By Matt.Ross

02 Jul 2013

The MoD is consistently out-negotiated by its private sector suppliers, chief of defence materiel Bernard Gray tells Matt Ross: he wants to bring in some serious firepower from private business to work on our defence procurement

Asked to name his greatest virtues, Bernard Gray probably wouldn’t put ‘patience’ high up the list; indeed, he may not view it as a virtue at all. A former financial journalist and businessman, he has a direct and rather brusque manner that’s more FTSE 100 than SW1: when CSW asks whether we’ll be able to extend the interview to compensate for starting a few minutes late, he replies sharply that “I was ready on time”.

Gray has little time for the polite euphemisms of Mandarinese, and must often find life frustrating in the civil service – where complex and diffused decision-making processes meet delivery systems that sometimes aren’t up to scratch. We’re late, for example, because the receptionist at the Ministry of Defence’s Whitehall HQ didn’t know how to contact the chief of defence materiel: a man with a seat on the ministry’s board, a 16,000-strong workforce and a budget of £14bn. But you probably need to be impatient to make big organisations more businesslike, professional, cost-aware and outcome-focused – and if there’s one body that needs to move that way, it’s MoD procurement agency Defence Equipment & Support.

In fact, sometimes Gray can barely hide his incredulity at the situations that DE&S gets itself into. It is, for example, funding its suppliers to pay their negotiators far more than it gives its own procurement leads, disadvantaging itself: “We bear pretty well all the costs of the defence industry, in the cost of the particular equipments that we buy,” he points out. “If industry wants to go out and hire the best lawyers, the best programme managers, they can; and all the choices they make create costs that we bear. So we’re paying them to upgrade their side of the equation, but we don’t pay to have those skills available to our own side.”

Gray is also openly critical of some of DE&S’s work. When I raise concerns that his reforms threaten its capabilities as an intelligent customer, he cites DE&S’s notoriously dysfunctional aircraft carrier purchase – in which the government abruptly abandoned jump-jets in favour of a ‘catapult’ aircraft launch system – as evidence that it isn’t always that clever. “Does an intelligent customer change its mind at very short notice and insert catapults into the largest physical object we’ve ever bought?” he asks. “If we’re prepared to do violence – cutting a hole through six decks – to change it into a fundamentally a different object, then what are we prepared to do to a software contract, where you can’t even see what you’re buying? I don’t accept the argument that we’re acting as an intelligent customer today. Actually, I’m saying that today we’re doing some things that we really should not be doing.”

The diagnosis
So, what exactly has the MoD been doing that it shouldn’t have? Well, until recently, Gray explains, it was trying to buy more than it could pay for, at a higher specification than required – and under-estimating project costs to boot. “We effectively over-ordered and then did not have enough money to pay for everything, and faced either cancelling everything or slowing it all down to be able to meet the bills,” he says. “So we chose to slow everything down – but the problem is that all those fixed costs in industry remain.” This created a vicious circle of ever-rising project costs and ever-slower timetables, resulting in a £38bn funding gap plugged only when Gray and MoD permanent secretary Jon Thompson cut a swathe through the order book and re-balanced the budget a year ago.

That done, says Gray, three big problems remain. The first is a tendency to over-specify equipment: this is rooted in a widespread failure both to properly cost the capabilities requested by the armed forces, and to challenge gold-plating. “We need to get more awareness of how requirements drive price,” says Gray, adding that many times he’s “gone back to the customer and said: ‘Look, this component is costing £500m, do you really need it?’ And the result is often: ‘I didn’t realise it was costing that. Of course it’s better if it’s a bit more Gucci – but no, I don’t care.’ At the moment, if people want to order a flying aircraft carrier; well, that’s up to them.”

The second problem is that “we need to stop changing our mind, having ordered something.” Once a contract has been signed, altering the specifications is ruinously expensive: Gray again cites the carriers debacle, in which the incoming coalition government made the decision to install catapults very quickly – and without fully understanding the cost implications.

“If our organisation is phoned up and asked: ‘How much would it cost to convert these aircraft carriers to catapults and traps, can I have an answer very quickly?’, the short answer is ‘no’,” he says. “I appreciate you might want to make a decision in – for argument’s sake – a few weeks’ time, but it just takes longer to know that number.” It sounds as if DE&S wasn’t given enough time to produce a sensible cost estimate for the work; certainly, Gray believes that ministers shouldn’t be making key decisions without a realistic idea of the likely price. “It’s perfectly possible for ministers to change their minds. They have Crown sovereignty behind them and can make a choice,” Gray says. “But they should be exposed to the cost of making their decision. I don’t think it’s legitimate to say that ministers should make decisions without any information.”

The pay problem
The final problem concerns whether DE&S has enough “skill and expertise to be able to negotiate contracts with industry, to monitor progress, to programme manage those activities,” Gray explains. “And fundamentally we don’t, because our pay structure, our flexibilities, are insufficient to be able to attract, retain, promote and motivate the kind of people we need.” Years of pay freezes and pension cuts, plus the rule that any salary above the PM’s £142,500 requires Treasury sign-off, have left DE&S a far weaker player in the jobs market for specialist professionals.

