Ministry of Defence: Acquisition and support of defence equipment Contents

3Contingent Liabilities

25.On the basis of correspondence from the Ministry of Defence (the Department), we took evidence regarding the Department’s repeated failure to secure Treasury approval for contingent liabilities and to notify Parliament in line with requirements.

26.A contingent liability is a potential obligation that is uncertain, but may arise if specific conditions are met or particular events happen. They are frequently indemnities built into contracts that limit the liability of private sector firms should, for example, an event such as an accident, leak or explosion occur, and require HM Government to cover the remaining costs. In some cases these costs could be unlimited. Consequently, where departments wish to enter into a contract which gives rise to a contingent liability in excess of £300,000, it must obtain Treasury consent, and Parliament should be notified through a departmental minute, accompanied by a ministerial written statement. The Department should not incur the liability until 14 parliamentary sitting days after issuing the Minute, thereby allowing time for appropriate scrutiny.63

27.In January 2017, we examined the Permanent Secretary about the failure of the Department to notify Parliament of the contingent liability relating to the Phalanx Close in Weapons System Availability contract. He apologised and said that changes to guidance would prevent it happening again.64 Subsequently, the Department identified three further cases relating to the Astute-class submarine Boats 5 and 6, and the Type 26 Frigate Manufacture Phase Contract. In each case, Parliament had not been informed and given the opportunity to scrutinise the contingent liability. In July, the Department initiated a review of all 3,200 open contracts within its Defence Equipment and Support (DE&S) organisation to identify any further cases.65 This was completed in December 2017 and identified a further 12 contracts, going back to 2007. A review of contracts within the Defence Instructure Organisation and the Information Systems and Service organisation was still under way at the time of our evidence session in January 2018.66

28.Of the 12 further cases identified, none had received Treasury approval and 10 had not been notified to Parliament as required. They had arisen in three particular operating centres within Defence Equipment and Support (DE&S): submarines, helicopters and land equipment.67 The Permanent Secretary told us that this position was unacceptable and it was clear that some project teams had not appreciated the existence of a contingent liability. As a result, the Department had taken a number of steps to avoid a repetition. These are mandated training across the organisation to make sure relevant staff understood the rules; clearer policy and procedures; staff briefings to the senior management group within DE&S; and extra controls in the approval process to make sure that staff cannot forget to check whether there is a contingent liability.68

29.The Department accepted that failing to secure Treasury approval and notify Parliament were serious matters and, given that procedures had been improved and training now provided, failure by staff to follow the procedures may lead to disciplinary action in the future if appropriate. It had submitted details of all the cases to the Treasury in December 2017, and was working with it to regularise the position.69 There remains a possibility that the Treasury will not approve the cases. Given the significance of these contracts, we were surprised to discover at our evidence session that the Department had not thought to check whether they were legally valid and enforceable as a result of the failure to follow required procedures. The Department has since written and stated that “Legal advice has confirmed that there is no circumstance where a court would regard such arrangements as being legally unenforceable because the Department had not followed an internal government administrative process, in failing to declare contingent liabilities arising from those contractual arrangements. The contracts therefore remain fully enforceable.”70

30.The Department reported to us that the liabilities were “unquantifiable” in eight of the cases identified. Here the nature of the contingent liability means that it is unable to predict a series of scenarios with which to accurately cost the liability. For example, the costs associated with dismantling and decommissioning facilities for strategic weapons cannot be anticipated to a degree of certainty.71 The Department added that it always tried to assess and quantify the liability where it could, and tried to disclose where it was not possible to know the size of the potential liability.72 The Department has since written to explain that only where it is not possible to obtain a reliable estimate, due to the nature, scope, range and scale of possible scenarios that might occur, are contingent liabilities treated as unquantifiable. In the future, it proposes to set out the rationale for the contingent liability more clearly during the approvals process, and is working with HM Treasury to better articulate the maximum exposure and potential examples of the scenarios that could lead to unquantifiable contingent liabilities.73

63 National Audit Office (RUC0001)

64 House of Commons Committee of Public Accounts, Delivering the defence estate, Forty–seventh Report 2016–17, HC 888, 22 March 2017, Minutes of Evidence Q 1

65 Correspondence with Ministry of Defence, 13 July 2017, para 6; Q 4

66 Correspondence with Ministry of Defence, 4 January 2018, para 1; Correspondence with Ministry of Defence, 22 January 2018, para 5

67 Correspondence with Ministry of Defence, 4 January 2018, para 3; Q 7

68 Qq 3–4, 7

70 Qq 16–19, Correspondence with Ministry of Defence, 22 January 2018, para 3

71 Correspondence with Ministry of Defence, 4 January 2018, para 3 and Annex A

72 Q 32

73 Correspondence with Ministry of Defence, 19 February 2018, paras 4–5

23 March 2018