Aircraft Carriers and UK Shipbuilding
(Source: House of Commons; issued Nov. 6, 2013)
The Secretary of State for Defence (Mr Philip Hammond):

With permission, Mr Speaker, I would like to make a statement on the future shipbuilding programme for the Royal Navy and, in particular, the aircraft carrier project.

As the House will know, the previous Government entered into a contract with the Aircraft Carrier Alliance, an industrial consortium led by BAE Systems, to build two 65,000-tonne aircraft carriers—the largest ships in the Royal Navy’s history. In the strategic defence and security review 2010, the incoming Government, faced with the challenge of dealing with a £38 billion black hole in the Ministry of Defence budget, was advised that under the terms of the contract it would cost more to cancel the carriers than to build them.

The Public Accounts Committee has subsequently described that contract as “not fit for purpose” and identified, in particular, the misalignment of interests between the MOD and the contractors, manifested in a sharing arrangement for cost overruns which sees, at best, 90p of every pound of additional cost paid by the taxpayer, and only 10p paid by the contractor, as the root cause of the problem.

I agree with the PAC’s analysis. In 2012, I instructed my Department to begin negotiations to restructure the contract better to protect the interests of the taxpayer and to ensure the delivery of the carriers to a clear time schedule and at a realistic and deliverable cost. Following 18 months of complex negotiations with industry, I am pleased to inform the House that we have now reached heads of terms with the alliance that will address directly the concerns articulated by the PAC and others.

Under the revised agreement, the total capital cost to Defence of procuring the carriers will be £6.2 billion, a figure arrived at after detailed analysis of costs already incurred and future costs and risks over the remaining seven years to the end of the project. Crucially, under the new agreement, any variation above or below that price will be shared on a 50:50 basis between Government and industry, until all the contractor’s profit is lost, meaning that interests are now properly aligned, driving the behaviour change needed to see this contract effectively delivered.

The increase in the cost of this project does not come as a surprise. When I announced in May last year that I had balanced the defence budget, I did so having already made prudent provision in the equipment plan for a cost increase in the carrier programme above the £5.46 billion cost reported in the major projects review 2012 and I did that in recognition of the inevitability of cost-drift in a contract that was so lop-sided and poorly constructed.

I also made provision for the cost of nugatory design work on the “cats and traps” system for the carrier variant operation and for reinstating the ski-jump needed for short take-off and vertical landing operations. At the time of the reversion announcement, I said that these costs could be as much as £100 million; I am pleased to tell the House today that they currently stand at £62 million, with the expectation that the final figure will be lower still.

Given the commercially sensitive nature of the negotiations with the Aircraft Carrier Alliance, I was not able publicly to reveal these additional provisions in our budget, since to do so would have undermined our negotiating position with industry. However, the MOD did inform the National Audit Office of these provisions, and it is on that basis that it reviewed and reported on our 10-year equipment plan in January this year.

I am therefore able to confirm to the House that the revised cost of the carriers remains within the additional provision made in May 2012 in the equipment plan; that as a result of this prudent approach, the defence budget remains in balance, with the full cost of the carriers provided for; and that the centrally held contingency of more than £4 billion in the equipment plan that I announced remains unused and intact, 18 months after it was announced.

In addition to renegotiating the target price and the terms of the contract, we have agreed with the Aircraft Carrier Alliance to make changes to the governance of the project better to reflect the collaborative approach to project management that the new cost-sharing arrangements will induce and to improve the delivery of the programme. The project remains on schedule for sea trials of HMS Queen Elizabeth in 2017 and flying trials with the F35B commencing in 2018.

Overall, this new arrangement with industry will result in savings of hundreds of millions of pounds to taxpayers, and I pay tribute to the team of MOD officials, led by the Chief of Defence Matériel, who have worked hard over a long period of time to deliver this result.

In reviewing the carrier project, we also reviewed the wider warship-building programme within the context of the so-called terms of business agreement, or TOBA, between the MOD and BAE Systems signed in 2009 by the last Government. As the House will know, we remain committed to the construction of the Type 26 global combat ship to replace our current Type 23 frigates, but the main investment approval for the Type 26 programme will not be made until the design is more mature, towards the end of next year.

