Last month’s SEA 1000 article explored and found a ‘grand plan’ bespoke submarine design program costing up to $36 illion couldn’t be justified on ‘nation building’ grounds.
27th Feb 2013
BUILDING SUBMARINES IN AUSTRALIA
Byline: Rex Patrick / Sydney
Last month’s SEA 1000 article explored and found a ‘grand plan’ bespoke submarine design program costing up to $36 illion couldn’t be justified on ‘nation building’ grounds.
Having examined the so called “nation building” case, or lack of it as it turned out, if follows that an examination should be made as to whether there is a case for Australia’s future submarines to be built locally.
The primary focus areas will be whether there is an economic and/or a national security case for doing so and how such a build program might be successfully implemented. The research papers in the area of Naval Shipbuilding in Australia by ASPI were a most valuable starting point for this article, for which acknowledgement is given, even if a slightly different conclusion might be drawn.
AN ECONOMIC ARGUMENT AGAINST
The economic case for building our future submarines in Australia is not strong.
“Australian shipbuilding is not cost competitive for the construction of steel ships”, Austal stated in a 2010 submission to an ASPI workshop on naval shipbuilding and repair. “This has been the case for some decades and resulted in the demise of the industry despite (then) substantial government support”.
The submission reasoned that, with respect to global commercial steel shipbuilding, so long as mature manufacturing processes were in place, shipbuilding could be carried out more competitively in countries with lower labour and compliance costs due to the fact that technology associated with the majority of large steel commercial ships was relatively simple, mature, well understood and transportable. Contracts are awarded on the basis of price and delivery times.
This is not necessarily the case for naval shipbuilding. Naval ships are generally more sophisticated than commercial ships; not in terms of design and construction of the ships themselves, but in terms of the design, installation and integration of the various internal systems. This encourages nations, even those with limited shipbuilding capacity, to favour construction of the vessel in a domestic shipyard. Many nations that have budgets sufficient to purchase and operate state-of-the-art naval platforms build them locally even though this can result in a more costly and less timely outcome. The justification for this is generally based on the notion of maximising local economic benefit, industry development, ship sustainment and/or strategic importance.
Australia might well be able to build submarines at similar cost to other nations, but there are other nations, particularly those who design and build boats for their own navies who can use exports to ensure continuity of shipbuilding and amortisation of shipyard costs across multiple customers. Few would dispute the fact that building submarines here in Australia will be more expensive than having them built by DCNS in France, HDW in Germany, Navantia in Spain and, perhaps to a lesser extent, Kockums (which has experienced a long “holiday” between builds) in Sweden.
To build our future submarines here in Australia, in effect, requires the government to subsidise the project. Henry Ergas advised us in his submission to the aforementioned ASPI papers that a standard indicator used by the Productivity Commissioner with respect to subsidising an industry is its “Effective Rate of Assistance” (ERA). Ergas reports that the ERA for Australian construction of the Air Warfare Destroyer is of the order 30%; for the LHDs, even taking account of overseas sourcing of the hull, it is closer to 50%. He goes on to say “it is useful to note that in 2007/08, the ERA for the next most highly protected industry—textiles, clothing and footwear—was in the order of 13%, while that for motor vehicles and parts was 12%. Assistance to these activities—which are usually regarded as highly protected compared to manufacturing as a whole (whose ERA is less than 5%)—was therefore far lower than that provided to naval shipbuilding”.
Another economic argument against local build is the fact that when new platforms are delayed, existing platforms need to be operated longer. No better example exists than for the current situation with Collins. Annual sustainment costs for keeping between one and three Collins Class submarines at sea consumes between $500 million and $600 million per annum; an amount that is no longer a bleed, rather a Class IV haemorrhage.
Class IV Hemorrhage
Involves the loss of more than 40% of circulating blood volume. The limit of the body's compensation is reached and aggressive resuscitation is required to prevent death.
