Select Committee on Defence Sixth Special Report


SIXTH SPECIAL REPORT

The Defence Committee has agreed to the following Special Report:—

THE DRAFT DEFENCE SCIENCE AND TECHNOLOGY

LABORATORY TRADING FUND ORDER 2001

The Committee published its Fifth Report of Session 2000-01, on The Draft Defence Science and Technology Laboratory Trading Fund Order 2001 (HC 289), on 13 March 2001. The government's response to this report was received on 3 May and is published as an Annex to this Special Report.

ANNEX

1. This is the Government response to the 5th Report of the House of Commons Defence Committee on the Draft Defence Science and Technology Laboratory (DSTL) Trading Fund Order. The Government welcomes the opportunity to provide more information following the evidence session with Baroness Symons, Minister of State for Defence Procurement, and officials on 28 February 2001. The Committee, in its report, has drawn particular attention to a number of key issues, which are highlighted below. The Government's views on these issues follow the highlighted text.

2. In addition, this response addresses the points raised in the Audit Adviser to the Committee's letter of 12 March 2001.

3. The Government remains confident that the PPP represents the best way forward for providing the UK's future defence science and technology requirements. It is, therefore, disappointing that the Committee's stance is still vigorously opposed to the trading fund Order, and wishes to abandon the formation of NewDERA and DSTL. However, the Government is pleased that the Committee saw no advantage in delaying the Order, with possible adverse impact on staff morale, and the best science and technology support for MoD should continue to be developed.

4. Following the successful passage of the Order through Standing Committee, the Government is now committed to continuing dialogue with all interested parties, as implementation of the PPP moves through vesting of the two organisations, towards transaction of NewDERA.

5. Paragraphs 7 and 3. We are disappointed that that evidence shows that four of the outstanding areas of uncertainty that we had previously identified (points (a) to (d) in paragraph 3) remain unresolved.

3 (a) NewDERA would not be permitted to undertake defence 'manufacturing', but there remained uncertainty about what exactly the MoD meant by that term. The MoD seemed to be suggesting that NewDERA would be barred from 'manufacturing' equipment but could be a 'systems integrator', and in its response to our Report stated that 'we accept that clarification is required to define the parameters of defence manufacturing'.

The Government's policy is clearly defined; what remains is the drafting of a final definition. The broad principles are:

    (a)  NewDERA would not, without the express permission of MoD, be permitted to undertake the manufacture or supply of equipment, products or systems whose principal use is intended to be for a military, defence or security application, other than small numbers of prototypes or demonstrators.

    (b)  Unless there was a clear conflict of interest, NewDERA would be permitted to act as a Systems Integration contractor and to work in partnership with, or as a sub-contractor to, industry. This is seen as an important mechanism for ensuring that the results of work within NewDERA can influence the design of new defence systems

Under any agreed definition of Defence Manufacturing NewDERA will be specifically prohibited from the manufacture of commercial quantities of any material or system that is designed, developed or assembled specifically for military purposes. There will inevitably be some cases that are less clear-cut and these will be referred to a compliance committee for consideration. The precise rules for enforcing the prohibition are still under discussion, but all parties accept the principle behind the ban.

It is not proposed to prohibit NewDERA from undertaking any activities performed by the current DERA. The prohibition is intended to be consistent with the present restrictions on the development and manufacture of equipment for sale by DERA, which are set out in the Framework Document that governs the activities of the trading fund. It is recognised that, for this prohibition to be effective, it must be defined in an unambiguous way and, similarly, the processes and procedures used to administer this provision must be clear and not intrusive.

The prohibition of defence manufacturing will be an important mechanism which will ensure that a conflict of interest does not arise in NewDERA's ability to advise and support MOD in the delivery of military capability. Indeed, this reflects current practice whereby DERA are prevented from engaging in defence manufacturing through their framework agreement.

    3 (b) The MoD had not made a final decision on which of NewDERA's assets would be regarded as of 'strategic' importance, and thereby falling under the special measures afforded by the MoD's golden share in the privatised firm (the MoD would have first refusal to acquire such assets if NewDERA were to dispose of them).