There is, therefore, a challenge in sustaining a skilled shipbuilding work force in the United Kingdom between the completion of construction of the blocks for the second carrier and the beginning of construction of the Type 26 in 2016. Under the terms of the TOBA, without a shipbuilding order to fill that gap, the MOD would be required to pay BAE Systems for shipyards and workers to stand idle, producing nothing while their skill levels faded. Such a course would add significant risk to the effective delivery of the T26 programme, which assumes a skilled work force and a working shipyard to deliver it.

To make best use of the labour force, therefore, and the dockyard assets, for which we would anyway be paying, I can announce today that we have signed an agreement in principle with BAE Systems to order three new offshore patrol vessels for the Royal Navy, based on a more capable variant of the River class and including a landing deck able to take a Merlin helicopter. Subject to main-gate approval in the coming months, these vessels will be constructed on the Clyde from late 2014, with the first vessel expected to come into service in 2017.

The marginal cost of these ships, over and above the payments the MOD would anyway have had to make to keep the yards idle, is less than £100 million, which will be funded from budget held within the equipment plan to support industrial restructuring. This order is good news for the Clyde. It will sustain around 1,000 jobs as the carrier construction work reaches completion, secure the skills base there and ensure the ability to build the Type 26 frigates in due course, while turning the MOD’s liabilities under the TOBA into valuable capability for the Royal Navy.

I turn now to the final part of this statement. The House will be aware that, this morning, BAE Systems has announced plans to rationalise its shipbuilding business as the surge of work associated with the carriers comes to an end. Regrettably, that will mean 835 job losses across Filton, the Clyde and Rosyth, and the closure of the company’s shipbuilding yard in Portsmouth. The loss of such a significant number of jobs is, of course, regrettable, but was always going to be inevitable as the work load associated with the carrier build came to an end.

I want to pay tribute to the men and women on the Clyde and in Portsmouth who have contributed so much to the construction of the Royal Navy’s warships—including, of course, the Queen Elizabeth class carriers. BAE Systems has assured me that every effort will be made to redeploy employees, and that compulsory redundancies will be kept to a minimum. The company is now engaged in detailed discussions with the unions representing the work force in Portsmouth and on the Clyde.

I know that the loss of shipbuilding capability will be a harsh blow to Portsmouth. The Government and the city council, together with Southampton, are in discussions about a city deal package for the area, to boost growth and jobs in the local economy. We expect to be able to make an announcement on that shortly. I can also announce that Admiral Rob Stevens, the former chief executive of the British Marine Federation, will chair a new maritime forum to advise the Solent local enterprise partnership on its maritime vision.

Despite the end of shipbuilding activity, Portsmouth will remain one of two home ports for the Navy’s surface fleet, and will continue to undertake the vital support and maintenance work that sustains our most complex warships, including the Type 45 destroyers and, of course, the aircraft carriers themselves. Indeed, with both carriers based in Portsmouth, the tonnage of naval vessels based in the port will be at its highest level since the early 1960s, sustaining a total of around 11,000 jobs in the dockyards and related activities. To support this level of activity, I can announce today an investment of more than £100 million over the next three years in new infrastructure in Portsmouth to ensure that the carriers can be properly maintained and supported.

The Chair of the Public Accounts Committee has previously described the carrier programme as “one of the most potent examples of what can go wrong with big projects in the public sector”.

That is the legacy that this Government inherited: a carrier contract that was not fit for purpose and a TOBA that would have required the MOD to pay BAE Systems to do nothing while our shipbuilding skills base faded away. These announcements today put that legacy behind us. They will secure the future of British warship building, set the aircraft carrier project on a new path with clear alignment between industry and the MOD, and deliver important new capability in the form of offshore patrol vessels for the Royal Navy.

I commend this statement to the House.

Click here for the related debate in the House of Commons


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