SEA 1000 and “Nation Building” - The Industrial Tail Wagging the Capability Dog?

“Defence heavyweights Peter Cosgrove and Angus Houston say an Australian-built submarine fleet is essential for the nation's strategic interests, urging the government to resist cheaper options for replacing the ailing Collins Class boats”

28th Jan 2013


 SEA 1000

 SEA 1000 and “Nation Building” - The Industrial Tail Wagging the Capability Dog?
WAGGING THE DOG
“Defence heavyweights Peter Cosgrove and Angus Houston say an Australian-built submarine fleet is essential for the nation's strategic interests, urging the government to resist cheaper options for replacing the ailing Collins Class boats” read the by-line to an article in The Australian on the 25th October last year. The article was the South Australian (SA) Government’s response to a suggestion by the Centre for Independent Studies that the Federal Government should consider leasing Virginia-class nuclear submarines to save Defence more than $10 billion.
After a further Australian Financial Review article on the 11th November, in which federal coalition front benchers were said to favour the need to consider the Virginia option, SA’s response came as no surprise. Having used up its two most prominent players on the Defence SA Advisory Board two weeks prior, they had no choice but to wheel out the Premier himself. Jay Weatherill called upon the Coalition to rule out any pursuit of nuclear submarines if it wins government, saying it would be a “threat to jobs’’ at Adelaide-based ASC. With BHP’s Olympic Dam expansion project having been delayed, SA considers the future submarine project a “must win”.
These media articles were a blatant case of, - to steal a phrase coined by ASPI’s Dr Andrew Davies - “the industrial tail wagging the capability dog”. SA’s Government, although quite entitled to argue its case for future submarine work, had crossed a constitutional line it shouldn’t have; State Governments have no business defining national defence capability needs.
But Defence SA is not alone in attempting to distort the capability debate with industrial issues. So too have a number of former submariners. These “design our own submarine” advocates, having lost their case on strategic needs, cost vs. capability, risk and opportunity costs grounds, have shifted the debate to “nation building” in an attempt to mask common sense with a sprinkling of patriotism and nationalism.
This month’s SEA 1000 article will question the “nation building” line being pushed by some in the debate.
THE SNOWY MOUNTAIN SCHEME AND SUBMARINES
When the bespoke design submarine program advocates rise from their choir stalls to sing the “nation building” hymn, they often pin up their grand plan alongside the Snowy Mountain Hydro-Electric Scheme in the hope that association with “the greatest engineering scheme in Australian history” might somehow distract the shrinking congregation from the cost and risk elements of a bespoke design program.
But doing so is folly – because when one looks at the detail and compares this great historical program alongside the Collins Program – their argument falls down spectacularly.

Item Snowy Mountains Hydro Electric Scheme Collins Submarine Program
Program Cost (in 2012 dollars) Approximately $7B Approximately $7B
(Includes $1B spent by the Submarine Capability Team in the 90s in a failed attempt to fix the submarines).
Return on Investment (Outcomes) • 3.2 Giga Watt hours annual electricity generation for the ACT, NSW and VIC
• 1.475 Giga Litre water diversion/release for irrigation
• Tourism
• Snowy Hydro LTD • 6 submarines with an aging capability and limited availability
• ASC PTY LTD
2012 Annual Drain On The Taxpayer Nil
(operating, sustainment and investment costs are encapsulated in Snowy Hydro financials) $734M including:
• Sustainment costs of $506.5M
• Operating costs of $187.4M
• Investment (improvement program) costs of $40.3M
2012 Current Asset Value (Snowy Hydro) $2,516M including:
• 16 large dams
• 9 power stations
• 80 km of aqueducts
• 145 km of tunnels
• One pumping station (ASC) $616M
2012 Profit after Tax (Snowy Hydro) $258M (ASC) $14.6M
2012 Dividend (Snowy Hydro) $120M (ASC) $6.3M

