NDVA Committee Meeting

STANDING COMMITTEE ON NATIONAL DEFENCE AND VETERANS AFFAIRS

COMITÉ PERMANENT DE LA DÉFENSE NATIONALE ET DES ANCIENS COMBATTANTS

EVIDENCE

[Recorded by Electronic Apparatus]

Thursday, March 11, 1999

• 0859

[English]

The Chairman (Mr. Pat O'Brien (London—Fanshawe, Lib.)): I would like to call the meeting of SCONDVA to order. We have some witnesses here and ready to go.

• 0900

One thing I've learned from chairing meetings in Ottawa that's different from my municipal experience is that it's a lot harder to get members to come on time. I'm not sure why.

An hon. member: Maybe it's your personality.

Some hon. members: Oh, oh!

The Chairman: Maybe it's my own personality. I would take it personally, except I see all committees have the same problem. It might be our schedules.

Before we start with the witnesses, we have an important but rather routine procedural motion that Mr. Wood will make when we have a full quorum. With the witnesses' indulgence, when we gain full quorum, I'm going to ask them to pause. It shouldn't take us more than a few minutes.

We're starting to gain quorum. Here comes the Reform Party and here comes Mr. O'Reilly. If necessary, I'll ask you to pause, and we'll just deal with that procedural motion, because Mr. Wood has some duties in the House of Commons in a little while.

Are we up to nine? No, we need a couple more.

Colleagues, we're still short quorum. We will start with the witnesses, and then when we gain a couple of more members, with the witnesses' indulgence, we'll pause and go to the procedural motion, which is simply to fund the witnesses who are coming to us from the Merchant Navy. It's on the agenda.

With that, I'd like to introduce Mr. Ron Kane, director of space, electronics, and defence at the aerospace and defence branch; and Mr. John Banigan, ADM, industry sector.

Gentlemen, thank you very much for joining us. Who's going to begin today?

Mr. John M. Banigan (Assistant Deputy Minister, Industry Sector, Industry Canada): I will, Mr. Chairman.

The Chairman: Thank you.

Mr. John Banigan: Thank you for providing me with an opportunity to meet with the committee and discuss Industry Canada's role in federal procurement policies, processes, and practices.

Today I'll provide you with an overview of the government's industrial and regional benefits policy, which is administered by Industry Canada in concert with the regional agencies: the Atlantic Canada Opportunities Agency, Western Economic Diversification, and Canada Economic Development for Quebec Regions.

[Translation]

Before discussing the IRB policy, the Industrial and Regional Benefits Policy itself, it is important to restate that the primary objective of any procurement action undertaken by the federal government is to provide the purchasing department with quality goods and services at the lowest possible cost, to effectively carry out its operations. Guided by this imperative, a secondary objective of the government is to capitalize on the leverage these procurements offer to generate economic activity in Canada—economic activity which is of high quality, sustainable and which helps position Canadian companies to be competitive on future domestic and international business opportunities.

[English]

Within this context, the IRB policy, as approved by the cabinet in 1986, provides the framework for using federal procurement as a lever to promote industrial and regional development objectives. In the absence of the policy, industrial and regional benefits for procurements would be handled on a case-by-case basis, which I believe would lead to far fewer benefits secured for all regions of Canada.

The Chairman: Mr. Banigan, I'm sorry to interrupt, but I've now gained a quorum; a couple of members were detained. So with your indulgence, I'd like to move to the procedural motion, because Mr. Wood, as I say, has other duties in the House, as parliamentary secretary.

Mr. Wood, would you like to move this then?

Mr. Bob Wood (Nipissing, Lib.): I would. I move that, notwithstanding a motion that was passed on Thursday, October 9, 1997, the committee agree to reimburse five witnesses from the Canadian Merchant Navy Veterans Association for travel to the committee.

The Chairman: Is there any objection to that, or any discussion? I assume there's not; it's procedural.

(Motion agreed to)

The Chairman: Thank you very much.

Thank you for your indulgence, gentlemen. Sorry for the interruption. We'll go back to your presentation.

Mr. John Banigan: Thank you, Mr. Chairman.

• 0905

The IRB policy is a useful tool for the federal government in promoting and developing Canada's industrial capacity. In meeting its defence commitments in particular, Canada has had to import more than it exports, and using these procurements to strengthen the Canadian industrial base has been given wide support.

