House of Commons - Trade and Industry

Select Committee on Trade and Industry Ninth Report

3 Government's future role

30. The outcome of the Power8 restructuring and the allocation of work packages for the A350 XWB represented comparatively good news for Airbus UK and the Government, given the large challenges the parent company currently faces. This does not mean that Airbus's indefinite presence in the UK can be taken for granted. There are various ways in which the Government will have to support the company in the future if the current restructuring is to represent more than a medium-term 'stay of execution'. This Chapter considers the future role of government lobbying in this regard; research and technology (R&T) support for the sector; the contribution made by the Regional Development Agencies (RDAs); and the importance of the WTO dispute in determining the future shape of publicly funded financing for the company.

Government lobbying

31. As noted in Chapter 1, in October 2006 BAE Systems sold its 20% stake in Airbus to EADS, leaving no significant UK shareholder in the company. The response of industry to this development has generally been sanguine. Airbus UK told us the sale had "little effect on the UK's voice in any debate regarding industrial decisions".[86] SBAC noted it was "unlikely to make a difference to medium term prospects for employment and investment in Airbus UK".[87] In contrast, though, the Confederation of Shipbuilding and Engineering Unions told us the sale had "created the potential for other shareholders to manoeuvre themselves into more advantageous positions at our expense".[88]

32. The potential political ramifications of the sale of BAE Systems' stake were also of concern to the DTI. Hence, prior to the sale, the Government actively engaged at ministerial and official level with EADS and Airbus in order to agree certain concessions from the parent company. In June 2006, the DTI announced that EADS had agreed to transfer to the Government the undertakings given to BAE Systems by EADS in 2000. The details of the undertakings are confidential, but essentially are designed to ensure that any decisions on the location of work packages affecting the UK are made on commercial grounds, without political influence or pressure.[89] EADS also agreed to create a 'transparency mechanism' with regard to decisions about location of work; to establish a UK research and development centre; and to appoint a non-executive director to the EADS board agreed by the UK Government. EADS also said it would consider a secondary listing on the London Stock Exchange, although it has subsequently decided not to pursue this.[90]

33. Nevertheless, the DTI Minister admitted to us that the sale of BAE Systems' stake had "weakened our bargaining position".[91] As a consequence, for the Power8 restructuring and A350 XWB work package negotiations, the Government has had to make up for the lack of leverage bestowed by share-ownership, and make the case for the UK by other means. Airbus UK told us it had "an exemplary record in delivering top quality products to the Airbus final assembly lines on time and in budget" and that this was the primary argument that could be made in negotiations for future investment.[92] However, in the run-up to the Power8 announcement, there were reports of both the UK and Germany threatening to cancel military contracts with EADS if they did not receive a satisfactory outcome.[93] It is not possible to say whether the UK Government explicitly made this threat, or indeed whether it would have been credible if it had. That said, the DTI Minister told us:

"I think both EADS and Airbus recognise the importance of the UK, both because of our experience and expertise, and because of our position as a customer in the civil and defence aviation sectors, and therefore we were able to negotiate that satisfactory outcome."[94]

34. Without a significant UK shareholding in Airbus, the Government's bargaining position vis-à-vis the other parent countries has been weakened. Whether the emphasis of the UK Government's negotiating strategy for Power8 and the allocation of A350 XWB work packages was on the 'carrot' or the 'stick', the approach worked in terms of achieving a successful outcome for the UK. This is encouraging, given that it is the only modus operandi now available to the Government. We hope, though, that through its negotiations, the Government has not undermined the undertakings agreed with EADS designed to ensure that work package decisions affecting the UK are taken on commercial grounds, free from political interference.

Support for research and technology development

35. The technology used in new aircraft is typically derived from research and development (R&D) activities undertaken at least a decade previously. For example, much of the new technology in Boeing's popular 787 Dreamliner is the result of investments made by government-funded NASA programmes in the 1990s.[95] Not only is R&D a long-term activity, it is also one which generates wider economic benefits. For example, a study by Oxford Economic Forecasting estimates that a one-time £100 million investment in R&D raises UK GDP by £50 million per annum.[96] The UK aerospace industry has a good record of investing in research, spending £2.52 billion on R&D in 2005/06, accounting for 13% of the total R&D expenditure of the UK's top 800 companies.[97] Airbus UK is one of the largest investors in R&D in the aerospace sector, spending £343 million in 2005/06—an average of £34,000 per employee.[98]

