Review of the Options for an Air Combat Capability
(February 2001)
Financial Implications
Costing Assumptions
- All costs are indicative only and are intended only for comparing the given Options. The financial assumptions used in this paper are found in Annex B.
Total Financial Implications
- The cost of the air combat force for FY 00/01 is $150 million, GST inclusive, but excluding Capital Charge. This cost reflects the recent decision to move the air combat force to BLOC. Increasing the force to a normal level of readiness in FY 01/02 would require an additional $16 million.
- The financial impact of the options over the next ten years range between cost increases of $334 million to cost decreases of $870 million compared with the current baseline. These impacts arise through a combination of changes to; the personnel structure of the RNZAF, the annual expenses operating the aircraft flown in this role, and differing depreciation costs. The total costs on a year by year basis are shown in Table 1, with the components that make up these costs detailed in the sections below and supporting tables.
Table 1 – Total Costs (NZ $million, GST inclusive)
| 00/01 | 01/02 | 02/03 | 03/04 | 04/05 | 05/06 | 06/07 | 07/08 | 08/09 | 09/10 | 10/11 | Total Change Over 10 Years |
|
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Current Funding |
150 | |||||||||||
| Option 1 (24 aircraft) |
166 | 171 | 173 | 171 | 171 | 171 | 171 | 205 | 212 | 220 | 334 | |
| Option 1 (18 aircraft) |
166 | 171 | 173 | 171 | 171 | 171 | 171 | 194 | 200 | 207 | 297 | |
| Option 2 (14 aircraft) |
166 | 153 | 129 | 122 | 122 | 122 | 122 | 141 | 146 | 152 | (124) | |
| Option 3A 10 | 111 | 71 | 62 | 54 | 54 | 54 | 54 | 54 | 54 | 54 | (870) |
- Under Option 3, although the air combat force is disbanded, the total costs that remain represent the overhead or indirect component of the Air Combat Force Output costs. There may be further reductions in these overheads if a base were to be closed, or if the RNZAF were reorganised to reflect the removal of the air combat force role.
Personnel Implications
- At present, the annual personnel cost associated with the delivery of the air combat force output is $60 million. This figure represents a combination of: those costs directly contributing to this output, such as the personnel on No. 75 and No. 2 Squadrons; personnel that have a supporting role, such as the maintenance and logistics personnel and No. 14 Squadron, and those that contribute indirectly either as RNZAF or NZDF overhead.
- The number of personnel that are affected by the review options and the resulting financial impact are shown in Table 2 and Table 3.
Table 2 – Personnel Changes
| 00/01 | 01/02 | 02/03 | 03/04 | 04/05 | 05/06 | 06/07 | 07/08 | 08/09 | 09/10 | 10/11 | Total Change Over 10 Years |
|
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Current Staffing11 |
1137 | |||||||||||
| Option 1 (24 aircraft) |
1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 0 | |
| Option 1 (18 aircraft) |
1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 1137 | 0 | |
| Option 2 (14 aircraft) |
1137 | 1007 | 902 | 797 | 797 | 797 | 797 | 797 | 797 | 797 | (340) | |
| Option 3A | 893 | 741 | 589 | 437 | 437 | 437 | 437 | 437 | 437 | 437 | (700) |
Table 3 - Personnel Costs (NZ $million, GST inclusive)
| 00/01 | 01/02 | 02/03 | 03/04 | 04/05 | 05/06 | 06/07 | 07/08 | 08/09 | 09/10 | 10/11 | Total Change Over 10 Years |
|
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Current Funding |
60 | |||||||||||
| Option 1 (24 aircraft) |
60 | 60 | 60 | 60 | 60 | 60 | 60 | 60 | 60 | 60 | 0 | |
| Option 1 (18 aircraft) |
60 | 60 | 60 | 60 | 60 | 60 | 60 | 60 | 60 | 60 | 0 | |
| Option 2 (14 aircraft) |
60 | 54 | 48 | 42 | 42 | 42 | 42 | 42 | 42 | 42 | (144) | |
| Option 3A | 50 | 40 | 32 | 24 | 24 | 24 | 24 | 24 | 24 | 24 | (310) |
- Under Option 3 and using the present annual attrition rate of 9%, it will take a number of years for the RNZAF regular force personnel numbers to reach the new lower total. The indicative cost reductions given in the ten-year timeframe above have been based on the assumption that the lower staffing levels will either be achieved by accelerated attrition by the end of 2004/05, or that the creation of a suitable regular force redundancy package will enable the reductions to occur earlier at a cost no more than the amount costed for salaries in 2003/04 and 2004/05. The overall personnel reductions are considered to be a conservative estimate by HQ NZDF and Treasury: further reductions on those indicated may be possible later in the ten year period once the RNZAF has been re-organised to adjust to the elimination of a role.