Table 1 – Snowy Mountain Scheme/Collins Program Comparison
The Snowy Mountain Scheme was a dual-purpose hydro-electric and irrigation project. It impounds the south flowing waters of the Snowy River and its tributary, the Eucumbene, at high elevations using 16 dams and diverts the water inland through 145 km of trans-mountain tunnels and 80 kilometres of aqueducts to the Murray and Murrumbidgee rivers. The flowing water generates a significant amount of electrical energy for the ACT, NSW and Victoria as it passes through the turbines of the scheme’s seven hydro-electric power plants.
The program commenced in 1949 and concluded, from a development perspective, in 1974. It cost the taxpayer about $7 billion in current dollars. For that money the taxpayer received 1600 kilometres of new roads and tracks, seven townships, 3.2 Giga Watt hours annual electricity generation (for those of carbon saving ilk, the scheme saves the burning of five million tonnes of coal per annum), 1.5 Giga Litres of annual water diversion/release for irrigation, a tourism draw card and the unlisted public company Snowy Hydro Ltd.
Snowy Hydro Ltd has a book value of $2.516 billion a 2012 after tax profit of $258 million and paid a $120 million dividend to the NSW (58%), the Victorian (29%) and Commonwealth (13%) Governments last financial year.
The Collins Program, a project to build Australia 6 submarines, commenced around 1983 and concluded in 2003 when HMAS Rankin commissioned (some argue the program is still unfinished) and cost the taxpayer a similar amount to the Snowy Mountain Scheme. For $7 billion the taxpayer received 6 submarines with design and availability issues and significant ongoing cost to the government. They also got ASC Pty Ltd.
ASC Pty Ltd has a book value of $616 million, a 2012 after tax profit of $15 million (note its revenue is principally Commonwealth funded) and passed only $4.6 million in dividends to the Treasurer last financial year.
Some readers might criticise the comparison for failing to recognise the, perhaps intangible, Defence value that the submarines have. Unfortunately, from a Defence bang for buck perspective, international benchmarking carried out by John Coles shows we are getting no better than 50% of almost any other submarine operator.
PRODUCTIVITY
An inefficient future submarine program, one that delivers capability at too high a price - particularly noting the sorts of numbers being bandied about for an indigenous design - will serve as an impediment to national productivity.
Productivity, at a national level, can be computed by dividing the national output by the resources expended across the economy to achieve that output.
Productivity matters not for its own sake, but because growth in it can generate higher incomes and government revenues needed to enhance living standards and raise quality of life. A rise in productivity delivers benefits to all Australians; conversely, a fall in productivity causes the opposite, affecting every corner of the economy.
Any dollar spent on SEA 1000 with respect to submarine capability output above what is absolutely necessary is a dollar that can’t be invested on other defence assets or national infrastructure programs. The bottom line is that poor investment decisions have high opportunity costs that can cause a long-term drag on the economy.

MONEY WELL SPENT?
The poor standing of the Collins Class submarine program in comparison to the Snowy Mountain Scheme as a “nation building” venture, along with a requirement to be mindful of productivity, leads us to ask the question; will money spent on a bespoke design solution be money well spent?
MONEY WELL SPENT – THE IRON LADY’S VIEW

A few extracts from a speech by the then British Prime Minister, Margaret Thatcher, to a Conservative Party Conference in 1983.

Let us never forget this fundamental truth: the State has no source of money other than money which people earn themselves. If the State wishes to spend more it can do so only by borrowing your savings or by taxing you more. It is no good thinking that someone else will pay—that "someone else" is you. There is no such thing as public money; there is only taxpayers' money …

Prosperity will not come by inventing more and more lavish public expenditure programmes. You do not grow richer by ordering another cheque-book from the Bank. No nation ever grew more prosperous by taxing its citizens beyond their capacity to pay. We have a duty to make sure that every penny piece we raise in taxation is spent wisely and well …

Protecting the taxpayer's purse, protecting the public services—these are our two great tasks, and their demands have to be reconciled. How very pleasant it would be, how very popular it would be, to say "spend more on this, expand more on that." We all have our favourite causes—I know I do. But someone has to add up the figures. Every business has to do it, every housewife has to do it, every Government should do it, and this one will …

But throughout history clever men, some of them economists, not all of them rascals, a few of them vicious men, have tried to show that the principles of prudent finance do not really apply to this Government, this budget, that institution. Not so …

When there is only so much money to spend, you have to make choices, and the same is true of Governments. It is sometimes suggested that Governments can opt out of these choices. They cannot.