Australia, the Netherlands, Great Britain, and Norway, amongst other countries, are in a position similar to Canada's and have similar policies. The United States, on the contrary, is a major exporter of defence products and does not have a similar policy. It does, however, have other policies that are used to develop its domestic industries.

It is, however, important to note that given the relatively small share of the total federal procurements subject to the IRB policy, while it's an important tool in achieving industrial and regional objectives, it will not in itself overcome regional disparities in economic or industrial activity.

In general, the IRB policy operates in the taxpayers' interest, because it supports industrial activity in Canada that would likely otherwise go offshore. This has been the case particularly where an offshore prime contractor has had to satisfy IRB requirements by establishing a Canadian capability and a Canadian supply network.

The most significant impact to date of the policy has been to increase the Canadian content on defence procurements, which has resulted in the creation of high-quality jobs. The policy has also been successful in ensuring that regional and small businesses have had the opportunity to participate in these contracts.

[Translation]

Application of the IRB Policy must respect certain basic tenets, the principal one being that it must be applied in a way that encourages sound business decisions by both prime contractors and potential subcontractors. The policy can provide opportunities for Canadian firms but it is the quality of their products and their cost competitiveness which will secure them a place as a supplier or partner on a major federal government procurement.

[English]

Mr. Chairman, if I may, I'd like to now turn over the floor to Mr. Ron Kane, who is the director of the space, electronics, and defence branch in my aerospace and defence group. He is responsible for the day-to-day administration of the IRB policy, and he can give you an overview of its objectives, workings, and results to date.

Mr. Ron Kane (Director of Space, Electronics and Defence, Aerospace and Defence Branch, Industry Canada): Thank you.

This morning I'd like to provide the committee with an overview of the industrial and regional benefits policy of the Government of Canada, and I'd like to walk through this presentation in five segments.

I'd like to review Industry Canada's role in the administration of IRB policy, look at the policy context in terms of why Canada has such a policy, look at IRB programs and practices, give the committee an indication of the program results achieved to date though the administration of the policy, and then also briefly talk about the future environment of government procurement and how the IRB policy would fit into that context.

This slide focuses on Industry Canada's mission, which is to provide sustainable growth and create long-term competitiveness in the Canadian industrial setting. The goal of Industry Canada is to build a knowledge-based economy for the 21st century, and the IRB policy is a critical tool in furthering that objective of Industry Canada.

This slide denotes the main strategic focuses of Industry Canada, which include promotion of trade and investment, innovation within the Canadian industrial base, the information highway and connecting Canadians as a principal objective of Industry Canada, and work in marketplace frameworks and services to business.

• 0910

The bottom part of the slide denotes the resources within Industry Canada to give effect to those strategic focuses. Industry sector development, in the second box, is the area Mr. Banigan is responsible for, and the aerospace and defence branch is situated within the industry sector development line. We have about 1,500 employees and about $885 million.

The next slide covers the partners within the broad Industry Canada portfolio. In the administration of the industrial and regional benefits policy, the key players are the Atlantic Canada Opportunities Agency, Canada Economic Development for Quebec Regions, Industry Canada as a department, and Western Economic Diversification.

I would now like to give some insight into the characteristics of the Canadian economy that underscore the importance of having an industrial and regional benefits policy within the Canadian tool kit.

As can be seen on this next slide, building a competitive knowledge-based economy for the 21st century poses a couple of challenges for Canada. Canada, as indicated by the OECD, has an innovation gap. We have a smaller critical mass of high-tech manufacturing in comparison particularly to the U.S.: it's 14% of the manufacturing sector in Canada, compared to 24% in the U.S. We also have lower private sector R and D spending in Canada than in the U.S., despite our more generous R and D tax credit incentive system. And we do have weaker technology diffusion within the Canadian industrial base, particularly amongst SMEs.

In the right-hand column, you'll see the comparison in terms of technology diffusion between large companies and SMEs.

The next slide characterizes the challenge in trade and investment in building a knowledge-based economy. Canada is a world-class trading nation. We are the most open of the G-7 in our trading practices. Of our GDP, 76.8% is traded, compared to only 25% within the U.S. But as the pie chart off to the right shows, we are not yet a trading nation. The top five exporters account for 21% of total Canadian exports, and less than 10% of SMEs export at all. So we do have a challenge to get Canadian companies more trade-oriented.

The Chairman: If I might ask, Mr. Kane, how much less than 10% is that? Is it 2%? If it's not very good, how bad is the picture?

