very pleased to see the announcement[19] that BAE Systems and the VT Group were discussing a joint venture: the MoD considered that the structure was the right one, unlike some of the deals which were looked at earlier in the year.[20] He said that if the deal went through it put the Future Carrier programme in a good position: "this is exactly what we need to see to be able to contract with confidence".[21] He had told industry that there would not be an order for the Future Carriers until consolidation happened and that consolidation was a pre-condition for signing the contract.[22]

16. We asked Lord Drayson whether he was saying that the consolidation of industry would determine when the Royal Navy got its Future Carriers. He said that "that is the reality anyway".[23] The in-service date for the Future Carrier would be set when the MoD made the Main Gate decision and that decision would be taken when the right industry structure was in place. Lord Drayson thought that "we are really close now".[24]

17. We asked Lord Drayson if the delay would impact on the date when the Future Carriers were to come into service. He said that delays in the consolidation would push back the Main Gate decision, but that this

18. Lord Drayson said that good progress had been made over the last year in reducing risk on the Future Carrier programme by identifying opportunities to introduce commercial build standards. These were practices which the MoD wanted to bring into the Future Carrier programme as it was going to be important to the modernisation of the shipbuilding industry.[26] It would appear that the reason for the continuing delay in the placing of the order is therefore no longer the level of risk but rather the need for restructuring of industry.

19. We are disappointed that the required restructuring of the surface ship industry has not taken place and that this has delayed the main investment decision on the Future Carriers. It is possible, though not inevitable, that this may result in later delivery of the carriers. This in turn may lead to a capability gap which could be both damaging to the defence of the country and expensive to deal with. On the other hand it might lead to the project being better managed. We accept that the MoD is right to insist on the speedy restructuring of industry, and we will be keeping a close eye on this important matter as it progresses.

20. In mid-January 2007 press reports suggested that the delay in making the main investment decision was because the Future Carrier programme was to be cancelled because of budgetary pressure on the Royal Navy.[27] Lord Drayson was asked whether the Future Carrier programme would be cancelled. He said the rumours should be considered "quashed".[28] We were concerned to hear reports that the Future Carrier programme might have been cancelled because of budgetary pressures. The programme is a key element of the 'Carrier Strike' capability needed by our Armed Forces and vital to the future of the UK maritime sector. We welcome the assurance provided by the Minister for Defence Procurement of the Government's continuing commitment to this programme.

Type 45 Destroyer and warship support

21. The Type 45 Destroyer programme is a new class of Anti-Air Warfare Destroyers to replace the Anti-Air capability provided by the Royal Navy's existing Type 42 Destroyers. The Type 45 is a planned class of eight ships but approval, so far, has only been given for six. A contract for the first three ships was placed in December 2000 and a contract for a further three ships was placed in February 2002. The ships are being built by BAE Systems Naval Ships and VT Shipbuilding.[29]

22. Press reports at the end of December 2006 suggested that the MoD would not place orders for the last two of the eight Type 45 destroyers.[30] They also claimed that six destroyers and frigates and two other vessels were expected to be put into reduced readiness—"mothballing"—to achieve savings of more than £250 million.[31] The impact of such cuts would reduce the workload for UK naval surface shipbuilding, and the amount of maintenance and repair work. For maintenance and repair, the MoD is developing a Surface Ship Support Alliance and the first contracts to be managed as part of this alliance were announced in November 2006.[32]

23. We asked Lord Drayson about these reports and how they affected the negotiations to reshape the surface ship sector. He would make no comment on the decisions on these ships, but he acknowledged that the outcome of the Spending Review 2007 would affect everything. He looked forward to being in a position to give greater clarity to industry in the second half of 2007".[33]

24. Rt Hon Adam Ingram MP, Minister for the Armed Forces, told the House on 15 January 2007 that no decision had been taken to reduce the number of Type 45 destroyers.[34] He told the House on 18 January 2007 that:

We await this announcement with the greatest interest, since it has enormous implications for the future capability of the Royal Navy.

25. The surface ship sector needs clarity about future design and build work, and maintenance and repair work, to make appropriate decisions about the best way to restructure. However, until the outcome of the Spending Review 2007 is known, the level of future funding for naval equipment and support remains unclear. It is hoped that the outcome of the Spending Review, expected in the Summer, will provide the clarity the surface ship sector needs to proceed with the restructuring required to deliver equipment and support in the most efficient way.