36. Despite the high level of company-funded aerospace R&D expenditure in the UK, the long-term nature and wider economic benefits of such activities means there is an important role for government to play in leveraging further investment over and above that which the private sector would carry out on its own. As SBAC put it, the "support we are looking for from government is … at the very early stage where there is no identifiable commercial application"; in other words, where the risks, but potentially also the benefits, are greatest.[99] To this end, the Aerospace Innovation and Growth Team (AeIGT) was launched by the Government in 2002 to help maintain the UK aerospace industry's global position, and develop world-class technologies. Its final report recommended the creation of a National Aerospace Technology Strategy (NATS). Subsequently developed by the AeIGT, the Strategy is a collaborative effort between government, industry and academia. Its aim is to ensure that the technology generated by the UK's science base flows through to industry for commercial exploitation.[100] To ensure the successful implementation of NATS, it was estimated that £300 million of annual expenditure was necessary across a range of research topics. In particular, it set out the need for government expenditure on civil aerospace research and technology (R&T) development to be raised from its 2004 level of around £20 million per annum, to £70 million per annum, matched by industry.[101]

37. The Government has made some progress in raising the level of funding for civil aerospace R&T, through the DTI's Technology Programme. Since its launch in April 2004, the aerospace industry has been awarded £110 million—roughly a quarter of the total available funding under the Technology Programme. On top of this, the Regional Development Agencies have provided £43 million of support. In total, the Department estimates that annual funding for the sector has risen to £45 million a year—more than twice the level of government investment provided under its previous sector support scheme, the Civil Aircraft Research and Technology Demonstration (CARAD) programme.[102] Proportionately, Airbus UK has done even better. Whereas before it had typically received around £2 million per year, projects involving the company are currently receiving around £14 million a year.[103] One example is the National Composites Network, which is supporting the development of four regional centres for research into composite technologies. As noted earlier, one of these is being led by Airbus UK at its Filton plant, where it is working in collaboration with other companies and the University of Bristol.[104] Overall, the DTI believes it "has made good progress so far in launching projects that meet Airbus's strategic needs, drawing on both national and regional resources".[105]

38. Be that as it may, we received evidence from both Airbus UK and the wider aerospace industry stating concern at the current level of government R&T support for the sector.[106] It noted that, while expenditure has risen significantly in recent years, it still falls some way short of the required £70 million per annum set out in the NATS. What is more, the SBAC believes the current level of £45 million will mark a peak in government funding unless exceptional measures are taken.[107] The Confederation of British Industry argued that a doubling of the DTI Technology Programme's budget to at least £625 million would be necessary to ensure a "critical mass of activity".[108]

39. In evidence to us, the industry also criticised certain aspects of the Technology Programme's management. A particular concern was the fact that the Programme is not sector-specific and, as such, the aerospace industry must compete with other sectors for its share of R&T support.[109] Our witnesses argued that this, combined with the ad hoc nature of funding for specific programmes, made it more difficult for firms to make long-term R&T investment decisions. As Airbus UK's Managing Director, Iain Gray, put it: "the aerospace business is a long-term R&D intensive business, and we need … forward visibility of what R&D investment is going to be in the years ahead".[110]

40. In response to these criticisms, the DTI told us it was working to do better, but that it was still proud of the Government's record of raising R&T investment in the sector.[111] The Department also told us it was reforming delivery of the Technology Programme by reconstituting the Technology Strategy Board (TSB) as an executive non-departmental public body, operating at 'arms-length' to government.[112] Whereas previously the TSB's role had been mainly advisory, the Board will now have full responsibility for delivery of the Technology Programme. In so doing, it will have to take account of the long-term needs of nationally agreed strategies such as the NATS. It will also be for the Board to decide whether the current approach of six-monthly competitions for grants is the best way of meeting the needs of business.[113] This suggests that the Department is working to address some of the concerns raised by the aerospace industry. Indeed, the reforms were generally welcomed in the evidence we received.[114]

41. Finally, as noted in Chapter 2, there is competition in R&T between the Airbus partner countries, particularly regarding the development of composites. The more advanced composites expertise developed in Spain and Germany was seen as a risk factor in the allocation of work packages for the A350 XWB. We received conflicting evidence on the relative levels of R&T expenditure by the European partners. The SBAC told us government support for aerospace was much higher in France, Germany and Spain, and funded in a more direct way than in the UK.[115] By contrast, the DTI said that funding by the European governments was more complex, although it believed it to be roughly on a par with that provided here.[116] The Department did acknowledge that the UK is lagging significantly behind the US on R&T investment.[117] This is a concern, given the important role that technological advances have played in making Boeing's newest aircraft, the 787 Dreamliner, so popular.

