As I wrote in my recent paper on the MRAP and the JDAM, Mr. Obama’s decision to retain Robert Gates as defense secretary, but to fill many of the subordinate positions with a new team, is creating a unique opportunity for change in the way the US Defense Department outfits its forces. Balance, specifically between large and small-war forces, is the new watchword for procurement. Shorter cycle times are a serious goal again. Just yesterday, Mr. Gates noted at a press conference that the "department faces difficult choices among competing priorities and programs." Some of those tradeoffs can be less sharp when responsive contractors offer innovative solutions, and lately, that lot has disproportionately included smaller companies.
I wrote extensively about that in my recent book Arms and Innovation: Entrepreneurship and Alliances in the Twenty-first Century Defense Industry. The University of Chicago Press has a basic synopsis at its website. Amazon has several very nice reviews, and Google Books offers a limited preview. I don't have sales figures yet, but it has been picked up by 135 libraries, and I've been interviewed about it in Unmanned Systems and National Defense magazine. It seems to be garnering some attention. So, while I’ve written about the book elsewhere, its relevance to the new government’s ongoing military challenges drives me to highlight several points again. The comments here focus on the Pentagon, but are applicable to many other defense ministries.
The book argues that some of the most innovative systems that the US Defense Department has procured since the end of the Cold War have been developed by relatively small companies. As illustrated in several of the case studies in the book, these have included Force Protection's Cougar and Buffalo MRAPs, General Atomics' Predator unmanned aircraft, Austal's multihull high speed vessels, and Cambridge Research Associates' Powerscene terrain visualization system. These firms have succeeded in considerable part because they had entered the right sectors at the right times. Specifically, small firms tend to have an advantage in sectors which exhibit three characteristics:
- high rates of innovation, but with low R&D intensity, and high uncertainty about markets or future technological trajectories
- skill intensive production, to take advantage of the network effects within small firms
- heterogeneous industry structure, with medium-speed learning curves, which allow small firms to find niches between the scale and scope of larger firms
Small firms could thrive in environments like this, bringing great products to military forces, but they often lack access to capital and customers. Even with competitive, innovative solutions, small firms can fail to penetrate markets with structurally entrenched suppliers. One answer,
which I argue that their customers should encourage, is for small firms to seek alliances with larger, more established firms seeking to help commercialize emerging technologies. As I explain in the book, alliances generally have an advantage over mergers or arms-length relationships in sectors which exhibit (again) three characteristics:
- considerable change with respect to processes and goals
- moderate appropriability of intellectual assets (that is, moderately leaky knowledge)
- moderate expropriability of quasi-rents from specific assets (that is, a moderate potential that the large firm will shake down the small one for its profits)
For various reasons, this describes more than a few areas of military contracting, and some of the firms in the case studies have had consider success with alliances. Force Protection could not have sent thousands of vehicles to the campaigns in Iraq and Afghanistan without help from BAE Systems, General Dynamics, and Spartan Chassis. Austal has benefited greatly from its teaming arrangement with GD for the Littoral Combat Ship, even when competing against it (successfully, I might add) for the Joint High Speed Vessel. General Atomics may not have benefited directly from its alliance with Lockheed Martin for the Mariner version of the Predator, but there are other good and more recent examples of this sort of teaming in unmanned aircraft.
This dynamic does not always hold, of course. Spectrum Astro had great success in the mid-1990s building the Miniature Sensor Technology Integration (MSTI) series of experimental missile detection and tracking satellites, but stumbled badly with the Space-Based Infrared System (SBIRS) Low contract a few years later (that's another case study). Cambridge Research Associates got run over by Lockheed Martin's huge investments in the mission planning market. And sometimes that’s fine. In the former case, the project was probably too big for any single contractor, and in the latter, few are complaining that innovation has suffered. Small-large alliances, after all, aren't a panacea for procurement problems, but they are a very useful tool.
Achieving that aforementioned balance, of which Robert Gates wrote so notably in Foreign Affairs, will require hard choices. In this context, and as a heading on one of the last pages of the book puts it, Governments Should Care about Small Firms—and Not Sentimentally. Some of those tradeoffs can be less sharp when responsive contractors offer innovative and adaptable solutions. There are at least two good reasons for this.
The first is that many defense ministries could use more competition amongst suppliers, both for technological innovation and factor efficiency. In the United States and the United Kingdom in particular, mergers have probably proceeded over the past fifteen years beyond the government's interest. There is strong evidence now—backed by research at the Institute for Defense Analyses, the LBJ School at the University of Texas, and the US Naval Postgraduate School—that consolidation produced measurable savings for the US government only in the missiles sector. Everywhere else, the cost effects have been elusive. My own research in 2005, backed by more recent studies at IDA and RAND, indicated that interyard efficiencies in shipbuilding were particularly hard to identify. The mergers that left the six largest yards intact may have, vis-à-vis the government’s interest, served largely to increase the lobbying clout of the two surviving contractors. The better way to induce additional competition is not to encourage another unrelated-but-established military contractor to enter a given sector, but to sponsor the development of a smaller, insurgent one to go after a bigger share of the spending. This has already worked to some extent in shipbuilding and combat aircraft, and it has worked famously in armored vehicles.
The second reason is that search, in the US and elsewhere, for balance and shorter cycle times in procurement. What's particularly attractive about small and medium-sized enterprises is that they tend to thrive in industries with innovation that is continuous, incremental, and recombinative. Their entry into markets tends, eo ipso, to produce it. There's a high proportion today of information technology spending associated with most military platforms, and progress in IT tends to be of this type. Encouraging smaller, dynamic enterprises to do business with defense ministries could actually help produce clustered waves of recombinative innovation that would be particularly helpful in the face of high uncertainty about battlefield requirements.
One can think about this in terms of the armored vehicles business. The US Army's much-vaunted Future Combat System was conceived way back in 1999. At the time, what became the Stryker (the US LAV-III) was the Interim Armored Vehicle program. The government handed the contract to Boeing and SAIC, which handed the vehicles contract to a team of (what is now) BAE Systems and General Dynamics. At the time, those two firms constituted over 90 percent of armored vehicle production in the US. Since then, we've seen several iterations of designs in the MRAP field from almost a dozen different firms worldwide—including both BAE and GD—but we're still waiting for something more than a few NLOS-C prototypes.
This is not about set-asides to placate the small business lobby. This is about building kit that the troops need. The exigencies of the campaigns in Iraq and Afghanistan have induced important innovations, but the tendency of defense ministries in the US and the UK in particular to bet the farm repeatedly in long cycle programs has often effectively shut down competitive pressure early in the process. This drags the customer (and his money) along with the supplier, whatever the performance. To be fair, the book leaves many questions unanswered about policy and its implementation. Most of the advice was about how small and big business can and should work more effectively together, and where. Some change will occur even with outright hostility from the military services—look at what Tom Cassidy accomplished with the Predator despite all the resistance from the USAF. More change will occur, however, if military-political leaders think through how to encourage more dynamic teaming between small and big business.