Submarines

26. We examined industrial collaboration in the submarine sector in our report The Future of the UK's Strategic Nuclear Deterrent: the Manufacturing and Skills Base.[36] In its written submission to that inquiry, the MoD stated that there was

27. There were press reports in 2006 of moves to consolidate the submarine sector. Lord Drayson said what the MoD wanted in submarines was the development of Through Life Capability[38] and industry to come together in a way which enabled this. The MoD had been pushing industry to do this since the publication of the DIS and there had been some progress, such as improvements in performance at Barrow and at Devonport.[39]

28. Press reports in mid-January 2007 claimed that BAE Systems had teamed up with Carlyle, to launch a joint bid for control of the UK nuclear submarine industry and that the two companies were planning a joint offer to take over the Devonport yard in Plymouth. The reports suggested that if the bid succeeded, BAE Systems would put its submarine business into a joint venture with Carlyle alongside the Devonport assets. The reports also suggested that there could be a rival bid from Babcock International which owns Rosyth naval dockyard on the Firth of Forth, and runs the Royal Navy's submarine base at Faslane on the Clyde.[40]

29. It is disappointing that the consolidation in the submarine industry did not take place in 2006 as expected. We look to the MoD to continue to encourage industry to integrate, as this will be vital to ensuring that there is a focus on Through Life Capability which should deliver substantial savings to the MoD. If the Government's proposal for a new generation of nuclear missile submarines is accepted, it will be essential to have an efficient submarine industry focused on through-life costs.

30. At the evidence session, we also asked Lord Drayson about the award of the contract for the fourth Astute submarine. He expected to be able to be in a position to make a decision on boat 4 early in 2007. He recognised that orders needed to be placed at a regular frequency—approximately every 22 months—to maintain capability in the submarine industry, but he wanted to see improvements which would deliver value for money. We wondered whether industry was taking the boat 4 order for granted. Lord Drayson assured us that industry was "very clear that we are very serious about price; we are very serious about the changes…. I think what we are seeing is that the industry has got this message and is making the changes".[41] We note the Minister for Defence Procurement's confidence that the submarine industry is making the value for money improvements required by the MoD, which should enable the MoD to make a decision on Astute boat 4 in early 2007. Given the importance of this contract to maintaining capability in the UK's submarine industry, we plan to watch this closely.

31. We asked when the Maritime Industrial Strategy would be implemented. Lord Drayson said that he "would be very disappointed indeed, if, six months from now, we did not have the answer to this". He thought that within six months we would see that the Maritime Industrial Strategy implemented in both the submarines and ships sectors.[42]

FIXED-WING AIRCRAFT SECTOR

32. Section B4 of the DIS considers the fixed-wing sector, which includes fast jets, air transport, air refuelling, maritime patrol, airborne surveillance, uninhabited aerial vehicles and aerospace sub-systems.[43] In our first report into the DIS, we noted that the Royal Air Force was in the middle of a substantial re-equipment programme, with the introduction of Typhoon aircraft and the Joint Strike Fighter expected to enter service in the next decade. Both of these aircraft were expected to remain in service for at least thirty years and the MoD's plans did not envisage the UK needing to design a build a future generation of manned fast jet aircraft beyond these projects. The UK needed to retain aerospace engineering and design capability to support, operate and upgrade these aircraft through life.[44]

33. In the checklist provided by the MoD during our first inquiry into the DIS, the MoD was to "work with BAE systems and the other companies in the defence aerospace sector so that it can reach the appropriate size and shape for demand…. we aim during 2006 to agree the way ahead"[45] Lord Drayson told us that the MoD was pretty close to an agreement with BAE Systems. The MoD's Commercial Director was leading the negotiations with the aerospace industry to ensure that the MoD "get value out of the changes, and we are not paying for the industry to do things which we do not need the industry to do".[46] We note that the MoD is still working with BAE Systems and other companies in the aerospace sector to reach agreement on the appropriate size of the sector given current and future demand.

Typhoon

34. Typhoon, formerly known as Eurofighter, was originally designed for air superiority, but will also be capable of delivering a precision ground attack capability. The aircraft is a collaborative project with Germany, Italy and Spain.[47] Lord Drayson told us that he wanted to deliver further changes in 2007 in the "Typhoon industrial structure relationship with the other partner nations". He considered that there had been some good progress, but significant change and improvement was needed in the Typhoon arrangements between the four partner nations.[48] Before the MoD could place an order for the third tranche of Typhoon aircraft, it wanted to see a remodelling of the Typhoon structure. Lord Drayson said it was about

35. While other collaborative nations shared the wish to improve the structure of the Typhoon programme, Lord Drayson considered that there was a "difference of opinion on the urgency".[50] The UK's urgency was because it needed "to see the changes in terms of upgrades to the fighter to give it a ground attack capability".[51] He considered that the Typhoon "could have a very big effect if given ground attack capability, for example in Afghanistan". He said that this needed to be done efficiently and considered that there were real opportunities to improve efficiency.[52]

36. The Typhoon aircraft needs to be upgraded so that it can take on the ground attack role required in current operations. We support the MoD in its aim to improve the industrial structure of the Typhoon collaborative programme, so that the required upgrading of Typhoon aircraft can be undertaken as efficiently as possible and better value for money delivered across the whole Typhoon programme.