Mr. Ron Kane: I think the statistics I saw were in the 7% to 8% range, but I can verify that and get back to the committee on that.

The Chairman: Yes, I'd be interested in that. Thank you.

Mr. Ron Kane: The bottom bullet on the slide indicates that Canada also faces a challenge in foreign direct investment. Between 1985 and 1996, Canada's share of North American inward foreign direct investment declined by 10% to 15%.

A further challenge in building a knowledge-based economy lies in the human capital of Canadian society. A knowledge-based economy places a high value on skilled workers. Canada does rank number one in producing knowledge-based workers. However, we do face a challenge in on-the-job training, where our performance is less than ideal. And low-skilled, less educated employees remain unemployed for longer periods of time. We have to further our efforts in building a skills capacity within the Canadian industrial base.

The next slide characterizes Industry Canada's lines of business across technology and innovation, investment, trade, and human resources. The IRB policy of the Government of Canada gives effect to furthering those particular objectives.

• 0915

In technology innovation, the IRB policy is used to induce technology transfer, particularly from foreign prime contractors, to Canadian companies. The IRB policy also does this through licence arrangements and R and D investments. In the area of trade, the IRB policy assists Canadian companies to get world product mandates, particularly subsidiaries of multinational firms operating in Canada. And it does a lot in promoting supplier development and long-term supplier linkages between prime contractors and Canadian SMEs.

At the bottom of the slide are some important facets of the IRB policy. Its emphasis is on long-term industrial and regional development. It also encourages sound business practices by prime contractors and Canadian subcontractors. And the IRB policy is consistent with Canada's international trade obligations.

I will now briefly cover the historical evolution of the use of procurement to achieve national industrial and development objectives.

In 1959, with the cancellation of the CF-105 Avro Arrow program, the government relied on the U.S.-Canada defence production sharing arrangement and the defence development sharing agreement to maintain a competitive defence industrial capacity within Canada.

In the 1960s the government introduced the defence industry productivity program, DIPP, to support the development and production of products aimed at the defence market.

It was in the 1970s that Canada first looked at using defence procurements for industrial development. There were a couple of large programs at that time, including the CP-140 maritime patrol aircraft program, the CF-18 fighter program, and the Canadian patrol frigate program. On those particular programs, the government tended to secure mostly what we define as offsets—that is, purchasing by the prime contractor into the Canadian economy. Offsets generally have a short-term duration and do not induce long-term sustainable activity within Canada.

That drove the government to in 1986 approve a new industrial and regional benefits policy that put emphasis on long-term sustainable development and moved away from trying to secure short-term offsets by prime contractors.

In 1986-87 the government created the regional agencies to help further economic development in Canada's regions. The regional agencies do play an important role in the administration of the IRB policy, along with Industry Canada.

In 1988 the government introduced the Canadian annual procurement strategy to help give a better long-term indication of upcoming procurements by which to do some repositioning of Canadian industry and also to allow the government to work with foreign prime contractors in a more strategic, focused way.

It's important to note that industrial and regional benefits are secondary to meeting the operational needs of the procuring department at the lowest cost possible. IRBs are never the deciding factor in a contractor winning a particular bid. IRBs are secondary in the bid evaluation process. The objective of the policy, as I mentioned, is to secure high-quality, long-lasting economic value to the Canadian economy. We de-emphasize offsets, and we try to position Canadian industry to be competitive in both domestic and international opportunities in the future.

The types of benefits that we try to induce through the administration of the policy are reflected on this slide. They include technology transfer, joint ventures, and investment. Another important one is product mandates, and this is particularly the case for multinationals having subsidiaries in Canada, particularly U.S. SMEs. We have in many cases secured world product mandates for their operations in Canada through the administration of the IRB policy. And there's a lot of emphasis on helping Canadian companies in the export market, through market assistance agreements and access to new markets.

• 0920

The next slide covers the range of procurements subject to the IRB policy. From $0 to $2 million, Public Works and Government Services applies the Canadian content policy to that value threshold of procurements.

From $2 million to $100 million, we have an interdepartmental procurement review mechanism whereby several departments will look at a particular procurement to ascertain the potential to lever out of it industrial and regional development benefits. We sometimes, as I mentioned, seek IRBs if there is potential on those procurements.

The next threshold is over $100 million. These are commonly referred to as major crown projects, and IRBs are always sought on this value threshold of procurements.

The Chairman: Mr. Kane, if I may, before you leave that page, just for clarification, you have an asterisk there referencing WTO and NAFTA. Can you clarify exactly what that means?

