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Sinking billions: Undergunned and overpriced
Missing records, billions in over-runs, conflicts of interest, and flawed ships. How the Defence Department’s new frigates project is a boondoggle for a British weapons-maker.
Part one of a two-part series. Read part two.
Conflicts of interest, secret consulting deals, and revolving door appointments. The public outrage when this behaviour was revealed led to PwC hiving off its government consulting business to a private equity firm for just $1.
Yet such behaviour is business as usual at the Defence Department. The key difference is that taxpayers are on the hook for multi-billions of dollars, not millions.
This investigation reveals how one of the world’s biggest arms companies, BAE Systems, exerts its extensive influence inside Defence, the nation’s biggest procurement agency.
The government has hired former senior BAE executives to write Australia’s shipbuilding policy, to oversee the Australian Navy’s largest tenders, and even to negotiate on the government’s behalf with their former employer – on a deal now found to be riddled with probity concerns.
Successive former Coalition governments granted weapons industry insiders preferential access, a situation that has continued under the Albanese Labor government. This story is also therefore about state capture – what happens when a corporation has the power to bend governments to its will.
When combined with departmental incompetence, corruption, or both, the result is procurement projects that are billions of dollars over budget and years behind schedule. As a result, the navy is facing massive capability gaps.
Hunter-class frigate procurement – whose interests were served?
Abandoning the submarine deal with France cost taxpayers $3.4 billion.
Now the spotlight is on Australia’s largest ever surface warship procurement.
The $46 billion Hunter-class frigate program was the subject of an incendiary report released in May by the Australian National Audit Office, which revealed that:
the Defence Department ignored the primary government procurement rule of assessing value for money
government agencies whose role is to oversee the public interest did not act to ensure the Defence Department assessed value for money
BAE’s ship design was not in the top two of the three companies shortlisted
key decision-making records had vanished, including documents showing why the secretary of the department included BAE in the final shortlist of three
the main reason for selecting BAE’s design was its anti-submarine capability, but the department could not produce documents pertaining to that assessment or 22 other high level requirements
the Defence Department made milestone payments to BAE even though BAE had missed the milestones.
These are just some of a long list of concerns the audit office raised in its report.
BAE Systems is Australia’s largest defence contractor and the world’s sixth largest arms corporation.
Regarding its decision not to assess value for money, the Defence Department told the audit office, “The Government determined there to be value for money in establishing a sovereign, sustainable, cost-competitive continuous shipbuilding program in Australia.”
However, the audit office said the Commonwealth procurement rules oblige departmental officials to assess value for money. It said the department had erroneously “conflated” an objective of industry policy with achieving value for money in procurement.
Interestingly, the department did undertake value for money assessments in two other tenders it was running at the same time that were also under the shipbuilding plan – the offshore patrol vessels and the Cape-class patrol boats.
Another mandatory requirement, a whole-of-life cost estimate for the frigates, was also not provided to government.
Within 24 hours of the report’s release, the Parliamentary Joint Committee of Public Accounts and Audit had launched an inquiry.
Auditor-general Grant Hehir also criticised the program’s probity adviser, the Australian government solicitor (AGS), and the finance department, which oversees the procurement rules. At the committee’s first public hearing, on 19 May, Hehir said that while the AGS had mentioned value for money to the Defence Department it “drifted away pretty quickly” and “didn’t pursue the issue”.
Said Hehir: “You’d expect people with responsibility for frameworks and issues like adhering to the law, which the procurement rules are, would hang on pretty tightly…”
In response to the auditor’s criticism of its inability to produce key documents, the Defence Department said these numbered “less than 10” and that more than 730,000 other documents were available. This remark was signed off by defence secretary Greg Moriarty and the chief of the defence force General Angus Campbell, as part of a longer response reproduced in the audit report.
The auditor-general returned to this remark at the parliamentary hearing. “Our concern is not just that all records should be kept but, particularly, important records should be kept. In this case, [they] were significant records.”
Senior audit office official Dr Tom Ioannou added: “We pursued this at length with Defence [giving] them every opportunity to provide the documented rationale [for shortlisting BAE].”
Ioannou also said that minutes were unavailable of the Defence Committee meeting at which the decision to recommend BAE’s frigate was likely discussed. “This is an apex Defence enterprise level committee with well-established and elaborate secretariat arrangements…designed to capture exactly this sort of decision-making,” he said. This is the top level committee in Defence and includes the defence secretary and the chief of the defence force.
The Defence Department was a serial offender when it came to deficient record-keeping, the auditors noted. They also footnoted a quote from the Commissioner for Law Enforcement Integrity:
[L]ack of record keeping can create corruption vulnerabilities within an Agency.
Committee chair Labor MP Julian Hill more than once suggested the possibility of “nefarious” conduct, while deputy chair, Liberal senator and former defence minister Linda Reynolds, referred to BAE Systems as a “very wily” contractor.
The Defence Department was unable to answer the majority of questions posed by the committee. Officials said the department was conducting an internal investigation and would report back. The next hearing is likely to be in late July or August, Hill said.
BAE Systems over-stated design maturity of frigate
One of the government’s five project objectives was that the frigate be based on a “military-off-the-shelf design” with “a minimum level of change”, the audit report said.
The shortlisting of BAE’s frigate was criticised at the time for not meeting this criteria because it was still in the design phase and not yet in the water, unlike the other two shortlisted ships.
BAE Systems had stated its design would be “de-risked” because the Australian program was running five years behind the UK program, meaning the Royal Navy would resolve design issues.
Yet Australian taxpayers are paying BAE Systems more than $6 billion for the ‘design and productionisation’ of the frigates. And the audit report found that the immaturity of the ship’s design was primarily to blame for mounting costs and schedule delays.