Unmanned Aerial Vehicles

37. In the DIS, the MoD acknowledged that it shared "a close alignment of interest" with industry in unmanned aerial vehicles (UAVs) and uninhabited combat aerial vehicles (UCAVs). However, there was no funded UCAV programme and a targeted investment in UCAV technology demonstrator programmes would help to sustain the aerospace and design capabilities which the UK needed.[53] In our first report on the DIS we examined the MoD's investment in UAVs and UCAVs. The Royal Aeronautical Society told us during our first inquiry into the DIS that it was imperative that the DIS proposals for UAV and UCAV technology demonstration were fully implemented as an onshore UK capability would be essential for the UK to participate in international programmes.[54]

38. On 11 December 2006, the MoD announced that it had taken a major step towards the UK's first unmanned combat aircraft: a four-year development programme, Taranis. The programme will provide the RAF with a demonstrator that will form the basis of its plans to build the first pilotless front line fighter-bomber. BAE Systems has been awarded the lead contract, worth £124 million, to develop a world class UAV demonstrator programme.[55] Lord Drayson told us that it had taken a year to put together the Taranis programme and that this was "going to be another important part of future workload for the industry".[56] We welcome the MoD's decision to fund a four year UAV Technology Demonstrator Programme. UAVs have the potential to provide a new dimension to the force mix in the future.

COMPLEX WEAPONS SECTOR

39. The DIS defines complex weapons as "strategic and tactical weapons reliant upon guidance systems to achieve precision effects". Tactical complex weapons fall largely into five categories: Air-to-Air; Air Defence; Air to Surface; Anti-Ship/Submarine (including Torpedoes); and Surface to Surface.[57] Such weapons provided UK Armed Forces with battle-winning precision effects and the UK had made significant investment in the upgrade and development of complex weapons. The investment in 2006 was still forecast to be just over £1 billion, but would reduce by some 40% cent over the following five years. The DIS acknowledged that this would present a substantial challenge to industry: the MoD planned to work with the onshore industry to assess whether it was possible to achieve a sustainable industry that met the UK's requirements. The DIS noted that there was potential for industrial rationalisation and consolidation.[58]

40. On 19 July 2006, the MoD announced that a new industrial partnership had been formed to meet the challenge of maintaining key skills in missile development within the UK. "Team CW" (Complex Weapons) is led by MBDA Missile Systems. The MoD also announced the procurement strategy for the Loitering Munition Demonstration and Manufacture programme, potentially worth more than £500 million. The procurement strategy will see a contract awarded single-source to Team CW, subject to the successful conclusion of the programme's assessment phase.[59] Lord Drayson considered that there had been good early progress in the complex weapons sector. However, he wished to see "Team Complex Weapons coming together to manage a very difficult decline in future orders for complex weapons—we need to see that agreement concluded and signed in the early part of next year".[60] We welcome the formation of Team Complex Weapons which should help sustain key skills and capability within the UK. We look to the MoD to ensure that the required agreement in this area is concluded and signed early in 2007.

IMPACT ON DIFFERENT SECTORS

41. In our first report on the DIS, we examined the impact on jobs of the reshaping of the defence industry. We were told that there would be job increases in some sectors and decreases in others.[61]

42. The reshaping of the complex weapons sector has led to job losses. Lord Drayson told us that "we are talking about hundreds of people in different businesses".[62] However, the MoD considered that without the DIS, the approach in this sector would have been less strategic and would have resulted in greater job losses.[63]

43. The DTI acknowledges that, given that it was the "Government's Defence Industrial Strategy", it has an obligation to work closely with the MoD where there are job losses in the defence industry. Regional Development Agencies "try and do as much as possible to work with the local providers on the ground, the job centres and the Learning and Skills Council, to put together packages of support to try and help in these circumstances and to try and look ahead and ameliorate the situation".[64]

44. For job losses in the aerospace sector, there tended to be more of a lead time and it was possible to do more planning and put in place programmes that helped the industry adjust over a longer period. Mr Gibson, Director General Enterprise and Business Group, DTI, considered that "the bigger the job losses the more the regional agencies have to step up to the mark". In his view "they have done pretty well recently".[65]

45. The DTI also works closely with the devolved agencies and the working relations were considered to be very good. Mr Gibson considered the relationship between the DTI and the MoD to be "the best ever" and that the DIS had played a major role in that.[66]

46. It is regrettable that the reshaping of the defence industry required by the Defence Industrial Strategy has resulted in job decreases in some sectors of the defence industry. However, a more streamlined defence industry will better match the MoD's current and future requirements and ensure that the industry remains competitive when bidding for overseas defence contracts. We note that the MoD, the Department for Trade and Industry, the Regional Development Agencies and the devolved agencies are working closely together to provide appropriate support to those areas affected by reductions in defence work. Value for money in defence procurement is important to the defence budget as well as to industry.

