BUDGET

Defense Affordability: Can We Buy Only What We Need?

12/1/2010
By Tom Captain
Military acquisition budgets globally are flattening out and declining. Large scale multi-billion dollar programs are running over budget and being delayed. Weapon systems requirements are getting more sophisticated and changing all the time. What can we do to afford and develop the innovative defense and security technologies needed to defeat the next generation adversary?  

Calls for controlling the costs for military healthcare, operations and maintenance as well as increasing spending on weapon procurement and research and development are all noteworthy, but in the meantime, there are more immediate actions that should be considered, such as addressing program complexity problems, generating more cost efficiencies, and engendering an innovation environment in industry with a renewed talent base.

The Defense Department’s 2011 budget represents growth of 1.8 percent above inflation, but underneath those numbers there is an expected decline for research and development as well as procurement for new weapons. The Congressional Budget Office estimated that real defense costs will, on average, exceed planned baseline projections by about $59 billion of shortfall annually for the next 20 years.

This shortfall is caused by increases in pay and benefits for military and civilian personnel, the projected rise in operations and maintenance costs for aging equipment, plans to develop advanced weapon systems to replace many now nearing the end of their service lives and the growing investment in new capabilities such as advanced intelligence, surveillance and reconnaissance systems to meet emerging security threats.

These requirements will likely result in an increasingly smaller slice of the pie dedicated to weapons research and development as well as acquisition. If there is no real growth in the defense budget, acquisition accounts could slide from 35 percent of the budget in 2010 to 24 percent by 2020, according to the Congressional Research Service. If this were to occur, likely outcomes could be underutilization of the industrial base, cost cuts and rationalization to preserve profitability, and most importantly, reduced investment.

In addition, the weapons acquisition process is yet again going through major reforms. As the Government Accountability Office reported recently, major defense programs are collectively almost $300 billion over their planned costs and only 30 percent of those programs are on schedule.  

According to a recent Deloitte study, this is based on a combination of root causes. They include technical complexity, use of immature technologies and requirements creep; work force and talent management difficulties in educating, recruiting, developing and retaining the science, technology, math and systems engineering skills needed; supply chain management issues, especially as the tier-two suppliers take on more design authority, conduct supply chain oversight and become risk sharing partners; unrealistic program and cost plans based on best case program scenarios with very little room for error; and the annual congressional budget process that is subject to affordability, and the normal political process, which too often results in budget cuts and program terminations.  

With defense contractors receiving a smaller slice of the pie, coupled with cost overruns, the defense industry is having trouble affording the technical innovations that are being requested to address future adversaries. Under current plans, defense spending would decline to 3.8 percent of the nation’s gross domestic product by 2015 and to 3.1 percent of GDP by 2028. Defense spending as a percentage of GDP is a reasonable proxy for gauging affordability, and when viewed over time provides a good comparison.

Including the war costs, this year the Defense Department will spend approximately $720 billion, about 4.9 percent of GDP.

The nation faces security threats of equal or greater significance now than in past conflicts, such as the potential for a nuclear-armed Iran and North Korea, and cyberattacks from China, Russia and non-state actors. Yet U.S. defense spending when compared to prior periods of conflict is significantly lower.

U.S. adversaries are clever and increasingly sophisticated in furthering their goals. Seemingly primitive weapons such as improvised explosive devices, shoulder-fired rocket-propelled grenades and dirty nuclear devices pose substantial threats to U.S. security. American weapon systems requirements are shifting emphasis from large platforms such as fighter aircraft, ships, and tanks, to more real time software-centric technologies, such as laser and GPS guided munitions, missile defense, directed energy, intelligence, surveillance and reconnaissance and data fusion. The next- generation adversary may well figure out how to defeat stealth technology, intercept and deny precision targeting technologies, jam communications, use cyberattacks to disable electronic controlled infrastructure and information systems, and blind surveillance capabilities. Consideration needs to be given to technologies that address these and other current and future threats.

The Defense Department and the contractors that support weapon systems development have experienced a significant increase of about 60 percent in budgets since 9/11. This increase has funded innovative technologies such as UAVs, laser guided bombs, and precisions strike capabilities. It also has paid for significant levels of administration, management and oversight. There are some estimates that 40 percent of the defense budget goes for “overhead” costs, not on direct costs for the personnel and weapon systems. As has been pointed out by Defense Secretary Robert Gates, we need to “do more, without more,” by eliminating redundancies, terminating costly weapon programs, creating more efficient processes, both in industry as well as in government.

Defense contractors have been doing more, with less, for several years, with higher productivity as a result. Indeed, profits per employee on an inflation adjusted basis, has increased 5 percent annually, with a 108 percent increase since 1994. This has come about as a result of the emphasis on lean six sigma initiatives, widespread use of digital product definition and process technologies, and the game changing industry consolidation that took place in the late 1990s, which drove scale economies.   

Certainly in these unique economic times where other domestic matters have priority, we cannot forget that a strong defense has contributed to the nation’s economic well being, security and stability. With the expected decline in defense spending as a percentage of GDP, the increasing requirements for the United States to contribute to global security and the increasingly sophisticated activities of our adversaries, the stakeholders should consider the defense budget challenge, where it ranks in priority, whether it should be used to protect the industrial base and to foster creativity and innovation; and if so, how.

There is also a well-recognized need for the industry to promote and advance the development of science, technology engineering and math skills into the ranks of the work force, both in the acquisition community as well as industry. This starts with K-12 education but needs to continue into college, where programs need to be created to attract students into the industry. Innovation is key to create the kind of game changing technologies, and education is key to create the necessary skills and is fundamental to achieving this goal.

The defense industry, too, must address program management and execution challenges by injecting more realism into program budgets and schedules, which includes adequate management reserve to cover contingencies. Also, customers should consider specifying more mature technologies, with shorter development timeframes, and increased commercial off-the-shelf content. Additionally, rapid prototyping with new innovative technologies producing smaller, remotely controlled, more lethal and less costly technologies is required in order to deploy systems faster.

In this environment, industry and government need to work across organizational boundaries to continue to eliminate redundancies, ineffective overhead processes and create cost efficiencies.

If industry, in partnership with acquisition officials and Congress, can work together on this most pressing challenge, more funding could be created virtually out of cost savings. Every dollar saved can be applied for newer more innovative technologies. At least in the short term, the industry might be able to afford its immediate future.

Tom Captain is vice chairman and the global and U.S. leader for Deloitte LLP’s aerospace and defense sector, based in Seattle. He can be reached at tcaptain@deloitte.com

Topics: Defense Department, DOD Budget

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