42. Ongoing investment in research and technology (R&T) development is vitally important for Airbus to remain competitive with Boeing in the long term. European governments therefore have an important role to play in leveraging greater funding for R&T from the aerospace industry. In this context, the UK Government has begun to fulfil its part by doubling its expenditure on civil aerospace R&T to an annual figure of around £45 million. We welcome this increase, but note that it is still well below the £70 million per annum the industry says it needs to implement the National Aerospace Technology Strategy. Given the likely fiscal tightening under the 2007 Comprehensive Spending Review the main way in which the sector is likely to raise its funding further is through more successful applications to the Government's Technology Programme, vis-à-vis other industries. We welcome, too, reforms to the Technology Strategy Board, which should help address concerns regarding the long-term sustainability of R&T funding for aerospace.

43. Looking forward, following the implementation of Power8, we hope that European governments do not engage in potentially wasteful competition between partner countries on overlapping R&T support. Rather, governments should seek to develop a co-ordinated approach to R&T that ensures the long-term competitiveness of Airbus versus its American rival.

The role of the Regional Development Agencies

44. The UK's civil aerospace sector is spread widely across the country, although there are some examples of clustering. For instance, Airbus's Filton operation is estimated to support around 37,000 jobs in the south west, directly, indirectly, or through induced employment.[118] The West of England Aerospace Forum told us the plant's presence acts as a magnet in the region for attracting highly qualified and experienced workers.[119] In addition, the Filton site sources around 40% of its total supplies from the south west, and is responsible for a number of spin-off businesses in the local area.[120] Airbus's Broughton plant is also an example of a regional cluster, employing around 8,000 staff, and indirectly supporting the jobs of a further 12,000 through its supply chain.[121] Generally, though, the aerospace industry is dispersed fairly widely. A clear example of this is the fact that the supply chain for the A380 draws from around 400 UK companies, spread right across the country.[122]

45. Because of the importance of the aerospace sector to many parts of the UK, in recent years the Regional Development Agencies (RDAs) have started to play a role in providing financial support for local firms, in so doing helping to leverage funds from the DTI's Technology Programme. As noted earlier, the Agencies have provided £43 million of R&T support in the past three years. For example, about three quarters of the £18.75 million of public funding for the National Composites Network is being provided by the regions.[123] With £2.3 billion now allocated each year to the RDAs from central government, they are an important potential source of funding for R&T work.[124]

46. The involvement of the RDAs in the aerospace sector has been broadly welcomed by the industry, although our witnesses raised concerns in a few areas. One of the main issues was that of co-ordination. SBAC noted that, while the UK has a National Aerospace Technology Strategy, a large proportion of it is being delivered on a regional basis, involving all three devolved administrations, and seven of the RDAs.[125] Airbus UK thought there was a risk of regions competing with each other and duplicating work.[126] The number of players also creates difficulties from an administrative perspective. Where a consortium may be applying for funds from several RDAs, the industry has often found that Agencies have differing application processes, and use different criteria for assessing projects.[127] This problem is frequently compounded by the fact that major aerospace programmes usually involve a number of companies, reflecting the complexity of the sector's supply chains.

47. In defence of the RDAs, Airbus UK told us: "there are some excellent examples where the Regional Development Agencies have been working in close partnership with industry and making a difference".[128] The DTI was also keen to defend the use of regional support to help deliver a national strategy. The Department told us it had recently agreed with the RDAs to simplify the application process, contract documentation and monitoring procedures for R&T funds provided nationally and regionally. It also committed itself to keep the situation under review to see what further improvements may be achieved.[129]

48. The UK's civil aerospace industry is spread widely across the UK, with a few examples of clusters, such as at Broughton in north Wales, and Filton in the south west. Because of the importance of the sector for many regions, the Regional Development Agencies (RDAs) are now playing an important role in providing R&T funding to the industry. Both Airbus UK and the Society of British Aerospace Companies expressed to us their concern at the level of co-ordination between the regions in the delivery of the National Aerospace Technology Strategy (NATS). We welcome the reforms the DTI has put in place to reduce the administrative burden for firms seeking support but we urge the Department to keep these arrangements under review. We hope, too, that it will engage fully with the RDAs to ensure they work together, and not in competition. Aerospace is an international business and, where UK public support is appropriate, it must not be fragmented.

