British Defense Researchers Privatize With Public Aims

July 2001
By Robert K. Ackerman
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Tradition built in government laboratories gives way to a competitive business model.

This month marks the beginning of the future of defense science in the United Kingdom as the Ministry of Defence breaks with long-standing custom and transfers the bulk of its research to the commercial sector. The newly formed corporate vehicle for this transformation will be required to sink or swim in the marketplace to maintain its viability as a font of technology innovation.

The country’s Defence Evaluation and Research Agency (DERA) has split into two parts. One, now known as the Defence Science and Technology Laboratory (DSTL), is designed to focus on sensitive military research that the Ministry of Defence wants to keep in-house. The other entity is QinetiQ, a publicly held research company configured to compete in the commercial marketplace. As such, QinetiQ can bid for commercial research projects that are unrelated to defense applications. However, the British government will retain a degree of veto power over some aspects of the company’s operations.

QinetiQ will enjoy a five-year grace period during which it will retain its research relationship with the Ministry of Defence. When that period expires, QinetiQ will have to compete for research projects with other commercial facilities.

Several goals are driving this transformation. In a time of declining research funding, the ministry hopes to achieve greater cost savings and efficiencies while preserving accrued technology expertise. Participation in the commercial arena will increase business-to-business collaboration and speed new technologies into the marketplace. Similarly, access to the broad range of commercial technology expertise will assist researchers developing new military systems.

“What we’re doing is going to be pretty irrevocable,” declares Liz Peace, director of corporate affairs for QinetiQ. “I have no doubt that QinetiQ will succeed, although the size of the actual success will depend on a lot of factors. It will provide the opportunity, which DERA has lacked in the past, to ensure that its substantial and wide-ranging technology base benefits the greatest number of people and enterprises,” she warrants.

Defense research in the United Kingdom developed along a different path than it did in the United States. The U.S. Defense Department, largely through its Defense Advanced Research Projects Agency (DARPA) and other government and military service laboratories, organizes and directs research across a range of disciplines. These efforts are complemented by contract work performed by industry and academia.

The United Kingdom, however, has a long history of government-driven military science that led to the development of a network of government-owned research establishments. It is this configuration that currently defines British defense research, and realizing new efficiencies without sacrificing its advantages was a focal point in DERA’s reorganization.

“If you are starting with a clean sheet of paper, then DARPA is actually quite a good model,” Peace declares. “But [adopting] that would ignore the tremendous wealth that the research establishments already have in-house. If we were to move now to the DARPA model, we would be throwing away a tremendous asset, so we did not think that was a good idea.”

DERA has farmed out some extramural research in DARPA style by acting as a prime contractor to appropriate research centers. Extramural efforts encompass only about 25 percent of defense research programs, and only half of those would go to academia. Accordingly, the ministry does not have an extensive network of universities engaged in a range of defense research activities.

The prime motivation for splitting DERA arose from long-developing trends in British defense research. Peace relates that two key forces acting on the agency impelled the change. One was budgetary pressures on Ministry of Defence allocations for defense research. Peace notes that the decline in funding reflected changes in the way equipment was procured, especially with the increased emphasis on commercial acquisition. Many items were procured from prime contractors as complete systems, instead of being developed piecemeal by government researchers.

The second factor was the speed of technological innovation occurring in the private sector. Communications, information technology and biological sciences were advancing faster in the commercial arena than in government laboratories. The ministry found itself seeking to work more closely with commercial companies to access cutting-edge technologies that could benefit the defense sector.

Peace relates that, in spite of reducing budget allocations for defense research, the ministry did not want to neglect or even abandon the in-house expertise that had accrued over the years. Putting DERA into the private sector, however, would allow the government to continue to tap “that treasure trove” of ideas while ensuring that the agency would benefit from a closer association with the private sector.

Privatizing the entire agency presented some drawbacks. Other countries, including the United States, that had worked with DERA on key research efforts objected to having their collaborative projects moved to the private sector. Similarly, domestic political sensitivities virtually mandated that some research areas remain under government control.

The solution was to split the agency into QinetiQ and the DSTL. Most of DERA would transition to the commercial entity, while 25 percent—largely focused on sensitive projects and international collaboration—would remain under government aegis in the DSTL.

The transformation effort identified “underpinning technologies,” which largely transitioned into QinetiQ, Peace relates. A large portion of DERA’s systems sectors, which tended to involve systems integration and platform integration geared to the applied research customer, was apportioned to the DSTL. A third element, facilities testing and evaluation, went into QinetiQ.