DE&S is able to recruit specialists such as “engineers, programme managers and systems analysts” at a young age, he says, but as they acquire training and experience their pay falls behind equivalent private sector jobs – so DE&S suffers a brain-drain of crucial skilled workers. “I am definitely losing people at the moment, mid-career, because they can’t afford to work for us any more,” he says. “I have a drain of talent out to the private sector, which I need to fix.” (See news.)

These pay constraints can be a false economy, Gray believes: too often, he struggles to recruit people with the skills and experience to outwit their highly-paid opposite numbers in the defence contractors, or to manage very complex buying programmes: “If we save £20,000 on somebody’s salary, and it costs us £200m in a failed project, is that really good value for money?”

The prescription
Gray has been studying this area for a long time, from both inside and outside government. Once a Financial Times defence correspondent, he oversaw the 1998 Strategic Defence Review as a Labour special adviser, then spent a decade running publishing firms until then-defence secretary John Hutton asked him to review the MoD’s procurement work. The coalition subsequently employed him to pursue his proposed solution: turning much of DE&S into a ‘government-owned, contractor-operated’ (GoCo) business, operated by a private sector partner. The contractor’s income should be tied to the accuracy of its project cost estimates, he argues, avoiding the over-optimism that has plagued the in-house buying operation. Meanwhile, the new body’s autonomy would enable it to test and challenge the need for particular capabilities or specification changes, whilst its status as a private business would liberate it from civil service pay controls.

Given this autonomy and the right incentives, Gray believes a private contractor would be in a better position than the civil service to give ministers bad news. “You need the independence to be able to tell truth to power,” he says. “Because quite often people will want to believe something is true, but it doesn’t help the government to become complicit in making a poor decision: in the end, a poor decision will come back to bite you.” Whilst civil servants always want to make their ministers happy, the contractor’s sole aim would be to ensure that overall project costs are minimised – an objective likely to involve closer testing of the military’s requirements, better costing of proposed changes, and the payment of salaries that attract more world-class specialists to do battle on the MoD’s behalf. The GoCo would also help clamp down on risk in DE&S’s project pipeline, Gray argues, because it’ll be the contractor which suffers if uncertainties in its original estimates turn into big additional expenses further down the line.

While Gray favours the GoCo idea, he’s careful to explain that the decision to proceed has not yet been made – for it may be possible to realise the potential benefits of the GoCo model without bringing in a private contractor. The defence secretary announced earlier this month that the department will spend the next year scouting out two ways of giving DE&S the ability, as Gray puts it, “to vary from what the mainstream civil service does, and be more flexible than we’re able to be at the moment.” The first is the GoCo; the second, ‘DE&S-plus’, involves winning from the Treasury “greater freedom within the public sector”.

The deciding factor, says Gray, will be “how convincingly you can emulate, within a civil service structure”, this model of a more autonomous buying operation. What’s more, he adds, any freedoms granted a DE&S-plus – freedoms, essentially, to offer a more challenging service to military customers and ministers, and a more generous settlement to staff – might have to be protected in some way. “The question is: how enduring will those changes be?” he says. “If they were just there at a ministerial whim” – if they could be withdrawn at any moment – then “how do you get the people in that organisation to act with confidence?”

The complications
The MoD is proceeding with some caution – the price of a failed outsourcing of our defence acquisition function would, of course, be steep – but some people are already worried. The military think tank RUSI, for example, has asked whether it makes sense for DE&S to overcome its contract management weaknesses by putting all its eggs in one mega-contract basket.

Gray, however, dismisses this concern. “It’s easier to field one high-quality management team than 150,” he says: he sounds optimistic that the Treasury will sign off a few big salaries for a small band of top managers on the government side, and adds that he’s already arranging for some consultants to help out. Anyway, he says, “one of the things that people are slightly losing sight of is that [the GoCo contractors] are working for us”: the contract will ensure that “it’s in their interest to stop us from doing stupid things”. Think of the contractor like an architect, he suggests: “We’re the client, and they’re helping us to contract a builder.”

Then he rounds on the government’s “armchair critics”, noting that ever since his days working for Hutton, “I’ve never had anyone come along with a constructive suggestion for what they would do instead.” Gray is, he adds, running a “counter-factual” by testing the idea of a DE&S-plus; if the commentators have a better idea, they should put up or shut up. “Acknowledging that we have a problem and then not offering a solution – simply complaining about people who are actually trying to do something to improve the situation – seems to me the province of academics.”

Nonetheless, some questions asked of Gray’s plans have force. It’s well known that the MoD procurement chief has his doubts about DE&S’s large workforce of military officers: their civilian peers complain that they tend to lack specialist procurement skills; listen more carefully to their military customers than to engineers or accountants; exhibit loyalty to their service rather than the MoD as a whole; and rotate in and out of DE&S on two-year terms, limiting accountability. Yet Gray dutifully defends their retention under the new system, explaining that they’ll be seconded into the contractor and arguing that they bring to DE&S a valuable understanding of the client’s needs.