Retaining skills in the defence sector

47. In many sectors of the defence industry there will be less focus on the design and development of new platforms and more of a focus on the insertion of upgrades and new capabilities and through-life maintenance of existing platforms. This change risks making the defence industry less attractive to engineers, scientists and technicians whose interest might be in working at the cutting edge of design for new equipment. The MoD is aware of this risk and with industry has set up "team defence" to promote opportunities for scientists and engineers working within the defence industry. One of the approaches is to raise the profile of defence and of the rewarding and interesting careers that were available within the MoD and the defence industry. The MoD has made changes to its graduate recruitment programme, Lord Drayson considered that "the human resources picture is looking pretty healthy in terms of getting young people joining", but he acknowledged that further work was needed in career development for scientists and engineers working within procurement.[67]

48. We consider it vital that the MoD and the defence industry continue to recruit and retain high quality staff, in particular, engineers, scientists and technicians, in this period of change. Such staff are key to ensuring that the benefits of the DIS are delivered. We welcome the joint "team defence" initiative which has been launched to promote the opportunities in the defence industry. We look to the MoD and industry to continue to review career development opportunities to ensure that high quality staff in specialist areas are not lost.

CONSOLIDATION IN THE UK DEFENCE INDUSTRY

49. Over the last decade the UK has seen substantial consolidation in the UK defence industry, including the acquisition of UK defence companies by foreign defence companies. Lord Drayson expected the pace of change within the defence industry at the international level to maintain the "fairly fast rate" seen in the recent past and further consolidation to take place.[68] Further consolidation in the defence industry has continued with the announcement in mid-January 2007 that the aerospace division of Smiths Group, a UK company which makes landing gear and propellers, was to be sold to General Electric, the US conglomerate.[69]

50. Lord Drayson told us that he

51. Lord Drayson said that the Future Rapid Effect System (FRES) programme was one where the UK required the intellectual property and the design authority to reside in the UK, and companies had to compete on that basis. Boeing, a US company, was setting up facilities in the UK to put itself in a position to be able to compete for this programme.[71] We are currently examining the FRES programme and the Army's requirement for fighting vehicles in a separate inquiry.[72]

Changes to the MoD

52. During our first inquiry into the DIS, Lord Drayson told us that he thought that there was a duty on the MoD to demonstrate by changing its own working practices and culture that it was serious about the DIS.[73] He said that he aimed to surprise us "by the pace of change we are able to achieve in the Ministry of Defence".[74] The MoD's Permanent Under Secretary of State commissioned a review at the end of 2005 to look at the way the MoD equipment acquisition function worked, how it was structured and how it could be made to work better.[75] The outcome of the review was published on 3 July 2006, Enabling Acquisition Change, an examination of the Ministry of Defence's ability to undertake Through Life Capability Management. The report examined the current structures, organisations and processes with the aim of maximising the MoD's ability to deliver a key objective of the DIS, Through Life Capability Management, which focuses on the costs and capabilities of equipment throughout its life, not just the purchase price. The report recommended the merger of the Defence Procurement Agency (DPA) and the Defence Logistics Organisation (DLO). The new merged organisation, Defence Equipment & Support, will begin operating on 2 April 2007.

53. We examined how the recommendations in the Enabling Acquisition Change report were being taken forward by the MoD in our Defence Procurement 2006 report.[76] In our report, we recommended that the MoD provide us with quarterly reports on the progress of the merger of the DPA and DLO. We plan to examine in a future inquiry the MoD's progress in implementing the recommendations of the Enabling Acquisition Change report and whether the expected improvements in equipment acquisition are delivered.

54. The merged DPA and DLO will focus on improving Through Life Capability Management and responding with more agility to the needs of the Armed Forces. MoD staff will need to be trained in a range of skills to ensure that the expected improvements are delivered. RUSI's report The Defence Industrial Strategy: An Analysis of Industry Response, noted that there was a general concern in industry that the MoD would not be able to perform effectively as a customer as it lacked the necessary commercial expertise.[77] In its submission to our inquiry, the Defence Manufacturers Association (DMA) told us that the skills issue would continue to be a problem at many levels, especially for commercial and technical staff.[78]

55. The Chief of Defence Procurement has acknowledged that more investment was needed in staff training in areas such as project management, finance, commercial skills and certain technical specialist skills.[79] During our Defence Procurement 2006 inquiry, we were told that the MoD was seeking to identify the skills gaps and how to address these.[80] Mr Morse, the MoD's first Commercial Director, who had experience as a "manager of the business" at PricewaterhouseCoopers, told us during this inquiry that he was "in charge of developing the skills and capabilities of the commercial team across the MoD".[81]

56. Improving the skills of MoD staff, particularly commercial and technical skills, will be crucial to ensuring that the expected benefits from the DIS are delivered. The MoD is seeking to address skills gaps through training or external recruitment. The appointment of the first MoD Commercial Director is welcome, but he must be given the resources needed to develop the commercial skills of MoD staff.