It is hard to counter the argument that building submarines in Australia is more expensive that building them overseas.
Some argue that the additional cost of building them locally is offset by the local tax revenue yielded by such an approach. Ergas counters by suggesting that the error in this argument “is to assume that in the absence of the project, the inputs it uses would lie idle: that the workers it requires, to take but one example, would otherwise live in trees eating nuts until the project comes along, so that employing those workers constitutes a benefit from the project. This assumption is obviously entirely fanciful, especially for the very skilled workforce required for major Defence programs”.
To some degree, however, Ergas’ argument can be countered.
As suggested above, the complexity in building the totally integrated weapons platform that a submarine is requires specialist skills, often tendered by personnel who have gained such skills over decades, and whose esoteric skills would often be of less value to other employment sectors.
Additionally, Ergas’ nut eating theory falters the further the economy moves from full employment (admittedly, Ergas does allude to this in his statement). Unfortunately this seems to be happening in South Australia where the unemployment rate has shifted from around 5.5% this time last year to 6.1% in January. If Ross Gaurnaut’s most recent economic outlook is to be believed, there is some chance that the situation will get worse with “uncomfortably high unemployment”.
OTHER SUBSIDY FACTORS
As for subsistence, the main economic argument against ERAs is the economic theory of ‘comparative advantage’; “let the resources that are directed at activities we are inefficient at, compared to other nations, be redirected to activities we are efficient at”.
But pure ‘comparative advantage’ theory fails to recognise some of the benefits that may result from doing the work here in Australia.
The first is the positive affect that a local build has on ‘balance of payment’ figures; the ultimate guide to a country’s international economic relations. A nation’s competitive advantage is not borne out of being a consumer, rather by being a producer of goods and services. If you are a net importer of goods you will have an account that need to be funded - difficult when one doesn’t produce but only consumes, which inevitably leads to the kind of crisis many other countries now find themselves in. The sector matters not; it is the same for defence, education, manufacturing and technology (although in in most cases ‘niche’ or high technology areas such as submarine systems design, installation and integration, represent the better areas).
The purest ‘comparative advantage’ argument also ignores the issue of ‘intellectual capital and capability’. A national aim should be to own as much intellectual capital and capability as possible, and the only way to do this is to invest. Certainly it is possible to find cheaper places – Asia and especially China - as the Americans did in the case of manufacturing. But look how that’s worked out for them – the US is now having a national rethink with a view to reinvoking ‘in-sourcing’. Intellectual capital and capability are highly important intangible elements which, if treated properly, can be retained when much of the rest is lost. Lose this and you’re at the mercy of ‘somebody’ else.
One must also remember that subsidies for submarine building activities can help to sustain and encourage innovation investment in prime and/or sub-contractor companies that engage in activities in multiple sectors, including those sectors where comparative advantage reigns. If subsidies are to be provided, as Governments choose to do from time to time, Defence is an excellent sector to do it in. Protectionism can be a source of tension between nations, but rarely does protectionism on the basis of ‘national security’ raise an eyebrow in international forums.
Finally, costs could be driven down, such that subsidies were minimised, if the government had a clear and executable strategy to make Australia more competitive.
THE NATIONAL SECURITY CASE
If economic extremists had their way, then no money would be spent on Defence – at all! But extreme economic views ignore necessary national security considerations; a sin equivalent to Defence extremists ignoring economic considerations. Both extremist types need to appreciate economic and security interdependencies at both the macro and micro level. At the macro level it must be appreciated that that a strong, well-resourced, well-educated and cohesive society must be defended and that you can’t have a strong defence without a strong economy. At the micro level it must be seen that, in the context of a finite budget, one capability obtained at too high a price is done at the expense of other capability. There is even an intra-project dimension to this statement – would the Chief of Navy (CN) rather have 12 submarines built overseas over eight built locally? CN, interested primarily in what’s-best-for-Navy, would almost certainly take 12 and leave local build arguments to other contributors to the decision making process.