Mr. Ron Kane: Yes. The IRB policy can only be applied to procurement that is outside the coverage of the WTO and the NAFTA agreements. That's basically defence procurement. Defence procurement has not been brought under the umbrella of international trade agreements.

The Chairman: Okay, thank you.

Mr. Ron Kane: The next slide indicates the major players in administering the industrial and regional benefits policy: Industry Canada, along with the various regional agencies; the procuring department, which is generally DND; and, to a greater extent recently, the Canadian Commercial Corporation, in trying to match the capabilities of Canadian SMEs to the requirements of major prime contractors.

We classify IRBs into two types. One is direct IRBs, and these are transactions containing work performed under the contract. It's really getting Canadian contractors directly involved in the production of the goods being purchased by the Government of Canada, usually DND.

The next type is indirect transactions, and these are measures proposed by the prime contractor outside the actual procurement going under contract. This could be involving Canadian sub-suppliers on other programs of the company. It could also include technology transfer and new foreign investment by the prime contractor into Canada. So these are not subject to the procurement at hand.

Mr. John Richardson (Perth—Middlesex, Lib.): Mr. Chair, could I ask for some clarification?

The Chairman: Yes, Mr. Richardson.

Mr. John Richardson: On the players, Mr. Kane, I noticed there are only three organizations: ACOA, Western Economic Diversification, and Canada Economic Development. Which provinces are left out of this?

Mr. Ron Kane: Ontario is the province that doesn't have a separate agency. There is FedNor, which is a subset of the various regional agencies. FedNor is not generally a major participant in administrating IRB policy. FedNor has a more limited role in the process.

Mr. John Richardson: The rationale is that Ontario is carrying its own and the others need help?

Mr. Ron Kane: I think it's based on the characteristics of the Canadian industrial base. A lot of the industrial base is concentrated in Ontario. By that fact, a lot of the transactions of prime contractors and government procurement flow into Ontario. So it really was to try to have advocates in the various regions—western Canada, Atlantic Canada, and Quebec—who would help bring the capabilities of the suppliers in their regions to the attention of the prime contractors. So it's very much an advocacy role and a matching role.

Mr. John Richardson: Thank you.

Mr. Ron Kane: The next slide covers some of the operational guidelines used in administering the policy.

The first one is causality. The benefits that the prime contractor is going to claim in terms of meeting its IRB obligations to the government must be seen to be clearly and demonstrably brought about by the efforts of the prime contractor or by eligible parties defined by the Government of Canada.

• 0925

This is to ensure that any activity that would take place in Canada in its own right and wasn't brought about by a significant effort by the prime contractor to meet its obligations... We don't allow that. We really have to see the prime contractor undertaking an activity or effort to put economic activity into the Canadian industrial base.

The next operational guideline is incrementality. In a case where a prime contractor has an established relationship with a Canadian company, we will look at a running three-year average of the level of work placed by the prime contractor with the subcontractor, and then allow any increment over and above that three-year running average as an allowable credit to meet the prime contractor's IRB obligations to the Government of Canada.

Another important criterion is timing. The IRB obligations of our prime contractors generally have to be met within a specified time period, which is usually the period of the contract. That's to help minimize any risk that the prime contractor will not meet its obligations to the Government of Canada.

This slide gives some definitional aspects of the policy in terms of how we define Canadian content. It also covers those activities that aren't eligible for credit to prime contractors' IRB obligations to the Government of Canada.

In terms of some operational policies, Canada does not, under its IRB policy, allow a prime contractor to bank credits. That is, if a prime contractor overachieves its obligations in respect to a particular procurement, it cannot carry those overachievements to a future procurement. Some countries do allow that type of banking. We've chosen not to do that in Canada, primarily because if the prime contractor is overachieving its commitment, that is proof that the IRB policy is working. A good business relationship has been cemented between the prime contractor and its sub-suppliers, so that's good business. So we don't allow that overachievement to be carried forth to future procurements.

We also do not allow the trading of IRB credits between companies. It one company is overachieving and another company is underachieving against their obligations, we don't allow companies to trade obligations back and forth.

And we don't allow a prime contractor to pool its credits from one procurement it has on a contract to another procurement.

These are very much operational policies designed to give clarity to what would be an allowable IRB credit being sought by a prime contractor.

