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Defence capability and Equipment Plan Contents

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1Managing funding shortfalls

1.On the basis of two reports by the Comptroller and Auditor General, we took evidence from the Ministry of Defence on the Equipment Plan 2019–2029 and the introduction of new military capability.1

2.Each year, the Ministry of Defence (the Department) publishes its Equipment Plan report, setting out its spending plans for the next 10 years. It sets out its expected expenditure on projects to equip the Armed Forces, and assesses whether these are affordable. The Department introduced the Equipment Plan in 2012, after a period of weak financial management which led to a significant gap between funding and forecast costs across the defence programme. The latest Plan covers the period from 2019 to 2029.2

3.For the third successive year, the Equipment Plan remains unaffordable. The Department’s central estimate was that equipment and support costs of £183.6 billion will exceed the budget of £180.7 billion, a shortfall of £2.9 billion. It assessed the shortfall could be larger, estimating that it could be as high as £13 billion if all risks materialise, equivalent to 7% of the budget over this period. The Department also faces the same profile of funding shortfalls as in previous years, with a gap of £6.0 billion in the first five years of the Plan.3

4.The Department develops and operates military capabilities in order to meet its strategic requirements and objectives. A military capability is not simply a piece of equipment. In order to fully deliver the capability, the Department also needs sufficient trained personnel, information technology, and logistics and maintenance support. As at 30 September 2019, there were 32 programmes defined as capabilities in the Department’s Defence Major Projects Portfolio (DMPP)—those programmes the Department considers the most complex and strategically significant, its top priorities. These programmes have an estimated total procurement cost of £196.2 billion. The Department identified major risks to the timely delivery of nearly one-third of these capabilities.4

Responding to affordability pressures

5.The Department’s 2019–2029 Equipment Plan is unaffordable for the third year in a row, which is a reflection of the funding pressures that we have seen across the defence budget for many years. As expenditure on equipment represents around 40% of the Department’s budget, these funding shortfalls also affect its ability to invest in other areas.5 For example, the Department told us that it has reduced expenditure on infrastructure and training exercises.6

6.The Plan does not include all of the Department’s commitments, which will add to future financial pressures; for example, it is still committed to buying 138 F-35 Lightning jets but has made provision for just 48 in the Plan, even though it may decide to procure more in this period.7 The National Audit Office also highlighted that the Department is investing in new military equipment to meet the demands of modern warfare, but does not yet know the scale of additional investment required.8 The Department told us that the additional funding provided by HM Treasury in the last three years—between £1 billion to £1.5 billion each year—was an indication of the funding shortfalls it faced.9

7.We expressed our concern that, yet again, the Department has not established an affordable long-term investment programme in military equipment. The Department accepted that the only way to develop an affordable Equipment Plan was to undertake a multi-year strategic review of the capabilities needed.10 It has not used the last two opportunities (the Modernising Defence Programme and the Spending Review 2019) to take the necessary difficult decisions to help develop an affordable plan.11

8.The Integrated Review of Security, Defence, Development and Foreign Policy (the Integrated Review)—announced in February 2020 but now delayed by the COVID-19 pandemic—will provide the next opportunity to take these decisions in support of a coherent defence and security policy. The government will need to apply the lessons from the last two strategic reviews; from 2010, which balanced the budget but did not produce a coherent programme of capabilities; and from 2015, when over-ambition created the funding shortfalls we see today. The Department emphasised the need for a fundamental assessment of the capabilities required to deliver future defence priorities and meet the changing threats facing the UK.12 It told us it will seek to exploit new technologies and engage widely across Whitehall to establish cross-government initiatives in areas such as cyber and space.13

9.The Department expects the Integrated Review to be completed in 2021. In the interim, it has established a balanced budget for 2020–21 and told us that this gives policy makers more freedom to make choices on future military capabilities.14 However, we are concerned that this approach of short-term financial management does not provide certainty for the defence industry. The Department explained that it is engaging with the defence industry to support contractors through the COVID-19 pandemic and, where possible, is seeking to provide assurance about a stable work programme.15