The WTO dispute and the future of Launch Aid

49. There has been a long history of disputes between Boeing and Airbus over the level of government support from which both companies benefit. Partly, this reflects the different ways in which the US and EU provide this support—the former has traditionally focused primarily on early stage R&T, while the latter has emphasised funding for later stage project development. In 1992, the EU and the Americans signed an agreement placing a ceiling for direct government support of 33% of total development costs.[130] Then in 2004 the US Government unexpectedly withdrew from this agreement, requesting the establishment of a WTO panel. This was triggered in part by European governments' announcement of launch aid support for the A350 (the precursor to the A350 XWB). Launch aid is up-front project investment, paid back to governments in the form of a levy on the sale of each aircraft sold. Over the past 30 years, the UK Government has loaned over £1.2 billion of such investment to Airbus UK, against which it has received payments of around £1.3 billion, with the promise of more to come over the lifetime of Airbus's current aircraft.[131]

50. Since the US withdrawal from the 1992 agreement, the two sides have been locked in dispute. The WTO is adjudicating on two concurrent cases. The US contends that launch aid to Airbus contravenes WTO rules on permissible subsidies because loans are offered below commercial rates of interest, and are repayable on the basis of the volume of sales.[132] In response, the EU has brought a case against the US, which involves purported tax breaks and subsidised bond payments by certain US states. For example, for the 787 Dreamliner the State of Washington provided Boeing with a $3.2 billion tax break, which will run until 2024, in order to prevent the company from moving final assembly work overseas.[133] The EU's case does not even take account of the additional backing for Boeing provided by other countries, such as the $1.6 billion of grants given by the Japanese who are responsible for around 35% of the 787 project. Such support, nevertheless, is of benefit to Boeing. One estimate of the total subsidy for Boeing's 787 programme is as high as $5 billion.[134]

51. The European Commission is leading negotiations on the EU side of the dispute. Because of the complexity of the case a resolution is not expected in the near future.[135] The DTI told us the UK remains in favour of a negotiated solution, although this would be dependent on the US coming up with a credible offer that would allow both sides to compete fairly.[136] Whatever the resolution, it seems likely that future support for Airbus may well take a different form to the type of launch aid provided in the past—either by giving loans on a more commercial basis, or by shifting the focus of support to greater R&T, which is the company's preferred option. Any such outcome would also require the joint agreement of the four parent countries—no mean feat in itself. In the meantime, we support the EU in its WTO case against the US, noting the very high level of public subsidy Boeing receives, not just domestically, but also through other countries involved in the 787 Dreamliner programme. We urge all those responsible for negotiations on the dispute to recognise the scale of Boeing's support coming from other countries and particularly from Japan.

Looking to the future

52. As noted already in this Chapter, despite the comparatively favourable outcome for the UK from the Power8 restructuring and the allocation of work for the A350 XWB, there are still challenges to be faced if the UK's civil aerospace industry is to remain a world leader. Companies are beginning to take advantage of the opportunities offered by countries such as China and India, which are seeking to develop their own aerospace sectors. For example, EADS will open a Technology Centre in India in 2007. Rolls Royce and GKN, amongst others, are also moving into Asia to take advantage of skilled labour and low overheads there.[137] Airbus, too, has opened a new assembly plant in Tianjin to build the A319/320 aircraft for the Chinese market.[138]

53. A key challenge for the UK relates to the research and technology required for future Airbus projects—in particular, the anticipated replacement of the single aisle A320. Around 70% of the estimated potential demand for aircraft over the next 20 years is expected to be single aisle.[139]The Managing Director of Airbus UK, Iain Gray, said to us the company is "at a crossroads", but that "with the right levels of investment, the right commitments from the company, from government and the supply chain, Airbus has a rosy future and can secure its share of what is a 22,000 aircraft market over the next 20 years".[140] In turn, the DTI told us: "the UK now has an opportunity … to assure ourselves of a strong position in the world" and that this is dependent on proper investment in R&T and skills, and on maintaining a business environment that allows the UK's aerospace industry to continue to flourish. We agree.