But what of the purely national security arguments?
Some argue that we need to be able to build submarines here in Australia so that unique requirements can be built into them. This is largely a false proposition; overseas shipyards are most willing to modify submarine designs to satisfy customer’s unique requirements. Also of note is the fact that the uniqueness of Australia’s requirements is contestable.
Few question the economic argument for sustaining submarines in-country during peacetime – although some disadvantages start crippling the case when you place the primary sustainment organisation almost three thousand kilometres from the operational units. And everyone appreciates the national security imperative of sustaining submarines locally in time of war. Relating this back to the question at hand, another argument put forward suggests that we need to be able to build submarines in Australia in order do the sustainment. Unfortunately Australia’s own experience debunks this argument. The well-reputed Oberon Class MOTS submarines were built overseas whilst the trouble plagued Collins class unique submarines were built locally. It’s hard to argue with the evidence, although one could still be justified in saying that a locally built MOTS submarine could be sustained more effectively than one delivered from overseas if sustainment was placed in the hands of a competent submarine enterprise - which John Coles says we don’t have.
There is also an argument that having a build capability better prepares us for repairing battle damage in time of war. Some challenge this idea, but their argument is often cast with a little bit of self-doubt and this author believes it just might be better to err on the side of caution in this regard.
Finally there is the argument that we need to build submarines locally for the self-reliance reasons. This is a shallow argument noting that most of the systems found inside submarines, in Australia’s case irrespective which option is selected for SEA 1000, will be sourced from overseas. It’s not an argument for the faint hearted to defend. Better they stick to the notion that most naval powers, as part of their overall deterrent strategy, aspire to be seen to have a national shipbuilding capability.
PAUSE TO REFLECT
Building submarines locally must be based on a business case that considers not only the economics, but also national security needs. The arguments above suggest that the case is tenuous.
In a situation such as this, where the call is a marginal one, politics can become the deciding factor. And that is exactly what has happened, with both sides of politics declaring that our future submarines will be assembled in Adelaide. No doubt, such a decision has been made factoring in unemployment rate forecast for South Australian and, more particularly, the existing skill base and infrastructure on Adelaide’s Lefevre Peninsular.
So, with a decision politically imposed upon Defence, the next question to answer is how best to implement a submarine build and sustainment strategy here in Australia, noting the Adelaide caveat.
The target area for the assembly of the future submarines is Adelaide’s Techport Precinct. With over $300 million of State Government taxpayers funds invested, Techport offers existing naval shipbuilding facilities, room for expansion in this regard, a publicly owned common user ship lift facility and a work area with the full gamut of support services.
It is designed to encourage, where appropriate, competitive tension amongst shipbuilding entities, with the ability to allow for a mix of both military shipbuilding and repair. Whilst not a fully proven concept (it has had an instance of three tasks running in parallel on the Common User Facility), it has real potential.
The submarine decision may well end up being the catalyst for a transformation of Australia’s naval shipbuilding program; to be centred around Techport. This is consistent with rumoured that the Future Submarine Industry Skills plan being worked on by the DMO is something more than a future submarine industry skills plan, rather a surrogate national shipbuilding sector plan.
As to the submarine assembler, it could well be ASC; but not necessarily - and certainly not in its current form!
The Australian Submarine Corporation did an exceptional job during the Collins build. From a green field site, the first of the submarines was built in six years; an impressive achievement. Since being brought back into Government ownership and the Swedish design and production engineers were dismissed, the situation has gone downhill for ASC, as it was transformed into. In 2010 ASC participated in a Sustainment Benchmarking study between Australia, the US and Sweden’s submarine sustainment organisation. They were found to be excelling with respect to world worst practice. Refits were taking at least twice as long as most countries with similarly poor cost comparison ratios. With respect to overheads, for every 1.3 production workers ASC had one office worker; Kockums, by comparison, had 3.1 production workers per office worker.