10.Faced with funding shortfalls, the Department has focused on living within its annual budget. It has taken a range of measures to achieve this, introducing commitment levels on commands’ budgets, restricting the introduction of new projects, and closely monitoring in-year expenditure.16 The Accounting Officer is accountable for delivering the Equipment Plan within budget and he emphasised the pre-eminence of complying with government accounting standards and meeting departmental spending limits, over the ability to deliver the Plan.17

11.We were concerned that commands were not held tightly enough to account for managing their budgets and achieving their objectives, and that there were no consequences for missing targets. The Department explained that finance directors in commands were personally accountable for the managing their delegated budgets, and under-performance would be reflected in their appraisals. The Department’s head office would also cut delegations if targets were breached, although the commands managed their budgets within 1% of the baseline in 2019–20.18

12.The Department accepted that its approach of deferring projects to remain within its annual budget created higher level of funding shortfalls over the next 3 or 4 years. Its programme is now very tight and getting tighter, and it has less contingency and no headroom in the Plan.19 The Department also accepts that it cannot secure everything it wants. At the start of 2019–20, the commands had to defer equipment projects, and then find further savings midway through the year due to budgetary pressures. The Department’s focus on living within its annual budget means the commands must manage long-term projects within short-term expenditure approvals, which it acknowledged led to higher overall costs.20

13.We remain extremely concerned that the Department’s short-term focus on living within its in-year budget is affecting its ability to develop the military capabilities that are needed. The frontline commands are responsible for making investment prioritisation decisions on which equipment projects should be stopped, deferred or descoped.21 But the increasing financial pressures mean they have had to reduce military capabilities as a result of cost pressures and now have less flexibility to manage their portfolio of projects. For example, Air Command has delayed the introduction of the Mode 5 Indicator Friend or Foe programme as annual budgetary restrictions delayed the modification of the platforms.22

14.We again raised the issue of the effects of annual accounting and asked whether this was right model for delivering long-term projects. The Department acknowledged that while it does have some flexibility in the programme, it does not have multi-year budgets for projects. It continues to engage with HM Treasury on its accounting arrangements.23

Producing a reliable assessment of funding shortfalls

15.We are frustrated that the Department had not established a consistent methodology for estimating the funding shortfalls.24 The National Audit Office’s report also highlighted that the Department’s adjustments to its cost estimates are still over-optimistic, including its assessment of when projects will be delivered and the level of potential efficiency savings. The changes to the methodology also prevent a direct comparison to the funding shortfalls in the 2018–2028 Plan.25 The Department acknowledged the difficulties that this causes and explained that its intention was to develop a sustainable and understandable methodology to assess the Plan’s affordability and estimate the shortfalls.26

16.In our report on the Equipment Plan 2018–2028 we raised concerns that the Department was including efficiency savings that it was not confident of achieving.27 This year, we again sought assurances that its savings were realistic and deliverable. The Department accepted that it had not delivered planned efficiency savings in previous years, even acknowledging that expenditure plans in the 2015 Strategic Defence and Security Review were based on unrealistic assumptions. Despite this track record and our recommendations, the Department has again included £4.7 billion of efficiency savings without knowing how it will achieve them, more than double the total used the previous year. It told us that it is continually working to refine these plans. The Department could not, though, provide confidence that the commands will achieve all of their planned savings and or explain why they had made quite different assumptions on the level of savings that was achievable. For example, Air and Strategic commands had assumed that they would achieve 100% of their planned savings, while others had been more prudent.28

17.We have previously recommended that the Department should improve its financial skills, and asked what progress had been made.29 The Department told us that 41% of finance staff were professionally qualified (or part qualified), the same proportion as last year. It explained that a further 8% of finance staff were studying for a professional qualification, with a pipeline of 52 more internal staff and 40 new graduates about to start. It is also seeking to strengthen its costing skills, introducing a new two-year graduate scheme in its Cost Assurance and Analysis Service. It has found recruitment of finance staff difficult in some parts of the country, and is considering the location of certain functions and the scope for more remote working.30

18.The Department advised the Committee that it did not intend to produce a full Equipment Plan report in 2020, due to the delay in completing the Integrated Review and the need to respond to the impact of COVID-19. Instead, as a holding position, it intends to reduce the level of reporting. We emphasised the importance of accountability and our intention to continue to scrutinise the Department’s management of equipment expenditure, drawing on the National Audit Office’s advice and support.31

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