Operating Costs
- The operating costs of the air combat force are closely related to the annual hours flown. At present, the A-4 fleet flies 4,100 hours per year in order to achieve the directed level of capability. The Aermacchi fleet flies 3,159 hours per year in the supporting role to provide a continual stream of qualified pilots. The major components of operating costs are aviation fuel, munitions and maintenance. An A-4 replacement is likely to use more fuel and be more expensive to maintain. However, if the A-4s are replaced later in the ten year period, the operating costs do not vary significantly because simulator use will reduce the actual hours flown. For the purposes of this review, it has been assumed for Options 1 and 2 that the A-4 would be replaced by the F-16.12
- In addition to the direct costs associated with flying the A-4, or its replacement, and the Aermacchis, there is a component of indirect or overhead costs spread throughout the RNZAF and NZDF. These overhead costs will remain largely unaltered by any of the options chosen.
- Operating costs are shown in Table 4.
Table 4 – Operating Costs (NZ $million, GST inclusive)
| 00/01 | 01/02 | 02/03 | 03/04 | 04/05 | 05/06 | 06/07 | 07/08 | 08/09 | 09/10 | 10/11 | Total Change Over 10 Years |
|
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Current Funding |
52 | |||||||||||
| Option 1 (24 aircraft) |
69 | 73 | 73 | 73 | 73 | 73 | 73 | 75 | 75 | 75 | 212 | |
| Option 1 (18 aircraft) |
69 | 73 | 73 | 73 | 73 | 73 | 73 | 75 | 75 | 75 | 212 | |
| Option 2 (14 aircraft) |
69 | 63 | 63 | 63 | 63 | 63 | 63 | 63 | 63 | 63 | 116 | |
| Option 3A | 44 | 23 | 23 | 23 | 23 | 23 | 23 | 23 | 23 | 23 | (269) |
- All of the operating costs have been derived using a NZ-US dollar exchange rate of 0.475. An improvement in the exchange rate to 0.55 will decrease operating costs by approximately 5%, while a deterioration to 0.35 will increase costs by approximately 15%.
Depreciation
- Under Options 1 and 2, the A-4s are replaced at the end of their life in June 2008. Based on the acquisition of 18 new aircraft, it is anticipated that depreciation will increase eventually by $34 million per year. Under Option 3, the depreciation expense is reduced by $32 million per year by FY 02/03.
- The depreciation changes for the four options are shown in Table 5.
Table 5 – Depreciation (NZ $million, GST inclusive)
| 00/01 | 01/02 | 02/03 | 03/04 | 04/05 | 05/06 | 06/07 | 07/08 | 08/09 | 09/10 | 10/11 | Total Change Over 10 Years |
|
|---|---|---|---|---|---|---|---|---|---|---|---|---|
| Current Funding |
38 | |||||||||||
| Option 1 (24 aircraft) |
37 | 38 | 40 | 38 | 38 | 38 | 38 | 71 | 78 | 86 | 122 | |
| Option 1 (18 aircraft) |
37 | 38 | 40 | 38 | 38 | 38 | 38 | 60 | 66 | 72 | 85 | |
| Option 2 (14 aircraft) |
37 | 36 | 19 | 17 | 17 | 17 | 17 | 36 | 41 | 47 | (96) | |
| Option 3A | 17 | 8 | 8 | 8 | 8 | 8 | 8 | 8 | 8 | 8 | (291) |
Capital Investment
- For Options 1 and 2 the costs of possible replacement combat aircraft is based on an estimate of the likely cost of used F-16s. For Option 1 the estimated price is about $840 million (GST exclusive) for 18 aircraft and $1,100 million for 24 aircraft. For Option 2, the estimated cost of 14 aircraft is $680 million. There could also be additional capital costs for such items as targeting pods and ECM Systems. Previous estimates put the cost of these in the region of $70 million.
- It should be noted that alternatives to outright purchase of the aircraft may be possible. There are ample examples of finance lease options for air combat aircraft overseas to suggest that New Zealand may well be able to secure such an offer. While this would be at a higher interest rate (and hence total cost) than the Crown’s usual cost of debt, it would relieve pressure on capital funds due to payments being spread over a longer period, allowing depreciation funding to keep pace. It would also be likely, however, to increase the cost to the NZDF’s annual operating baseline.
Affordability
- The funding requirements for the tactical communications equipment and the light armoured vehicle (LAV) projects have limited the NZDF’s ability to make other equipment purchases. For the LAV project a capital contribution of $35.17 million was approved to cover the projected cash shortfall in FY 2003/04. The projected bank balance for capital purchases in FY 2004/05 will be approximately $100 million rising to about $260 million in 2005/06. Other capital acquisition projects being considered, and likely to be approved before consideration of a replacement for the A-4 under the policy contained in the DPF, will require part or all of these funds. Any additional major purchases will lead to a requirement for additional capital contributions.
