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Industry Insights 

As Spending Comes Down, Strategic Choices Needed 


By Lou Kratz  

After more than a decade of conflict, the United States has begun to draw down defense spending, with sequestration cuts expected to continue over the coming years.

The Defense Department must cope with declining resources at a time when it also faces persistent global threats and is under pressure to modernize aging systems to deter emerging competitors.

The ongoing Strategic Choices and Management Review, directed by Defense Secretary Chuck Hagel, is expected to conclude that even with budget pressures and sequestration, the nation will still have to maintain and reset equipment in order to remain a viable military force.

Faced with declining defense budgets, aging weapon systems and growing personnel costs, the Defense Department must avoid austerity measures that result in a “hollow force” and must focus on how to maintain and enhance key capabilities at reduced cost.

Some experts contend that the United States has historically reduced force structure following conflicts, and that current reductions are consistent with past precedent. That argument, however, fails to consider that those historic drawdowns were marked by diminishing threats and did not account for the cost of an all-volunteer force. Today, personnel costs consume 45 percent of the base defense budget, or $250 billion of the $558 billion spent in fiscal year 2012. The cost of military health care has almost tripled since 2001, from $19 billion to $53 billion in 2012, or nearly 10 percent of the entire defense budget. The Congressional Budget Office estimates that military health care costs could reach $65 billion by 2017 and $95 billion by 2030.

Force structure reductions in this environment create “hollow” savings.  To reduce personnel costs sufficiently, dramatic force reductions would be required, which would diminish the military’s capability to address current and emerging threats.

There are fundamental business decisions the Defense Department could make to ensure readiness and modernization while maintaining force structure. Those business decisions were made by many U.S. allies that faced similar challenges more than a decade ago.  Nations such as the United Kingdom, Australia and Canada transformed their military structures to concentrate on their core competencies of deterrence and national defense. 

These nations opted to migrate uniformed personnel to combat/combat support functions, privatize infrastructure and use public/private partnerships to buy outcomes, versus equipment and services.

A significant portion of current Defense Department personnel are engaged in occupations not directly tied to military operations. The ratio is nine non-combat personnel for every combat specialty occupation.

As the military considers force reductions, it is imperative that the nation retain a critical military capability. In the private sector, companies normally review core functions to be retained and non-core functions for either partnering or outsourcing.

The Defense Department achieved positive results with a similar drawdown during the Clinton administration.  This resourcing shift resulted in unprecedented industrial support for the wars in Iraq and Afghanistan, despite some initial complications in managing contractors on the battlefield.

Rather than weaken combat capability by reducing air wings, retiring ships or eliminating combat units, the Defense Department should evaluate functions that are not directly engaged in the core missions of deterrence and military action.  Those functions should be considered for private sector performance. Outsourcing of the functions could result in a 10 to 15 percent reduction in personnel, and 20 to 30 percent cost savings.

New legislation on life-cycle management and product support (10 United States Code section 2337 pending) clearly emphasizes that the Defense Department should make the best possible use of available government and industry resources at the system, subsystem and component levels.  In that context, outsourcing should be considered in functions where robust capability already exists in the private sector.

Examples include maintenance and repair of commercial items, such as propulsion systems that are used and maintained in the private sector. In many instances, the Defense Department has established duplicate capabilities for maintenance, repair and overhaul of commercial derivatives of these items with minor modifications for military use that could easily be supported by the private sector.

Similarly, the Defense Department continues to duplicate capital investments in infrastructure for software integration laboratories when private-sector, government-funded infrastructure has already been established for the original software development. The Defense Department maintains 298,897 capital buildings and over 210,000 structures valued at more than $772 billion.  These capabilities were sized to support over 12 years of conflict, but in many cases trace their roots back to World War II. This infrastructure may be oversized to current needs.  

The government in the past has attracted private sector investors to assume facility management or replace facilities, particularly related to housing. Similarly, the United Kingdom, through public/private partnerships, has largely privatized its shipyards, maintenance depots and base operations.  This approach enables U.K. uniformed personnel to access modern functional facilities at dramatically reduced costs.

If the Defense Department is successful in obtaining congressional approval for another round of base closures, it might use this process to build upon the U.K. experience by privatizing warehouses, data centers and base operations.

The U.S. military must modernize its force while maintaining high readiness.  These challenges place significant pressure on research, development and procurement accounts. The Pentagon’s historic approach to this problem has been to stretch programs and delay new starts. Unfortunately, this creates inefficiency and higher costs.

Budget pressures are also caused by cost growth in Major Defense Acquisition Programs (MDAP).  The Defense Department’s MDAP portfolio cost grew by 13 percent, or $158 billion, from 2007 to 2012. The Government Accountability Office reported that “these added costs represent future funding that will not be available to support other government priorities.” The report said more than 60 percent of programs have lost buying power in the last year.

In this area, several U.S. allies have demonstrated the value of public/private partnerships, third-party financing and other ways to achieve modernization without the upfront capital outlay.

The United Kingdom, Canada, Australia and Singapore rely upon outcome-based service contracts for training and other non-combat functions. They competitively select industry providers.  They buy “trained pilots” and allow industry to resource the infrastructure of trainers, simulators and schoolhouses. The United Kingdom uses similar approaches for “white fleet tankers” and search-and-rescue helicopters.

After the United Kingdom reduced its defense budget by almost 30 percent in the late 1990s as a result of the Cold War peace dividend, its involvement in Afghanistan and Iraq pushed defense spending upward. 

At the same time, rapidly escalating budget constraints created pressure on defense spending.  Establishing a goal to reduce cost by 20 percent by 2006, the U.K. government transitioned to “availability contracting,” where industry is paid for a given level of availability over long term contracts with incentives to reduce support costs while making weapon systems more reliable and efficient. This shift from buying “inputs” (parts, labor and services) to contracting for “outputs” (availability and capability) requires partnering with industry and leveraging private capital infrastructure. By 2008, this approach generated cumulative savings of about 1.4 billion pounds while simultaneously achieving performance improvements.

As a further benefit, this business model enabled the U.K. Ministry of Defence to focus on combat operations while relying on industry for weapon system sustainment.

The U.S. Defense Department should consider these initiatives as it seeks to reduce costs.

The Joint Staff’s “Capstone Concept for Joint Operations: Joint Force 2020” report calls for global agility and synchronized global distribution. U.S. forces, said the document, must “adapt to the nation’s fiscal environment. The cumulative impact of retrenchment in defense accounts will be reduced … overall force structure.”

The use of industry to support agile strategic and operational mobility has numerous successful precedents. The primary lift and tactical air systems employed in Afghanistan were industry-supported in partnership with the military. Industry global distribution capabilities have performed well in Southwest Asia, and have seamlessly integrated with the military’s “last tactical mile” capabilities.

The use of contractors allows the government to rapidly expand, reduce and tailor logistics to emerging threat environments while accommodating fiscal constraints.

Lou Kratz is vice president and managing director of logistics and sustainment at Lockheed Martin Corp. He recently served as chairman of the logistics division of the National Defense Industrial Association.

Photo Credit: Defense Dept.

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