Most accept that submarines are necessary Defence assets. As such, the cost of a high end MOTS submarine must be the baseline from which productivity and return of investment is assessed. It represents the least the taxpayer must spend for a necessary submarine capability. ASPI’s How to Buy a Submarine Strategic Insights paper advises us that a reasonable procurement cost for twelve Type 214/212 equivalent submarines is $8.8 billion. At the other end of the spectrum, twelve 4,000 tonne bespoke design submarines have a $36 billion price tag.
Two “money well spent” comparisons must be made.
The first is the comparison between the benefits (e.g. jobs created, knowledge transfer, up skilling of those labour participants and an influx of new technologies) to the nation of an $8.8 billion program and that of a $36 billion program. This appears to be an answer being sought in a study recently tendered by Defence with an aim of “understand the dimension of Defence industry as a whole and the broader economic effects of individual military capital equipment projects, including SEA 1000, and sustainment of that equipment”. There is hope in the tender’s statement-of-work that national benefits comparison between options will be drawn out; it states, “a series of potential scenarios of how SEA 1000 might evolve, including domestic build options for the new submarines”. One might hope that the successful tenderer takes one of the lessons of Collins and not include in the nation building tally any industry elements that will rise as a result of the SEA 1000 project but fall on its completion. Industry elements that also should be excluded are those that will rise from the project but survive exclusively on future taxpayer funded submarine sustainment money.
Unfortunately, the answers to the tendered study are unlikely to appear before May 2014 but one can’t imagine that the additional national benefit associated with an additional spend of $27 billion will weigh in favour of a bespoke design solution.
The second comparison, absolutely essential if “nation building” is to be the mantra, is a relative return on investment comparison between an additional $27 billion spend on a bespoke designed solution or some other enablers to the national economy; transport infrastructure, energy generation, public utilities, education programs or research and development across both the public and private sector. Those wanting to push the “nation building” line need to brace themselves for the outcome of such a cost benefit analysis. Unfortunately, the study that Defence has put to tender does not seek to carry out such a comparison. Perhaps they don’t want the question answered. The truth is that there are numerous other programs that government could embark upon which would offer greater return on investment for the taxpayer with a significantly better risk profile.
Gary Banks, Australia’s Productivity Commissioner, put his thoughts on the future submarine program on-the-record in an address to the Melbourne Institute and The Australian Economic and Social Outlook Conference in June 2011. “The cost benefit logic informing such new initiatives should also be brought to bear on existing programs, with those yielding the smallest relative payoffs the first to go”. He went on to say, “No doubt there is more low hanging fruit waiting to be picked. For example, the case for spending $36 billion or so on another dozen homemade submarines, when imported alternatives could be purchased for a fraction of the cost (and risk) has never been adequately explained publically – notwithstanding the generally acknowledged failure of the Collins Class precedent. The whole area of defence procurement seems ripe for a thorough independent review. And finally, “The justification sometimes offered for ‘build rather than buy’ policies – skilled job creation or technological spill overs – even if they had some merit in the past, have little credibility today, given the pressing need for such skills in mining and associated activities”.
CABINET-IN-CONFIDENCE
Some of the propositions put forward in this article are not beyond the bounds of Government thought.
In January the Nation Archives released a copy of the 1985 “submarine construction program” cabinet submissions made by Defence, Treasury and the Department of Industry, Technology and Commerce.
Treasury comments are instructive.
In relation to a comparison baseline, they stated: “Finance considers an overseas build of all submarines should be the costing benchmark against which all other options should be assessed”.
In line with this view they also recommended that the Kockums submarine, the second preference solution for Defence behind the IKL/HDW/Ferrostaall Type 2000 submarine, be replaced by the Walrus Class submarine, “… to provide the Government with a genuine choice at the end of the Project Definition Study (PDS), that is between a high risk developmental boat and a low risk operational boat, Treasury would strongly support the RDM Walrus replacing the Kockums as the second PDS participant.”
They noted the risks of going down a new design path stating, “With few exceptions, local industry has a dismal record in the construction of high technology defence equipment. Such an outcome in this case could severely distort future Defence budgets” and they raised a very pertinent question with respect to the “nation building” benefit that might come from a developmental submarine design and build program “Treasury also notes that nowhere has the Minister demonstrated that the facilities and human skills resulting from a local construction programme are of genuine ongoing relevance to our marine and engineering industries”.
Cabinet ignored the advice of Treasury, choosing instead to ride the Defence and Industry/Technology/Commerce wagon into the abyss.
FOCUS ON THE AIM
Throughout the last decade, Australia’s Collins class submarines were heralded as “the world’s best conventional submarines”. After a public lancing of the wound and a very public autopsy, it’s a phrase no longer used. This decade’s unsubstantiated “nation building” future submarine program claim will go the same way. The facts simply don’t support the proposition.
Everyone needs to be very clear on the aim. The primary reason for acquiring a submarine capability, or any other weapon system for that matter, is to defeat an enemy in battle and for that we need a maximum-capability, risk-savvy, cost-effective submarine acquisition program. We can’t deploy industry to battle and we can’t use industry’s infrastructure to dominate an enemy.
Of course, we need to be cognisant of industry, particularly from a sustainment perspective, as an unequivocal input to capability. In fact, there may be strong case for the building off-the-shelf submarines in Australia (something that will be examined next month), but we should not distort the discussion with a “nation building” line that won’t stand up to scrutiny.
And finally, the “nation building” daydreamers need to be mindful of the consequences of a bespoke design submarine project going wrong, as such large and risky projects have a tendency to do. It’s a perspective ignored in this article, but be under no misconception; wasting billions on an unfulfilled capability is the absolute antithesis of “nation building”.
 

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