Select Committee on Public Accounts Minutes of Evidence


Examination of Witnesses (Questions 20 - 39)

WEDNESDAY 14 NOVEMBER 2001

MR KEVIN TEBBIT, SIR ROBERT WALMSLEY KCB AND MR STAN PORTER

  20. It is in the chart, 38 per cent.
  (Mr Tebbit) The others are also very important. Intellectual property rights are important constraints, the proprietary nature of a lot of defence equipment is a real point as well. Also when we get at the lower level, how prime contractors organise their own supply chain is another factor.

  21. I was coming on to that. This is all within the heading.
  (Mr Tebbit) I quite accept that. If I may I will ask Rob Walmsley to give you a more detailed account.
  (Sir Robert Walmsley) Quite a lot of the contracts surveyed you will know are of very small value. The reason they are of very small value is they are support contracts to existing much larger perhaps pre-existing procurements. A typical example would be what is called post-design services for an aircraft and that is effectively keeping the drawings up to date and undertaking the through life modifications that are inevitable on a large article like an aeroplane or a ship. To swap design contractor between the aircraft design authority and some new company would raise so many issues about who was actually responsible, given the necessary interface between the new thing and the aircraft itself, that the design and development risk of that all comes back to the Ministry of Defence. If the two companies do not get the interface right or if the safety of the aircraft is in any way threatened because the competitively chosen sub-contractor for the small component did not understand anything, it is sometimes very, very difficult for the Ministry of Defence to escape and even if we can there will be inefficiencies at the interface.

  22. I am going to ask you about post-design services in a second so can you please hold that thought. More generally I want to ask you a question about intellectual property rights. The MoD came under some criticism a few years ago because quite a lot of contracts were being let on the basis that somebody went away and did all the design but then effectively after the design test runs, the first proper batch was let competitively which led a lot of manufacturers to say "Why are we bothering". Could you update the Committee on where we stand on that now? What is the attitude?
  (Sir Robert Walmsley) The general attitude is that to move away from the designer for the production phase of a modern large defence equipment entails far too much risk. It is subject to all the same arguments I mentioned before. Who is holding that risk, in the end it comes back to us. There are some defence equipments who have been much more successful and notable amongst those would be frigates where we have found some success in competing successive batches of the Type 23, so that there was a competitive batch of three awarded to Swan Hunter and I have absolutely no doubt in my mind that set a benchmark for the subsequent gains we had in later ships from competition. What we had to do in order to enable that competition was the Ministry of Defence itself had to place a contract with the designer for him to supply the information to the follow on competition winner. We carried that extra cost but even so it represented value for money for us.

  23. You mentioned risk and management of risk is central to all this. In paragraph 15 of the Executive Summary at the front of this report it says: "Very few contracts used joint risk registers although the Department's guidance encouraging their use was only introduced in late 1998 after many of the contracts in our survey had already been let." What is the current situation with the joint risk register?
  (Sir Robert Walmsley) The current situation is that I want them everywhere where the contract is worth more than a de minimis value, I think below a million pounds it would be too much effort. There will of course be a need for each party I think to maintain a separate risk register. We will have risks that we do not wish to discuss with the contractor about some aspects of his commercial performance which we might not wish to disclose to him and I am sure he will have some issues that he will want to keep private from us but by and large the attitude, the policy is to maintain joint risk registers for any contract of a significant value.

  24. Paragraph 1.7 talks about Sentry E-3D Post Design Services where the Department used innovative or seemed to use innovative solutions to overcome the difficulties that can arise. Can you say more about those innovative solutions?
  (Sir Robert Walmsley) The innovative solution in that case is that the design authority is Boeing, headquartered in Seattle which is where most of the work has been done. These aircraft are based at RAF Waddington. We have a perfectly competent company called Marshall Aerospace who were appointed the sister design authority so that small modifications, fitting a different sort of camera or anything you like, the detailed work could be done in Cambridge rather than sending it all the way back to Seattle. It was Marshall's job then to undertake the liaison with Boeing, not the Ministry of Defence. It just made it all the more responsive, that was innovative.