Gray has, though, already moved to ensure that military personnel from the rank of colonel upwards serve four-year, rather than two-year terms. And he emphasises that a GoCo will have a “culture of delivery”: this is a “project management organisation: if military personnel are skilled and appropriately qualified to hold line management, project management posts, then they should compete for them on merit – and if they get them, great.” If not, he adds, they’ll work in liaison roles and as advisers to those delivering these projects.

Sticky wickets
Asked whether a GoCo will be able to favour domestic suppliers, and how the MoD will ensure the contractor doesn’t experience conflicts of interest, Gray gives reassuring answers – but on the topic of transparency, he’s openly dismissive. The contractor will be scrutinised by the NAO and select committees, he confirms; but as regards the Freedom of Information Act and the government’s open data agenda, this former journalist says he “can’t remember where we are on that: it’s not top of my list of things… I’m trying to get the programme management of the organisation sorted out.”

Nonetheless, others have clearly focussed on the transparency agenda - for later, in response to a query from CSW, the MoD tells us that "all relevant information... related to MoD business and the expenditure of public funds will be subject to the Freedom of Information Act:" to facilitate this, the contractor "will be required to provide all information and appropriate expertise to the MoD to allow the department to adhere to its objections under the Freedom of Information Act."

Gray is more confident on whether DE&S directors might end up receiving a windfall – as managers did at MoD agency Qinetiq on its privatisation a decade ago. “The MoD sold Qinetiq pretty cheaply at the wrong time to a private equity firm,” he says – but the GoCo contractor “won’t own the business: it’s a government company that they have a right to manage for a period of time.” Senior pay and bonuses are likely to grow, but there will be no windfalls – and Gray himself will “always stay on the government side of this, as a government employee on civil service rates, because otherwise it’s just not a credible thing.”

Gray is displaying some chutzpah here: he’s not on “civil service rates” as most people would understand them. Indeed, it was in part the MoD’s failure to win Treasury approval for his salary, which is about £240,000, that led the NAO to qualify the ministry’s accounts last year. But plentiful self-confidence is probably essential if Gray is to complete the task he’s set himself: as he acknowledges, deliberately creating push-back against requests for high-spec equipment and changes to existing programmes will inevitably raise hackles. He argues, though, that his system simply brings forward those challenges to a point where decision-makers can do something about them: “Because any problem in a project would come home to roost,” he says. “It’s just that [under the current system] they won’t have the information early on.”

He’s clear, too, that his plans “will not make something perfect; I just think it will be better.” And he’s realistic about the ministry’s ability to transfer risk to a contractor: “At the end of the day, all of the risk sits with the MoD,” he says. “If BAE Systems doesn’t make us submarines and we can’t operate the deterrent then, although there might be financial penalties to BAE and so on, we’re carrying that risk… The issue, then, is how you best mitigate and control that risk which you cannot eliminate. And to my mind, having help from professional programme management organisations is a more effective way to do that than saying: ‘Well, I might not have all those skills, but at least I’m sovereign’”.

As DE&S ploughs ahead with its GoCo/D&ES-plus beauty contest, it – like its sister outsourcing project at the Defence Infrastructure Organisation – is entering largely uncharted waters for the civil service. And in Gray’s view, the model he’s pursuing may be one that ultimately proves valuable to supplier-facing operations across Whitehall. “This is my personal opinion and nobody’s policy, but I think the issues that we confront are there in significant other parts of government,” he says. “If you think about dealing with the IT industry, for example, that’s a problem that most departments face. How do you handle that specialist issue under circumstances where it’s difficult to pay people who have the right skills and expertise? I think there is a serious policy issue here for people in the delivery base who are contracting with the private sector and competing with the private sector for talent. How does the civil service remain competitive as an employer as the employment model for the rest of society changes?”

In Gray’s view, it can do so by hiving off parts of its own buying operations into the private sector, creating hard-nosed businesses that can both enforce discipline on civil service customers, and field skills to match those of suppliers’ top negotiators. And the MoD’s impatient chief of defence materiel is in a hurry to put his plans into action: as he deploys a range of negotiating techniques to minimise the time he has to spend posing for CSW’s long-suffering photographer, Gray comments that “if everybody does what they should do – which I appreciate doesn’t always happen – then we have enough time to get this done in the next 18 months.”

The defence secretary, he adds, wants to stick to that timetable – “and I think we need to finish it, to deliver certainty for the workforce and the industry.” After most of five years developing his plans, Gray is clearly champing at the bit to put them into action. “We’ve spent enough time on this already,” he says. “We definitely need to crack on.”

See also:

Top officials warn that weak civil service pay risks a brain drain

Read the most recent articles written by Matt.Ross - Kerslake sets out ‘unfinished business’ in civil service reform

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