Research and Technology

57. The MoD's Defence Technology Strategy (DTS) was launched on 17 October 2006.[82] At the launch, Lord Drayson said:

58. Included in the DTS were several initiatives aimed at supporting and encouraging innovation and the science and engineering base in the UK. The 'Competition of Ideas' is an internet-based competition which aims to encourage innovators including individuals, academia and Small and Medium-size Enterprises (SMEs), to suggest practical solutions to specific technical challenges facing the MoD. The 'Grand Challenge' is an initiative to produce an autonomous or semi-autonomous system designed to detect, identify, monitor and report a comprehensive range of physical threats in a complex urban environment.[84]

59. In our first report on the DIS, we expressed concern about the decline in defence research spending and the impact of this on the quality of future equipment for the Armed Forces. We looked to the MoD to address the level of spending on defence research in the DTS and to make a strong case for increased funding of defence research during the discussions with HM Treasury on the Comprehensive Spending Review. We saw this as a key investment for the future.[85]

60. In their written submissions to this inquiry, the DMA, SBAC and QinetiQ commented on the DTS and specifically on the investment in defence research. Their views on the issue of investment in defence research are set out in Table 2.

Table 2: Comments on the investment in defence research

	Comment
DMA	"The DMA welcomed the publication of the Defence Technology Strategy. It is a helpful document, albeit Industry is convinced that, without a real increase in MoD research investment, many of its aspirations will remain unfulfilled".
SBAC	"Despite the publication of the Defence Technology Strategy, there still appears to be a gap in understanding between Government and industry as to the incentives needed to achieve greater industry investment in support of defence technology programmes. The DTS does not give a picture which is sufficiently complete for industry to make investment decisions. Greater transparency on how research and technology investment will flow through to procurement and how Intellectual Property Rights will be protected are areas where greater clarity is needed".
QinetiQ	"to maintain the option to have 'smaller, smarter forces' the UK must reverse the long-term decline in defence R&D. This requires an increase in both near-horizon and far-horizon research…. Whether the investment is made direct by Government, or indirectly through accepting higher profit margins on supply contracts to incentivise this activity, the equivalent of some £250M is required to maintain our competitive position. This is not an affordable option for MoD within its current budget".

Source: DMA, SBAC and QinetiQ submissions[86]

In its Analysis of Industry Responses to the DIS, RUSI noted that there was a "recurring message that research and technology is under-funded by MoD and that this situation is unlikely to change substantially in the future".[87]

61. The DTS stated that "The Government has set a target to raise national investment in R&D to 2.5% of GDP by 2014. The Government has increased its own national R&D spending and is looking to industry to play its part in meeting this target".[88] We asked how much the MoD would be contributing to this target. Lord Drayson told us that:

62. Lord Drayson told us that the MoD was discussing with industry the issue of rewards and incentives for industry taking more risk in investing in research and expected this to become clearer in the first part of 2007 and then be part of an overall plan for MoD investment in research.[90] However, he could not say how much the MoD's cash contribution would be to defence research investment and would only know this once the discussions had ended with industry. It was acknowledged that industry would take "some convincing" on this issue.[91] The MoD's supplementary memorandum states that "the Defence Technology Strategy is affordable within the current research budget provided that both MoD and industry invest to develop and sustain the necessary technology base".[92]

63. Lord Drayson said that in addition to working on an agreed framework with industry on risk and reward, and how that is shared, the MoD was also looking at ways to cut out waste. The MoD was prepared to kill off projects early if they were not going well. Lord Drayson told us that the MoD had an effective process for the management of innovation and learning from other industries which use other techniques to manage innovation.[93]

64. We note the publication of the Defence Technology Strategy and the MoD's initiatives to encourage innovation, such as the Competition of Ideas and the Grand Challenge. We are disappointed that the Strategy did not set out how much the MoD would be investing of its budget in defence research. We will be examining the funding of Defence Research and Technology in our forthcoming report on the work of the Defence Science and Technology Laboratory.