  25. I would like to ask you about the quality of information post costing. Paragraph 1.12 says: "No precise definition of the phrase Equality of Information exists". Now obviously I understand that post-costing encourages contractors to play the game straight but nonetheless it does not seem to be a reason for not having a precise definition. I am just interested in how you evaluate whether you have got quality of information and if you do not have a precise definition what it is that they are expecting?
  (Sir Robert Walmsley) I think the words here are absolutely accurate but I am quite clear what it is intended to convey. It means that you have the same information. What that is is a reflection of an open book policy, it is a reflection of a relationship between us and the contractor which says "We may argue about pricing but we are not going to do it on the basis that we have information that the other party does not". It goes on to explain here that quite a substantial proportion of the contracts did not in fact have an Equality of Information statement signed. I think if one reads the report very carefully it makes clear that there were substitutes for that. I do not regard that as satisfactory. I think this was a failure of control on my part and we are now pushing very hard to make sure such statements are signed and are available whether or not they are redundant, it does not matter, they should be there. I think it is good drill.

  26. Standard practice.
  (Mr Tebbit) My view as an accounting officer is that I expect that Equality of Information to be available, whether it is a statement or not, I prefer it, but I expect us to do that as a sort of condition of contract before we get into the deal.

  27. You mentioned open books, I wanted to ask you about the open book accounting and earned value management. Could you say how widespread is their use and what has the benefit been so far?
  (Sir Robert Walmsley) Open book accounting is more and more part of the condition of partnership. It is very hard to imagine that you get into a partnership on a serious long running, non-competitive contract without such an arrangement. It is widespread now throughout non-competitive procurement, although we would not bother with a huge number of tiny contracts, less than £50,000, it just is not sensible, it is not worth it. We know what those articles cost and we expect to see them get cheaper year on year unless there are some extraordinary circumstances. Earned value management is a much more difficult question. I simply say we are absolutely convinced that it is best practice project management. We have seen this with the best performing companies. We have seen it in their performance of contracts, not with us. We have increasingly expected it but not mandated it as a feature of contracts. Other countries sometimes have mandated it, they spend more effort trying to make earned value management work and it has not always been a success. We believe it is best practice and it should be encouraged but not 100 per cent use.
  (Mr Tebbit) If I could just comment. We are something of a leader in the UK public sector in using earned value management. A lot of the integrated project teams that Rob Walmsley runs, for example the new Carrier project, are applying earned value management as they go through their own project programming and approach. This is something I am talking to other Government Departments about within the UK as a technique which they might like to be using as well. So although it is not mandated we are pretty well the leaders in that sort of approach in Whitehall.

  28. I would like to ask you about paragraph 2.9 which talks about reciprocal audit and pricing arrangements, in particular the example of the Gazelle from France. Although it says the project team had no oversight of their work, they did receive an assurance at the time of pricing that the Department was not paying a higher price for spares than the French Ministry of Defence. The National Audit Office report that they were ". . . concerned that the arrangements in place for pricing contracts with overseas contractors should always offer complete assurance that value for money is being achieved. Greater visibility of reciprocal pricing reports in such circumstances would enable a more informed judgment of value for money to be made". What are you doing to ensure that we get this greater visibility?
  (Sir Robert Walmsley) We run the reciprocal agreements with other countries. I am quite happy that one of the best ways of securing value is to make sure that we are getting as good a deal from the contractor as the, if I can put it like this, host government is getting for an identical piece of equipment. As long as we have visibility of the evidence that supports that I would regard that as case closed. It would be quite intolerable to the French Government, you see, if we were able to buy Gazelle spares more cheaply than they were from a contractor. We can assume they behave as sensible beings and try to get as good a price as possible and all I want to see is evidence that we have got that price and we get that signed. The same routine applies in the United States. I think that does lead me to a slightly technical point. The expertise of our pricing staff depends on a deep understanding by individuals of how the costs arise in a given industrial facility. They do not move around much. They are not specialists in aircraft, they are specialists in a particular facility. The idea that we could parachute our own pricing staff, even if a foreign industry would agree, into a foreign company, understand all their accounting methods, etc, etc., I think is really leading us down a rather dangerous path. I would rather rely on host governments who do understand those costs and get as good a deal as them.