The next slide covers the management process for the industrial and regional benefits policy. Early in the development of a procurement strategy, senior officials of the procuring department, Industry Canada, the regional agencies, and sometimes Human Resources Development Canada and Indian and Northern Affairs will sit down and develop the procurement strategy, particularly as it applies to securing industrial and regional benefits from that particular procurement. A senior procurement advisory committee, chaired by the procuring department, will manage that procurement strategy through the entire procurement process. And the procurement strategies on MCPs are approved by cabinet.

Once a procurement strategy is approved, when the request for proposal is issued to Industry along with the technical and price requirements, other requirements are stated within the RFP, related to industrial and regional benefits.

Evaluation is part of the procurement process. When bids come in from the various companies on a particular procurement, the technical, price, and IRB parts of the bid packages are separated and evaluated separately. So Industry Canada would lead on evaluating the IRB package submitted by a bidder, DND would do the technical evaluation, and Public Works and Government Services Canada would do the price evaluation. They're done separately to ensure that one does not unduly influence the other part of the evaluation.

• 0930

Once all three parts of the evaluation are done, they're rolled up and the determination is made as to which contractor has the best technical and price proposal and what we call an acceptable industrial and regional benefits package. So you don't necessarily have to have the best overall IRB package to be selected the winning contractor. Determination is made on a combination of price and technical factors, and then if the prime contractor has what we determine an acceptable IRB package, the contract will be issued to that particular contractor.

Then the IRB commitments of the prime contractor are included within the contract, and we do apply liquidated damages clauses for non-compliance with or non-achievement of the IRB commitments of the prime contractor.

As I just mentioned, the IRB commitments are incorporated into the contractual document, and the obligations are generally broken down into four subcategories. One is the strategic initiatives that have been committed to by the prime contractor. This could be setting up a new operation in Canada or a specific new investment in the Canadian economy. Another obligation is that there are commitments respecting Canadian content, and a third is that there is regional distribution of the benefits.

It's important to note that under the Agreement on Internal Trade, signed by the federal government, the provinces, and the territories, when we go out with an RFP to industry, we do not require the prime contractor to meet regional targets in their industrial benefits plan. It's very much within the business operations of the prime contractor to come up with an IRB plan that first makes good business sense in terms of cost and technical solution, but also induces a good business relationship between the prime contractor and Canadian SMEs.

So we do not, as a government, set regional quotas. It's very much left to the determination of the prime contractor what regional distribution of their commitments makes good business sense for the company. But prime contractors are very sensitive to the need to distribute benefits to all regions of Canada, and they do make a significant effort to go out and find Canadian companies in all regions that can be involved either directly in the program or through indirect activities, which I mentioned previously.

Industry Canada does monitor the achievement of a prime contractor's obligations to the government, and we do periodic reporting, generally on an annual basis.

This slide denotes the results achieved to date since the policy came into effect in 1986. Because a number of contracts still have IRB obligations that will not be delivered until 2006, these numbers go from the period 1986 to 2006. Since 1986, the IRB policy has been applied to 18 major crown projects, those having a value of over $100 million. The total procurement value of those projects was $5.7 billion, and the total IRB commitments, $4.7 billion. That breaks down into $2.9 billion in direct activity of Canadian contractors in those 18 procurements, and $1.8 billion in indirect activity. To date we have achieved $3.5 billion of those commitments.

In terms of annual achievement versus commitment, the next point is quite important. On an annual basis, we generally get $385 million of achievement against a commitment of the prime contractors of $250 million. So contractors are overachieving their commitments. That demonstrates that the IRB policy does induce good business relationships between the prime contractor and the Canadian subcontractor, that those business relationships are in fact inducing more benefit to the Canadian economy than what the prime contractor is obliged to put into the economy.

• 0935

The last bullet indicates the projected employment impact of the IRB policy. Over the 1986 to 2006 period, there will be 35,000 jobs. That's based on a factor of $85,000 per job. So that's a fairly significant job creation achievement out of the IRB policy.

In the procurements in the $2 million to $100 million value range, we had a total value of $1.5 billion and we achieved a Canadian content level of $730 million, which is 47% average Canadian content on the procurements.

The next slide denotes the impact of the IRB policy on the gross domestic product of the various regions of Canada. Generally the IRB policy puts benefits into the regions in alignment with their share of contribution to the GDP. The one area where IRB policy is putting less benefit into a region is in western Canada, and that's generally due to the resource-based nature of the western economy. If we looked only at the manufacturing base in western Canada, there would be a closer match between the two, but because of the resource nature, IRB policy is having less effect overall on the GDP.