Small and Medium-size Enterprises and the supply chain

65. The DIS states that "around 165,000 people are directly employed in defence manufacturing in the UK, with a further 135,000 people employed indirectly in supply chain activity".[94] In our first report on the DIS we noted that the MoD had sought to become more "user friendly" to Small and Medium-size Enterprises (SMEs) and looked to the MoD to improve its visibility of such companies. We were concerned to learn that the MoD was at "the start of a journey " in terms of understanding supply chains and how to manage them.[95] In its submission to this inquiry, the SBAC emphasised the importance of supply chains to the success of the DIS:

66. The DMA considered that "considerable joint discussion" has gone on and working groups set up to consider issues concerning access to market, SMEs and Supply Chains, but that progress had been slow. The DMA had recently made proposals to the MoD which it believed could help, but would require some additional staff to be implemented effectively.[97]

67. Lord Drayson considered it very important for the MoD as a customer to have a healthy supply chain. The MoD did two things to help ensure this. First, it assessed how well a potential contractor understood its supply chain. Secondly, it put in place "contractual elements to make sure that they are incentivised to fairly develop that supply chain".[98] We asked how the MoD checked that contractors carried out their contractual obligations regarding supply chains. Mr Gould, Deputy Chief Executive of the Defence Procurement Agency, told us that the MoD obliged contractors to tell them what their supply chain were and that the move to longer term arrangements with contractors put the MoD in a stronger position to do this.[99]

68. The MoD has sought to improve its understanding of Small and Medium-size Enterprises and the supply chain, but its progress has been considered slow by one of the major defence trade associations. The MoD should continue to work closely with the defence trade associations, the Department of Trade and Industry, the Treasury, Regional Development Agencies, and the devolved agencies, to identify approaches to improve its understanding in this area further. This will be vital to the success of the DIS. Prime contractors also need to improve their understanding of supply chains and the key role of Small and Medium-size Enterprises.

69. SMEs need to innovate to get into the supply chain and to get into business with the larger defence companies. They therefore tend to invest more in R&T. Mr Gould told us that "when you ask them [SMEs] "How much of your profit do you reinvest in research and technology" the answer is much more positive, much higher levels of reinvestment in medium-sized companies than you find in the big primes".[100] Small and Medium-size Enterprises are often the source of highly innovative ideas and products. In understanding supply chains, the MoD must improve its understanding of the contribution made by such companies and the impact if they disappeared from the supply chain. We look to the MoD to improve its understanding of the innovation provided by Small and Medium-size Enterprises and the investment they make in Research and Technology.

Competition and partnering arrangements

70. The DIS stated that "Open and fair competition is a fundamental component of our procurement policy to deliver affordable defence capability at better overall value for money".[101] However, the DIS also identified alternatives to competitive procurement, and stated there would be more use of partnering arrangements. One of the major partnering arrangements announced in 2006 was with AgustaWestland which aims to improve the speed of delivery of new helicopters, reduce acquisition and support costs, and increase the availability of helicopters to the front line.[102]

71. Many of the MoD's programmes have elements of partnering and in 2006 the MoD entered into several contracts for through-life support for major assets including: a £450 million Merlin helicopter Integrated Operational Support contract awarded to AgustaWestland; a £200 million Chinook helicopter Through Life Customer Support contract awarded to Boeing; and a £1.52 billion Hercules transport aircraft Integrated Operational Support contract awarded to Marshall Aerospace.[103]

72. The new post of MoD Commercial Director has been given a range of responsibilities, including providing strategic leadership across all the MoD's commercial and procurement activities, championing best practice and leading on strategic relationships with industry.[104] We asked Mr Morse what experience he had of setting up and overseeing long-term partnering arrangements. He told us that when he worked for PricewaterhouseCoopers he was involved in looking at partnering arrangements, including looking at best practice round the world, but did not consider himself an expert on such arrangements and had not joined the MoD on that basis.[105] We enquired whether the MoD had the required skills to be able to partner properly. Mr Morse told us that "I am not going to pretend that we have them in the depth or the quantity that we would like, and therefore we have a programme in place to build those skills and capabilities to a requisite level within the MoD".[106]

73. Long-term partnering arrangements are a new approach for the MoD and require specialist skills in negotiating and letting the contracts for such arrangements, and for monitoring performance once contracts have been let. We look to the MoD to ensure that its staff who deal with long-term partnering arrangements have sufficient training in such arrangements, or recruit staff with the experience required.

74. In its written submission, the SBAC notes that the MoD is still working on its models for long-term partnering agreements and considers it critical that the principles underpinning the agreements should be transparent to all. The MoD's publication Capability Management Guiding Principles is considered an excellent example of the proactive work that the MoD has been doing and the SBAC would welcome a similar publication giving guiding principles for partnering.[107] We consider that there would be real benefit in the MoD producing a document for industry which set out what partnering relationships should look like, and the principles underpinning long-term partnering agreements. We look to the MoD to take this forward.