  29. Another question about this section, page 23, paragraph 2.12, it talks about `Should Cost' data and how the Department makes use of `Should Cost' data, mainly on large projects. Could you say, first of all, how much do you use external consultants for providing advice on `Should Cost' data?
  (Sir Robert Walmsley) Not much. We have the best available costs for existing defence equipment in the United Kingdom. If that is not the case it would be astonishing. I mentioned that our pricing staff stick with an industrial facility and become experts in what the costs are in that facility. `Should Cost' data though is extremely difficult to get hold of for something that has not yet been designed or constructed and for some of these articles, we are placing a design and development contract. At that stage we do try to do benchmarking and we have been trying to get going a benchmarking study on ship pricing by relating it to efficient merchant ship construction and some factors that relate the complexity of a warship to the relative simplicity of a merchant ship. We are working hard at that as we are in a number of other areas. We are always looking for better `Should Cost' data. I think the idea that it is available if you only look hard enough, that simply is not the case.

  30. I am running out of time so I will ask you one more question which is about the process one goes through in deciding what the requirement is. For example you have a lot of one to one relationships with individual suppliers. Let us take an extreme example, if say there was only one helicopter manufacturer, to what extent would you go through a process of saying "Well actually the requirements have moved from A to B and we can compete by saying let us buy a Hovercraft instead". In a general sense to what extent do you look at the world like that?
  (Mr Tebbit) That is how we now do it. That is the essence of Smart Acquisition and Smart Procurement. We now define the output that we are looking for and we start upstream, as it were, at an early stage, talking to industry about how best to meet that output objective rather than to pre-define the system that might deliver it. One of the keys of Smart Acquisition is that partnering and discussion with the industry well before we finally try to go to project definition still less go to main gate.

  31. Culturally, how well do you think that is embedded in the MoD and each of the Services?
  (Mr Tebbit) It is new and it is growing. Some of the biggest challenges are to say to the RAF "Well it may not be a manned aircraft in future, the best way of delivering that capability may be by a remotely controlled pilotless vehicle or indeed not from the air at all". We also look at capabilities now. The way we organise ourselves within the Department we have capability managers who run a range of equipment indirect fire, for example. They look at the effects to be achieved on the battlefield rather than the systems that might deliver it. That is also good for individual project development, it is also good for looking at trade-offs between different ways of achieving the military effect. So part of Smart Procurement is with the integrated project teams doing that approach, the other part of it is right up in the headquarters themselves as the customer in trying to be smarter about the way in which we plan our equipment programme.

Chairman

  32. I wish you luck, Mr Tebbit, in persuading the airforce to have pilotless aircraft.
  (Mr Tebbit) I thought I would just throw that in. There are real debates about these sorts of issues arising from that type of approach.

Mr Rendel

  33. Firstly, in general terms are profit levels for the suppliers higher with competitive or non-competitive deals?
  (Mr Tebbit) I am glad about these sorts of reports because reports like these make me think about those sorts of issues. I have to say until I read the report I had not paid quite so much attention to this as the report drove me to. The information that we have shows that it comes out about the same, that there is no evidence that non-competitive procurement is any less under control, as it were, from our point of view as a customer than by competition. That does not surprise me entirely because we do put a huge effort into our `Should Cost' work and our own pricing teams but it seems to come out about the same in terms of the profit that the supplier gets.