- The actual level of contributions cannot be forecast, as it is dependent on decisions on other new projects proceeding, their costs, cashflows, and the subsequent depreciation funding generated. Under Options 2 and 3 the disposal of the A-4s and Aermacchis and their non-replacement will decrease the depreciation funding available to meet other capital acquisitions.
- It is likely that the following capital investment costs in various capability areas will be considered
before a replacement for the A-4.
Likely Capital Investment Land Forces $470 million Airlift (including helicopters) $720 million Maritime Patrol $267 million Canterbury replacement $315 million
- The NZDF is currently experiencing significant pressures from within its baseline. There is not enough funding to retain the current set of outputs and capabilities. An additional $25 million has been provided this financial year and the air combat force was reduced to a basic level of capability as a cost cutting measure. The NZDF is forecasting an operating shortfall next year of $95 million. This does not include provisions for East Timor or pay increases for military personnel. The current estimate of the ongoing baseline pressures, based on the current force structure, is $80 million a year.
- Treasury are of the view that it is unlikely that the Government will be able to afford the level of operating costs required in both the short and long term.
- The elimination of the air combat force would free up resources (potential baseline savings in the region of $870 million over 10 years) to assist the rebuilding of the remainder of the NZDF. This would include significant RNZAF investment in the areas of fixed wing air transport, utility helicopters and maritime patrol. While Option 2 would free up considerable resources, it would not be sufficient to make a rebuilding process affordable unless it were accompanied by a decision to make major cuts in other areas.
Defence Industry
- The maintenance contractors that support the NZDF are able to establish records of competence that allow them to compete for offshore work for other governments and military forces. An example is SAFE Air, located in Blenheim, that has a work force of 350 highly skilled and well-paid technicians. Through work on the A-4 and other RNZAF aircraft it has built up a capacity to successfully compete for work overseas. SAFE Air has been awarded two off-shore A-4 projects to date and there is strong potential for more. It is now in the process of bidding for a major contract to refit Brazilian P-3 Orions that would bring in work worth four times its current turnover. This work has also made it a contender to pick up related contracts.
- The loss of a major capability like the air combat force could pose a degree of risk to industrial players like SAFE Air to maintain their capacity to successfully bid for these kinds of off-shore contracts.
Summary of Financial Implications
- It is important to note that the costings are susceptible to changes in foreign exchange, overseas prices for capital equipment and consumables, and personnel levels. Efforts have been made to keep them conservative. However, for example, an improvement in the exchange rate to 0.55 (US) will decrease operating costs by approximately 5%, while deterioration to 0.35 will increase costs by approximately 15%.
Option 1-Retention of Current Level of Capability
- The NZDF baseline would have to be increased by $297-$334 million over the next 10 years to accommodate the rising cost of maintaining the air combat force.
- Capital investment in the region of $840-1,100 million would be required in the later part of the 10 year period and beyond to replace the A-4s. Given the NZDF cash position and competing demands for capital investment, this would most likely have to be funded by additional capital contributions from the Crown.
- Savings would not be available for rebuilding the remainder of the NZDF.
Option 2 – Reduced Air Combat Capability
- Baseline savings in the region of $128 million would be made over the 10 year period. These would not begin to occur until 2002/03, and would disappear in 2010/11 once the 14 replacement aircraft had arrived.
- A capital investment of about $680 million would be required later in the 10 year period and beyond to replace the A-4s with 14 aircraft. Given the NZDF cash position and competing demands for capital investment this would most likely have to be funded by additional capital contributions from the Crown.
- There would be insufficient savings realised for the rebuilding of the rest of the NZDF unless it was accompanied by major cuts in other areas.
Option 3 – Disband the Air Combat Force
- Baseline savings in the region of $870 million would be realised over the 10 year period. There would be an immediate cost reduction of $39 million in 2001/02 over the existing baseline (and $55 million when compared to the other options), rising to $96 million per year from 2004/05.
- These savings, as well as the avoidance of further capital investment in the air combat force, would assist in the rebuilding of the NZDF, significantly reducing the need for additional funding.
- Additional cost reductions from personnel costs and base consolidation may be possible once RNZAF is re-organised to adjust to its new role.
- Some of the major contractors involved in the support, overhaul and repair of the A-4 and Aermacchi fleets would be adversely affected, with a possible reduction in their ability to generate export earnings.
- Option 3B would result in a slippage of the figures to the right, depending when the ENA was terminated.
- This number is based on a weighted average salary and represents the personnel cost of the Air Combat Force Output. It therefore includes personnel both directly and indirectly involved in the air combat force, and NZDF overhead.
- F-16 data has been used because it is the most complete data available at this time.