75. In our first inquiry into the DIS, we recognised that some of the contracts for long-term partnering arrangements would be let on a non-competitive basis and that, in many areas, the MoD would be dealing with a monopoly supplier if the work was to be retained in the UK. We argued that there ought to be scope for competition for the work underlying such arrangements. We had heard concerns from some companies that they did not think they would get an opportunity to compete for work underlying these arrangements.[108] Mr Morse told us that he thought it was possible to introduce competition "both in the inception and in the phasing of some of these long-term relationships. In other words, if a contractor is not performing under a number of criteria in a satisfactory way you can create opportunities to introduce competition at various points".[109]

76. We asked the MoD whether the proportion of defence contracts let competitively would decline in the future because of the shift to long-term partnering arrangements. The MoD told us that there had been a reduction in the total number of contracts let competitively over the last four years, but not a significant reduction in the proportion, by value, of contracts that were subject to competition. MoD also told us that:

110

77. The MoD has taken a range of measures to ensure that sub-primes and SMEs have an opportunity to compete for work, including: the Defence Supplier Service which provides advice and guidance on becoming defence suppliers; encouraging Prime Contractors to advertise their sub-contract opportunities in the Defence Contracts Bulletin; and "a wide range of shop window events" organised for SMEs where they can "access the range of capabilities that the MoD is currently seeking to address".[111]

78. Some long-term partnering arrangements will be let on a non-competitive basis as in some sectors, if the work is to be retained in the UK, there is no other supplier. There is, therefore, a risk that the MoD may not be contracting with the most efficient supplier and achieving best value for money. We consider it vital that the MoD build into such long-term partnering arrangements incentives which drive real efficiency into the supplier's organisation. This will be particularly important where the throughput of work for such arrangements may well reduce in the future.

79. We note that it is possible to have competition for the work underlying long-term partnering arrangements and that the MoD has introduced measures to encourage this. We consider it important that Small and Medium-size Enterprises are provided with an opportunity to compete for such work and look to the MoD to ensure such opportunities are provided.

Sovereign capability

80. In his statement to the House on 15 December 2005, the Secretary of State said that the DIS

communicates for the first time to industry…. those skills, technologies and industrial capabilities that are assessed as being required onshore in the UK in order to sustain the armed forces' ability to operate with an appropriate level of sovereignty.[

112

As much future work will focus on maintaining and upgrading platforms, the MoD will need access to technical information and Intellectual Property Rights so it can maintain and upgrade platforms and ensure operational sovereignty.

JOINT STRIKE FIGHTER

81. We have repeatedly raised concerns about technology transfer on the Joint Strike Fighter (JSF) programme. Most recently in our Defence Procurement 2006 report we concluded that:

If the UK does not obtain the assurances it needs from the United States, then it should not sign the Memorandum of Understanding covering production, sustainment and follow-on development.[

113

82. The Memorandum of Understanding (MOU) for the next phase of the JSF programme was signed on 12 December 2006 by the Minister for Defence Procurement, following a meeting with the US Deputy Secretary of Defense, Gordon England, in Washington DC. Lord Drayson said:

114

Lord Drayson told us that he was grateful for the stance this Committee had taken on the JSF and the issue of technology transfer, and considered that we had made a real difference in making clear what the UK required in order to proceed with the procurement of JSF aircraft.[115]

83. We asked Lord Drayson what was the nature of the assurances obtained and whether they covered the technology and information required, not just by the UK Government, but also by UK industry. Lord Drayson stated that the assurances also provided for what industry needed. He was confident that UK industry would have what it needed to deliver operational sovereignty.[116] He agreed that the MoD needed to make sure "that technology transfer happens", and maintain the focus on the delivery of the technology transfer through the development of the JSF. He had a high degree of confidence that the technology transfer would be delivered and that the agreement reached with the US provided real clarity on this.[117]

84. We asked Lord Drayson whether the UK would be able to operate the aircraft and fly the aircraft from mission to mission independently of the US. He told us "absolutely, yes".[118] He said that a clear principle set out in the MOU was that "UK citizens will be in the chain of command to deliver operational sovereignty, unbroken, no US citizens in that chain of command".[119]

85. Lord Drayson confirmed that the assurances relating to technology transfer were contained within the MOU.[120] This is not strictly correct. The MOU, which came into effect on 31 December 2006, sets out the general framework, but the MoD told us that the "specific assurances provided by the US are contained in a separate highly classified bilateral supplement to the MOU".[121] The supplement details the specific areas of information which are critical to the delivery of operational sovereignty. We were told that "due to the nature of the arrangements set out in this supplement and its classification", it could not be released to this Committee.[122]

86. We welcome the signature of the Memorandum of Understanding covering production, sustainment and follow-on development on the Joint Strike Fighter programme, and congratulate the Minister for Defence Procurement and his staff on its achievement. Because of the MoD's unwillingness to provide us with the supplement to the Memorandum of Understanding, we can only report that the Minister for Defence Procurement has assured us that the UK will get all the technology transfer it requires to operate the Joint Strike Fighter independently. While we are of course pleased to hear this, we continue to have concerns about how things will work out. In particular, we will wish to probe how robust the Memorandum of Understanding will prove in practice and will seek an early opportunity to take oral evidence on this. UK industry also needs to know to what extent it will have access to the technology transferred under the Memorandum of Understanding agreement and its unpublished supplement. These are matters that we will monitor closely.