  34. Do you believe that is because of the introduction of things like NAPNOC or was it always the case?
  (Mr Tebbit) Historically we have gone back quite a long time, I am not sure if it is in the report but we have looked at data over about 20 years and it seems to be relatively stable. I would like to say that NAPNOC has created a complete breakthrough but I am not aware that the trend is particularly distinct. It has certainly not got worse, that is one absolute clear thing. I do not know if Stan would like to say more about this. I think the trends have tended to be quite stable.
  (Mr Porter) They have been stable, Mr Rendel. I think one of the benefits of NAPNOC is in agreeing a price at the outset it places the maximum incentive on the contractor to an efficient performance. Whilst that may mean that he achieves a higher profit on that particular contract, the impact of the efficiency that is generated is felt by the Ministry in downstream activity.

  35. Sir Robert you said in answer to the Chairman, I think, that you use competitive systems wherever sensible and practical but that despite this the 25 per cent that is purchased under non-competitive deals is still stuck despite strenuous efforts you describe. Can you describe those efforts?
  (Sir Robert Walmsley) Yes, I can. When we came to approach the Batch 2 Trafalgar Class or Astute Class of nuclear attack submarine, which is one of the cases that this report studies, every single new submarine—apart from three that were constructed at Cammel Laird in the 1960s—had always been built at Barrow. As we approached that programme in the mid 1990s we were beginning to get hold of this idea of prime contracting so that the shipbuilding element of the contract, which was essentially what was done at Barrow-in-Furness, was not the sole determinant of the contract by any means. The prime contractor who would supply and purchase the weapons systems and integrate them into the ship need not, in other words, necessarily be the same as the shipbuilder. We also thought it would be a good thing to shake up the shipbuilder, he did not enjoy that. We had noticed that there were some very advanced construction techniques being employed for essentially offshore oil and gas platforms and we were able to establish quite a keen competition with the then Marconi company as a prime contractor supported by some North Sea fabricators who had got these very advanced design techniques on the one hand, compared with the shipyard at Barrow competing against them, supported very interestingly by an American prime contractor who would help to be the integrator because the shipyard did not have those skills. We ran that quite sharp competition which ran through 1994 until the Marconi company then decided to buy the shipyard. So we closed the competition but I can remember quite well that the two bids we had at that stage showed approximately a £200 million advantage of the Marconi led bid over the one prepared by the traditional shipyard. We loaded that price of prime contracting into the then subsequent single tender action negotiations with the new team.

  36. Are you saying they are counted in the end as single tender actions and therefore not competitive or not?
  (Sir Robert Walmsley) It counted as non-competitive because the contract was closed on a non-competitive basis but we had made these huge efforts to start the competition. We got the benefits of competition because we got the prime contract price down by the £200 million.

  37. When you talk about strenuous efforts, are you saying—there is another example in paragraph 1.7—that all these efforts in the end did not produce competition and that is why it stuck at 25 per cent?
  (Sir Robert Walmsley) No. Each one of them is an effort to produce competition where it is sensible to do so. It stuck at 25 per cent for reasons that just come out of the arithmetic, there is no magic about the numbers, as I think the Chairman was saying, we just keep trying.

  38. Not succeeding.
  (Sir Robert Walmsley) Well not succeeding except each one is a success and then the industry quite frankly has reduced in a vast reduction in the number of defence contractors and people have been saying we would not be able to hang on to the 75 per cent level. I think—me included actually—we have been quite surprised and very pleased that we have managed to keep the level up and that is by always looking for new suppliers. It is quite interesting that we bought ammunition from South Africa recently as a result of a competition between Royal Ordnance South Africa, something we would not have contemplated a few years ago, that was going out round the world and looking for a new supplier.

  39. You are essentially chasing your tail all the time.
  (Sir Robert Walmsley) I do not know whether it is my tail or other people's tails but we are always chasing competition.
  (Mr Tebbit) It does not feel that bad. 20 years ago or so we only did about 60 per cent[3] of our procurement by competition, it has risen, I think, over the years. There are pressures in the opposite direction now. Consolidation and amalgamation of companies. One way of overcoming that, as Rob Walmsley has said, is through looking overseas where it is not absolutely a vital area for us to retain a strategic capacity ourselves.


3   Note by witness: On reflection the figure was nearer 40 per cent, rather than 60 per cent. Back


 
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