Whilst relief appears in sight for the Navy and taxpayer in a post-Coles world, caution must be heeded, with a need to compare the rhetoric to outcomes.
The new submarine In-Services-Support-Contract sees both Defence and Finance winning financially if ASC performs well, and Defence (in other words the taxpayer) still wearing the cost if ASC doesn’t perform within the bounds of agreed targets. To top that off, executive incentives for doing well and accompanying penalties for underperforming are rumoured to be insufficient by commercial standards (on two occasions ASC have refused to reveal their executive remuneration policies to the Senate). And even if executives had large performance bonuses for meeting agreed targets and, conversely, penalties should the company not perform, it would be hard to agree personal targets as it appears from Senate Estimate testimony that the shareholder Minister of Finance sets ASC’s financial targets post facto.
Pre-Coles, HMAS Rankin has been at ASC’s Osborne site for five years and will not be handed back to Navy before the six-year mark has passed. Post Coles, HMAS Collins is set to stay at ASC for at least three and a half years, almost certainly four (admittedly, this is not all ASC’s fault).
Despite recent improvements made at ASC under the direction of Steve Ludlum and his new executive team, they may not come deep or quick enough.
ASPI has said of monopoly and government owned shipyards (of which ASC is both), “Monopoly shipbuilders have historically been less than hotbeds of productivity and timely output. Indeed, past experience with old Government owned shipyards, and current experience with maintenance under ASC, demonstrates that corrosive consequences of guaranteed workflow. ASC will almost certainly need to be sold.
There are a few options here. DCNS, Navantia or TKMS might seek a direct prime contractor role pulling together a range of sub-contractors and utilising the Common User Facility and surrounding space to build and deliver our future submarines. Alternatively, companies like Austal, Babcock, BAE, Forgacs, Leightons, Thales or Wooley Parsons might seek an equity or a prime contractor role in the future submarine program, also pulling together sub-contractors and utilising the Common User Facility and surrounding space. A further option might see any of these companies join forces with the successful submarine bidder and buy ASC’s submarine division, consuming its operations. In all of these cases, those with relevant skills within ASC will be hired by the winning prime (who will simply offer them employment in a building next door) or new owner.
Finally, the sustainment operations (intermediate, mid cycle and, potentially, full cycle dockings) must be moved to Western Australia where the submarine force operates from and, if and when we have submarines home base in the east, Sydney or Newcastle (noting Brisbane is no longer on the table as a future submarine base). With 12 submarines, two refit sites would be necessary to meet capacity requirements, and would assist by providing competitive tension between western and eastern sites. Supporting submarine sustainment out of the Adelaide site, 2600 km for where the submarine force operates, isn’t smart. It is disruptive to the crews, time consuming and costly to the Navy and against the recommendations of Coles, who found that ASC in the West was much more outcome focussed.
The Commonwealth would need to procure IP rights necessary to support build and modify operations in Adelaide and refit operations in the West and East.
Australia’s future submarines will be assembled in Adelaide. That decision has been made.
Reports of cost overruns and likely delivery delays in the Brazilian Scorpene home build program have emerged and are instructive for Australia. Also noted is the Indian Government’s change of tack in their Project 751 new submarine program. Based on experience with their extant local build program of 6 Scorpene submarines, the Indians appear to have changed what was to be an entirely Indian build program to one of having the successful supplier build the first two submarines in a foreign location.
Fortunately Australia’s track record in submarine building may serve to negate the danger signals from their programs.
None the less, it must be recognised that the case for a local build is not strong, with politics the main driving factor. Noting political factors have been a contributor to many of the past Defence projects that have gone off the rails, care must be taken to minimise negative economic impacts and maximise the national security gains.
Noting the aim, to build a highly reliable, deployable, high-end submarine capability, a local build should not be coupled to a high cost and risky bespoke design program. Adding this cost and risk to an already tenuous business case would make for a highly volatile cocktail that would likely end in tears for the ADF and the taxpayer.