As part of the ongoing PPP implementation work, MoD is currently undertaking an extensive exercise to identify what assets or facilities are considered to be strategic. This work is complex involving consultation with all of DERA's customers and will be completed prior to vesting on 1 July. As outlined in last year's Consultation Document on the future of DERA, a set of compliance controls will be established either in the Articles of Association or in specific contracts between MoD and the new company. Under this compliance regime, the strategic assets that will be listed will be protected and their continuing availability to MoD as required will be ensured. In particular, disposal of such assets would require prior consent from the MoD and a mechanism will be established for the return of such assets to the MoD if it is felt to be in the national interest to do so. In addition, mechanisms will be put in place to allow the list to be updated, for example to include facilities that may be built in the future if customers chose to place this as a contractual condition on the new company.

    3 (c) There remained uncertainty about the extent of controls on foreign and individual share-ownership of NewDERA, that would be introduced in its 'compliance framework'.

The exact details on control over ownership do not need to be finalised until a sale transaction. As with all commercial organisations, NewDERA will have to meet all the prescribed security requirements for defence contractors and statutory protections already exist to prevent the export of sensitive defence technology. In addition, the NewDERA compliance regime will ensure the protection of essential UK security interests and this will include:

  • retention of a Special Share. The share will not have an expiry date and will be retained for as long as is necessary.

  • restrictions on ownership of shares above a specified limit. This limit has yet to be determined.

3 (d) With the bulk of DERA's research work to be put in NewDERA, there were doubts about how the scientific foundation of DSTL would be maintained in the long term.

The previous HCDC report on the DERA PPP highlighted the concern that some stakeholders have over the ability of DSTL to maintain sufficient capabilities and it is important that this is addressed. The analysis conducted provides confidence that the proposal would result in the establishment of DSTL as a vibrant and sustainable organisation, providing high quality scientific and technical output to its customers. It would be a significant force in the field of defence science and technology, undertaking systems level research and key Government work unsuited to the private sector, while maintaining an ability to provide a high level overview across the whole spectrum of science and technology currently addressed by DERA. This would ensure that MoD has an impartial source of advice and systems research capability to provide high level assessment, integration and management of its research programme and international research collaboration.

Throughout the PPP process an overriding objective has been to ensure that customer needs are fully met. These needs have been set out by the Customer Focus Group, a senior level body which represents DERA's main MoD and other Government customers. The current Core Competence approach has been fully endorsed by this group as being capable of meeting their requirements. The separation of NewDERA and DSTL was planned to ensure an equitable division of key staff between the two organisations, whilst also ensuring that each has the necessary capabilities and expertise to carry out its defined role. The way in which capabilities have been divided fully protects access to the capabilities needed by MoD to carry out its 'intelligent customer' role.

6. Paragraph 8. Worryingly, the Minister did suggest that some of the significant costs of implementing the public-private partnership could fall on the MoD. This could effectively wipe out the benefit to the MoD of the sale. We trust that the Minister will seek to secure the full sale receipt for the MoD and the reimbursement from the Treasury of the MoD's costs of implementing the public-private partnership.

MoD has agreed with HMT that it will receive a credit of at least £250M in FY01/02 in anticipation of a successful PPP. This receipt is not dependent on the actual timing of the final PPP transaction, the current target date for which is by April 2002. Nor is the figure an indication of the potential value of the transaction.

Current planning is for NewDERA to be floated as soon as its potential is judged to be suitably developed, subject to value for money considerations and provided the organisation has achieved appropriate performance targets. It is also possible that a strategic partner would be brought in to assist with the commercial development of DERA prior to a flotation. MoD is likely to retain an interest in NewDERA as a means to ensure that taxpayers receive full value for their investment in past Government funded research.

At present, only a small administrative cost falls on MoD, principally through the work of the DERA Partnering Team. Costs lie where they fall, and therefore, because the bulk of the implementation work has been carried out by DERA, the greater part of the costs of the PPP process will be borne by the trading fund.

7. Paragraph 9. The next decision point for the public-private partnership, at which the Minister will review the programme, will be in March/April 2001 when the viability of the prospective NewDERA will be re-assessed. We expect the outstanding issues and uncertainties to have been resolved before then and the decisions set out in the reply to this Report.

The strength of NewDERA as a business will be assessed by reference to the targets in the Corporate Plan. This process will continue throughout the current financial year. In light of progress, decisions will be taken on the timing of, and route to, a transaction.