What emerges from the DERA breakup is described by Peace as “a bit of a hybrid.” With most of the agency’s activities designated for the commercial sector, some “large vertical slices” of the longtime research capability are remaining with the DSTL. These include the chemical and biological defense sector, high-level operational analysts, sensitive electronics research and some naval and airborne electronic warfare research that involves international cooperation. Some of the activities that stayed with the DSTL would otherwise have transitioned into QinetiQ but for sensitivities emerging from international collaboration, Peace allows.

Peace notes that another element staying with the DSTL consists of top layers of experts taken from existing programs. These people, constituting DSTL’s integrated systems sector, are tasked with managing the international collaborative interface rather than actually performing research, she emphasizes. This sector will serve a DARPA-type role in commissioning research outside of the DSTL.

Peace believes that, for the short term, customers will not see much difference in their new relationship with QinetiQ “other than that they have to place real contracts with us.” QinetiQ’s research exclusivity with the Ministry of Defence will be phased out over the first five years of the privatization. During this grace period, the new company is protected “from the full ravages of competition,” Peace continues. In 2006, this research will be open to commercial competition. “In theory, we could be competing for everything,” she explains.

About 10 percent of DERA’s research was strategic and uncompeted. Another 50 percent, applied research, also was uncompeted. The remainder was consulting for the ministry, and while this work was open to competition, in practice many customers would not bother competing the contracts.

Peace notes that the ministry has run a £20 million ($30 million) pilot competitive research effort that gave a hint of potential research bidding. Instead of single establishments bidding on their own, groups formed teams across organizational disciplines to bid together. In fact, one of the pilot competitions was won by a foreign firm—TNO of the Netherlands. “The Ministry of Defence ended up getting more imaginative combined programs than they probably had before when they would have given it all to DERA,” she relates. “Frankly, it caused a rather exciting shift in the way the research program is done.”

An offshoot of the privatization is that QinetiQ will be looking to work for other parts of the ministry that traditionally did not use DERA. The new company’s managed services business, for example, specializes in managing complex projects. It currently is bidding for some privately financed government initiative contracts that are geared toward encouraging commercial involvement in running government activities. Peace states that QinetiQ is bringing its high-technology expertise to team with other companies in a consortium to win some of these contracts. A successful bid could represent a substantial increase in ministry funding to QinetiQ, and it would be outside of DERA’s traditional research areas.

Establishing QinetiQ’s corporate identity is an ongoing two-phase process. First, the firm begins operation as a wholly government-owned public limited company, or PLC, in which the secretary of state holds all the shares. Over the next 12 months, the company will develop its business record to help determine its value for trading. When ready, the Ministry of Defence probably will sell approximately 52 percent of QinetiQ’s shares in the first offering.

The ministry will keep the balance of shares for about two or three years to avoid causing severe market fluctuations, Peace explains. If the shares have increased in value over that time, then the government will realize greater returns from its second sale of shares. Even after this second sale, which would probably come in about four or five years, the ministry will retain a special share that will allow it to dictate to QinetiQ the nature of its business. This would ensure that the firm continues to provide independent and impartial scientific advice to the ministry without engaging in prime contract defense manufacturing, she notes. This special share also would give the ministry the means to prevent another firm or a foreign entity from buying a controlling interest in QinetiQ.

QinetiQ’s corporate plan is to expand its commercial business base beyond the Ministry of Defence. This would involve a range of different markets covering traditional and new expertise. Foremost among these are the defense and aerospace markets, where QinetiQ would work for prime contractors and overseas governments. Other markets could include health care, environmental sciences, transportation, information technology and communications, electronics and secure e-business.

Another QinetiQ activity involves equity-based joint ventures. Peace explains that QinetiQ is joining its technology with other companies that can help produce and market products. One joint venture with NXT aims at introducing QinetiQ’s speech recognition technology for new applications. Another focuses on bi-stable displays, which can continue to display an image when power is cut off. Ford Motor Company already is considering QinetiQ’s volumetric imaging technology. Other potential technologies include liquid crystal displays, vehicles and software. Peace cites the Stanford Research Institute as the model for this activity.

As QinetiQ wins, loses or turns down research contracts, market pressures ultimately will shape the new company. Peace admits that these market forces may have the effect of changing QinetiQ’s core competencies. The Ministry of Defence will ensure that the government does not lose access to its full range of technology capabilities. Core capabilities that drop off QinetiQ’s menu probably will migrate to a university or another company, Peace suggests.

Peace admits that some international customers were wary of the DERA breakup. Now that QinetiQ has been defined and established, these customers have no problem establishing a contractual relationship with the new company. “In some ways, it simplifies relationships,” she says of the commercialization. “They know we do good work; they know they want to collaborate with us; they don’t actually have to go through the business of MOUs [memoranda of understanding]—they can simply form a contractual relationship.”

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