87. During our inquiry into the Future Carrier and Joint Combat Aircraft programmes, we were concerned to hear reports of possible cuts in the US JSF programme, and in particular to the Short Take Off and Vertical Landing (STOVL) variant of the JSF, the variant which the UK is procuring.[123] Lord Drayson told us that he had pressed the US Administration on its commitment to the JSF programme and the STOVL variant, and that he was reassured by the answers he got from the US Deputy Secretary of Defense who was "very hard in terms of the focus, in terms of the project not going to the right, the project being delivered and the necessary leadership being provided to ensure that happens".[124] The Minister for Defence Procurement assured us that the US Administration was still committed to the JSF programme and specifically the STOVL variant of the JSF which the UK is procuring. We expect the MoD to keep a close watch on any possible changes to the US JSF programme given the potential impact on the UK JSF programme.

WIDER LESSONS RELATING TO TECHNOLOGY TRANSFER

88. Discussions about technology transfer on the JSF programme with the US were on-going throughout 2006. Given that the UK is procuring a number of defence equipments from the US, the issue of technology transfer is likely to surface again. It would appear sensible to have an overarching agreement, rather than tackling each programme separately. The discussions on the JSF programme have resulted in improvements on other programmes. Lord Drayson told us that there had been an improvement over the last three months or so in terms of the speed and efficiency of the technology transfer decision-making process on other programmes, such as the future strategic tanker.[125] He also told us that:

126

89. There is an initiative underway to create an overarching agreement with the US on the issue of technology transfer. We recommend that the UK Government attach the highest priority to achieving this aim, as a concrete embodiment of the relationship which the UK enjoys with the US. This is needed to ensure that separate negotiations do not have to take place for each future equipment programme and it should lead to quicker decision-making on the specific technology transfers for future programmes. We look to the MoD to ensure that the overarching agreement covers industry to industry technology transfer as well as Government to Government technology transfer, and clarifies the position of UK companies with subsidiaries within the USA.

MUNITIONS

90. In our first report on the DIS we examined the issue of security of supply in the general munitions sector. We were concerned to learn that BAE Systems was closing two of the former Royal Ordnance Factories which it owned and that the MoD would be dependent on overseas sources for the supply of the munitions which were manufactured by these two factories. We were assured by the MoD that the two sites would not be closed until it was "absolutely sure" that a secure alternative supply of the munitions existed.[127]

91. The MoD has informed us that it is now (mid-January 2007) finalising the alternative supply arrangements to replace production at the Bridgwater and Chorley sites. The MoD told us that:

128

92. Some of the raw materials for explosive manufacture are to be imported from the US and from France. The MoD have assured us that it has "carefully scrutinised" the proposed supply arrangements. If the supply was interrupted from one source, BAE Systems "will retain the technical ability to switch to the alternative…. or draw on existing stockpiles". The MoD "is assured that the new arrangements will provide security of supply at least as great as that provided by Bridgwater and Chorley".[129] The MoD is finalising new arrangements for the supply of munitions after the former Royal Ordnance Factory sites at Bridgwater and Chorley close. It is confident that these arrangements will provide security of supply in this critical area.

93. In the checklist provided by the MoD during our first inquiry into the DIS, the MoD was to "be taking forward Project MASS [Munitions Acquisition the Supply Solution], with a view to making decisions on how best to sustain our required access to general munitions in the summer of next year"[130] Project MASS was "charged with delivering a value for money and secure supply of general munitions" and approval was given to pursue a long term partnering agreement with BAES Land Systems Munitions. The MoD told us that "no decision has yet been taken on how best to sustain the required access to general munitions but the ongoing work with Project MASS and the General Munitions Industry Strategy (GMIS) will provide the basis of this decision". The aim of the MoD was to have a firm investment commitment to proceed with Project MASS by the end of 2007.[131] Work on how best to sustain the required access to general munitions is ongoing. We look to the MoD to complete this work and commit the required investment by the end of 2007 as planned.

7 Ev 28-33 Back

8 HC (2005-06) 824, Ev 118-120 Back

9 Ev 28-33 Back

10 Q 2 Back

11 Ev 22 Back

12 Cm 6697, Foreword Back

13 Ev 34 Back

14 Q 25 Back

15 Q 26 Back

16 Q 42 Back

17 Ibid. Back

18 The Times, Ministry urges VT Group and BAE to tie knot, 15 November 2006 Back