8. Closing statement (response to paragraphs 10 & 11)

The DERA PPP is aimed at maintaining and improving science and technology capability, responding to the significant changes to the environment in which DERA operates. The PPP will provide the freedom to develop stronger links with the expanding global technology base and stimulate greater agility and innovation. This will ensure that our armed forces retain access to leading edge technology. It will help unlock the knowledge and expertise within DERA for the benefit of the wider UK economy. The opportunity to create partnerships which build on the increasing civil-sector investment in areas such as communications and computer technology will lead to enhanced value for money for DERA's customers while allowing MoD to retain access to world class scientific and research capabilities. If nothing was done, DERA would go into managed decline and with it the UK's future military capability.

The PPP will prove a robust vehicle for delivering a large part of the UK defence need for state-of-the-art scientific and technological knowledge. Ultimately, as the boundaries between civil and defence research are blurred, the benefits will be spread wider and will be felt throughout the economy as a whole.

Supplementary Questions

From the Audit Adviser to the Committee's letter of 12 March 2001

9. The Committee wished to receive the results of the recent Gallup survey of staff opinion and the results of any subsequent surveys.

The Gallup Organisation was commissioned by DERA to conduct a study of employee opinion across a representative sample of all DERA employees. Interviews were conducted in December 1999. The information is not, therefore, recent. An article summarising the findings of the Gallup poll appeared in the April 2000 edition of the DERA newspaper.[1]

The Committee also requested a more detailed analysis of the Gallup findings. This information, at Annex B, is in the form of a presentation prepared by Gallup and is provided to the Committee, as agreed, on a confidential basis.

As part of its ongoing consultation and communications programme, DERA has commissioned a further poll, by MORI. The results of this poll will be presented to DERA shortly and then be published. A copy of the published findings will be sent to the Committee.

10. What is the latest estimate of the cost of planning and implementing the changes needed to establish the PPP and to complete the division of DERA into its new component bodies, and what is the breakdown of such costs¼¼? What proportion of these costs will be borne respectively by the MoD and by NewDERA?

The following table gives an estimate of the total costs for planning and implementing the PPP, borne by MoD and NewDERA. The total cost is expected to be in the region of £70M - £80M. A large proportion of MoD's costs are the result of the formation of DSTL, and those costs, which are indicated in the table below, will lie within the Trading Fund. There are clearly likely to be some differences in the final costs from those below, but the total should remain between £70M and £80M.

 

All costs in £M
MoD
NewDERA
Total
Advisors' fees  6.5   15.0  21.5
Capital expenditure and operating expenses   11.0 (DSTL)   12.0  23.0
Information Systems reconfiguration   4.0 (DSTL)   17.0  21.0
RASP exercise  0.5 (DSTL)   9.0  9.5
DERA Partnering Team   2.0  0.0   2.0
Total  24.0   53.0  77.0

This estimate is based on information from the last quarter of financial year 2000-2001.

11. The Committee wishes to have further information on the process followed to establish the division of intellectual property between NewDERA and the MoD, and how different types of information have generally been allocated to one side of the division or the other.

The intellectual property which will be transferred to NewDERA is that intellectual property currently owned by MoD which has been developed within areas of business which will lie within NewDERA. DSTL will retain that intellectual property which is currently owned by MoD and which has been developed in business areas that will lie within DSTL.

All intellectual property and information which belongs to third parties and not MoD has been subject to a rigorous audit process. All third party information will be retained in MoD, unless MoD has a contractual right to place it in NewDERA for a specific purpose, or where the source of the IPR has agreed. In any event, no third party IPR will be owned by, or transferred to, NewDERA as a result of the PPP. The work of identifying all third party IPR in NewDERA, and extracting it, is now complete. An audit of this work is now underway.

12.  The Minister and officials undertook to explore the possibility of making available to the Committee the input from organisations to the PPP consultation exercise.

The Government is still considering the release of information from the PPP consultation exercise. Further permission may need to be sought for the release of some of the material, and the relevance of the responses to the current situation is also being reviewed.

13.  The Minister and officials undertook to explore the possibility of making available to the Committee Copy of the NewDERA Corporate Plan.

The Corporate Plan is inevitably still being developed, and it will not at any point be published. It is a private, commercially-sensitive document and it will not be possible to release versions during its development. However, the Department would be happy to provide the Committee with a presentation on the future business plans of QinetiQ, if this is felt to be helpful.

Ministry of Defence

3 May 2001


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