UK Contract Watchdog Orders Cuts For Hawk Engine Deal

16 May 2016

Rolls-Royce has had more than £1 million cut from the cost of a deal to support Hawk jet trainers. The decision came in a landmark ruling by the new British regulator tasked with policing single-source procurement awards at the Ministry of Defence.

The Single Source Regulations Office (SSRO) is expected to say Monday that it has ordered a £1.27 million (US $1.84 million) cut in costs from a five-year deal awarded last December to support the Adour engines used to power Royal Air Force Hawk trainers.

The saving may be relatively small but the SSRO’s issue of a formal determination on exactly what spending contractors can pass onto the Ministry of Defence (MoD) is the first time it has bared its teeth since it rewrote the allowable cost rules in early 2015.

Single-source work is big business here. In 2014/15 some £8.3 billion — more than 50 percent of all procurement and support deals done by the MoD — were not competed.

US future military sales and other government-to-government deals fall outside the regulation remit.

The regulator, set up by the government last year to oversee how much profit the defense industry makes from contracts awarded without competition, said that several millions of pounds of other costs on the Rolls-Royce contract are still the subject of an investigation as part of routine compliance duties.

The cuts were related to the extent that sales and marketing costs could be included in the contract and whether the level of cost adjustment for risk was appropriate.

On the risk issue, the regulator is expected to say in a detailed judgement, due for release May 16, that it decided Rolls-Royce was “overstating the risk of future cost variation and should not be adding the 25 percent adjustment the company proposed.”

The areas still under review in the deal include performance incentives, capital servicing cost and the charging for additional work resulting from faulty workmanship.

“We respect the Regulator’s decision and will structure our future bids appropriately," a statement from Rolls-Royce said.

Clive Tucker, the SSRO interim chairman, said he hoped other contractors would learn from the Rolls-Royce decision

“We have articulated the rules and guidance within the legislation. We believe they are clear, we have applied them clearly in this case, and we hope that the MoD and other contractors will be able to look at our decision and be able to work together to ensure that so far as possible similar costs are not included in future contracts," Tucker said.

To date, contractors had been willing to remove any nonallowable costs identified, but in this case the MoD and the contractor failed to resolve the issue and the parties started the SSRO process in “polarised positions,” according to Tucker.

“We have come down one side rather than the other, but I don’t think it is a particularly worrisome contract or contractor. When two parties have different views of what the number should be in a contract, we have to look at the evidence from both sides and make a fair, impartial and transparent decision, which is what we have done,” he said in a telephone interview.

“However, this binding determination shows that if contractors won’t adhere to the guidance, we have the ability and the will to impose a change when necessary,” he added.

In a newsletter issued to defense contractors earlier this month, the SSRO said it was currently assessing nearly £80 million of potential, nonallowable costs in the first 20 contracts of which it is considering.

In a short time, though, the SSRO has become a key player in the defense sector here.

Not only does it oversee the allowable costs regulations but it also sets the annual baseline profit rate that industry is allowed to charge on single-source contracts.

This year it cut the rate to 8.95 percent, a 15 percent reduction on the previous year. The new SSRO rules replace decades-old regulations contained in what was known as the Yellow Book.

Defence Procurement Minister Philip Dunne told members of Parliament during committee hearings into the Defence Reform Bill in 2013, which resulted in the creation of the SSRO, that contractors were making between £100 million and £200 million from inappropriate charges per year under the old rules.

Dunne listed £24,000 for ceremonial mugs and £2,000 for a children’s party as among inappropriate costs charged to taxpayers.

The government reckons the SSRO could save it £200 million.


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