Expressing consternation that BAE made the shortlist was Australia’s chief of navy from 1999-2002, former vice admiral Dr David Shackleton.
“Given the degree of redesign needed to progress to this point, it’s reasonable to question how [it] was placed on the list of contenders in the first place.”
As for the high design costs, Dr Shackleton said some explanation was needed. In his 2022 48-page report he wrote:
How Australia found itself paying $6.26 billion to modify an existing design that was ostensibly mature enough for the UK to start construction, and … one that was proclaimed to be readily amenable to change, needs some explanation.
Comparing costs across procurements is extremely difficult due to individualised modifications to suit a country’s requirements and the secrecy surrounding contractual arrangements. Yet the apparent magnitude of design cost differences between the Australian, Canadian and US procurements must be noted.
Australia is paying over $6 billion for ‘design and productionisation’, while Canada’s initial design cost was CA$185 million ($205 million) and the US’s design modifications were just US$15 million ($21 million).
The Canadian navy is acquiring and modifying the same BAE frigate Australia has selected. Canada noted that its design modification costs would increase, but they are starting from a lower base.
Dr Shackleton said that at face value the Canadian figure appears to be high, particularly when an advantage of the ship was purportedly its modern digital design, being ostensibly less difficult to modify than traditional methods normally involve.
Meanwhile, the US Navy design modification contract with Fincantieri, signed in 2018 also, is for an even smaller sum. A US Congressional Budget Office report said the US frigate’s design costs could rise if design changes were made during construction. Fincantieri’s frigate was on Australia’s shortlist.
Unlike Canada and the USA, there is no transparency from the Defence Department about how much Australia is paying for design modification.
A departmental webpage says the $6 billion design and productionisation cost covers three elements: design modifications, prototyping of ship blocks at the new Osborne shipyard, and ordering “long-lead items for the first three ships”.
Undue Influence asked the department for a breakdown of the $6 billion and for more detail regarding the long-lead items. The department did not respond.
Experts say BAE frigate unsuited to requirements
Former navy chief David Shackleton’s report also set out numerous reasons why the Hunter-class frigate did not meet the navy’s needs. He called for the program to be scrapped and the funds redirected into acquiring more suitable ships, examples of which he listed.
His report followed an earlier one by Dr Marcus Hellyer, a former senior analyst at the Australian Strategic Policy Institute, who listed similar concerns and alternative proposals. Hellyer noted of BAE’s ship:
[The frigate is] under-gunned for the threat environment of the 2030s: its missile capacity is the most glaring shortfall… its 32 missile cells mean it’s taking a knife to a gunfight.
The audit report said the Defence Department was unable to provide an estimate of the final cost of the frigates. The department could say only that the cost was likely to be “significantly higher” than the $44.3 billion previously advised to government. This was already $10 billion more than the original $35 billion cost.
The cost blowouts are now so significant that the frigate program is “unaffordable” without cost cutting elsewhere or reducing the number of ships, according to defence officials mentioned in the audit report.
Defence has previously investigated BAE over fraud claims
The auditor’s report is not the first time questions have been raised about the relationship between the Defence Department and BAE Systems. Defence conducted a secret investigation into BAE for its alleged inflation of invoices by tens of millions of dollars during its work on an earlier class of frigates – the now-decommissioned Adelaide-class.
Concerns about BAE had reportedly been raised within the department since 2014 but the secret investigation only began in late 2018, in response to a whistleblower, after BAE had been awarded the Hunter-class frigate contract.
The department also investigated its second largest contractor, Thales, at the same time for similar reasons on the same ships.
According to the May 2019 exposé in The Weekend Australian, an internal Defence audit found BAE’s Adelaide-class contract “riddled with cost overruns, with the British company consistently invoicing questionable charges”.
So serious were the allegations they were escalated to Defence’s assistant secretary of fraud control, who reportedly referred several matters to the Independent Assurance Business Analysis and Reform Branch of Defence.
When I asked the department in 2020 about the results of its secret investigations into BAE and Thales, it responded that its investigation had found “no evidence” of inappropriate excess charges.
BAE’s dark history: corruption and cosiness with war criminals
During the 1990s and 2000s, in ‘a deliberate choice that came from the top’, BAE Systems ran an offshore shell company in the Cayman Islands called Red Diamond Trading that was used to channel hundreds of millions of pounds in bribes to key decision-makers in a succession of arms deals.
This included deals forming part of the £43 billion Al Yamamah arms deals with Saudi Arabia between 1985 and 2007. Following a leak of documents in the early 2000s, an investigation by the UK government’s Serious Fraud Office (SFO) found that BAE Systems had paid ‘commission’ payments, or bribes, of up to £6 billion to members of the Saudi royal family and others. There were also slush funds of tens to hundreds of millions of pounds used by BAE to entertain Saudi royals on visits to the UK, and for foreign travel.
Then PM Tony Blair controversially shut down the SFO investigation in 2006 under heavy pressure from BAE Systems and the Saudis. The British High Court deemed this ‘unlawful’, an ‘abject surrender’ and a ‘threat to the reputation of British justice’.
More recently, the Saudi-led coalition’s role in the Yemen war, fuelled by arms supplied in large part by the USA and the UK, has helped create one of the largest humanitarian crises in the world. Saudi air raids have frequently targeted civilian gatherings, behaviour amounting to war crimes.
BAE Systems has been a major contributor of fighter jets and weaponry along with aircraft maintenance support inside Saudi Arabia. By 2021, BAE had sold more than £17 billion worth of weapons and services to the Saudi military since it began bombing Yemen in 2015.
Declassified Australia published an edited version of this article on 3.7.23
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