The Chairman: Excuse me, Mr. Kane. We're going to have a brief clarification. I'd like to hold the questions as much as we can for the round of questions, but yes,

[Translation]

Mr. Dubé.

Mr. Antoine Dubé (Lévis-et-Chutes-de-la-Chaudière, BQ): I would like you to clarify the difference between the column on the left and the column on the right. I understand what GDP refers to, but what is meant by "Actual GDP"?

[English]

Mr. Ron Kane: The column on the right-hand side shows the contribution of those regional economies to overall GDP. Ontario contributes 40% of the Canadian gross domestic product. If we take the IRB benefits flowing into that in Ontario, 40% of the economic activity induced by IRB policy went into Ontario as opposed to other provinces. So one is overall regional breakdown of GDP and one is the percentage of the IRB activity that went into the various regional economies.

The Chairman: Thank you.

Mr. Ron Kane: Now I'd like to cover briefly some of the IRB success stories since the policy came into effect in 1986.

The first one, under the category of domestic participation, was the tactical command and control system of the Department of National Defence. Without the IRB policy, this particular procurement would have gone offshore to the U.K. As a result of requiring IRBs, we established a Canadian prime contractor, Computing Devices, that now has operations in Ottawa and Calgary. So that's a fairly significant benefit to the western economy, which I'll deal with in greater detail further on in the presentation.

We had regional involvement in the Canadian automated air traffic control system, and because of requirements for industrial and regional benefits, Hughes has now established plants in Winnipeg, Calgary, and Richmond, B.C.

In the area of technology transfer, with the short-range anti-armour heavy missile system, we induced new investments in Canada by Hughes, Leitz Optical, Sextant Avionique from France, and Elcans Optical Technology, also from Europe. Those companies now have a presence within the Canadian defence industrial base.

In the area of investment, on the electronic support and training system, the IRB policy induced Ericsson from Sweden to invest approximately $100 million of R and D activity in the Montreal area.

• 0940

Under joint ventures and strategic alliance, with the tactical transport tanker program, long-term, sustainable supplier alliances were established by Lockheed Martin with CAE Aviation in Montreal; Menasco Aerospace, which makes landing gear and is located in Mississauga; and Hermes Electronics in Halifax.

Under the access to new markets header, on the income security program redesign, technology transfers and new investments were induced through the administration of the IRB policy. For example, the TD Bank transferred its credit card management function from Cleveland, Ohio into Canada, and this has expanded into new market opportunities for Canadian firms.

I'd like now to cover three case examples in more detail. One I've already spoken about, the tactical command and control communications radio system for the Department of National Defence. As I mentioned, this procurement would have gone offshore to Racal, a U.K. company, if it weren't for the application of IRBs.

The procurement value of this particular program was $1.2 billion, and we were able to secure $660 million of direct participation of Canadian companies into that program and indirect commitments of $561 million. The high level of direct involvement was because of the developmental nature of this program; it was not a commercial off-the-shelf. It did involve substantial development in terms of the product and the services being procured.

In terms of the regional distribution of benefits on that procurement, this slide denotes the value of benefits going to the various regions. On this one, the highest percentage is going to western Canada. Also, we did achieve a fairly significant small business development benefit out of that procurement: $91 million.

The second case study is on the Canadian search and rescue helicopter program. As you are aware, this was a competitive DND contract to buy new search and rescue helicopters. In applying IRB policy, we sought to secure high-quality, highly skilled jobs in the aerospace and defence sectors, but also in other areas of the Canadian industrial landscape.

Under procurement, we did secure direct obligations of $53 million and indirect of $540 million, for a total of $630 million roughly. You will note that on this particular procurement, the direct IRBs are considerably lower than the indirect, because this was essentially a commercial off-the-shelf procurement. In the previous example, TCCCS, there was a high level of direct because of the developmental nature. On this one, the lower level of direct is because of the commercial off-the-shelf nature of it.

This slide also denotes the regional distribution of benefits flowing from the Canadian search and rescue helicopter program. In this case the benefits predominantly went to Quebec, with Ontario and other regions sharing to a high degree, but less overall than went to Quebec.

A recent procurement by the Canadian government to which the IRB policy was applied was the Upholder-class submarine procurement. On that particular procurement, we secured an industrial and regional benefits package that was rather unique, because the owner of the boats was the U.K. government and not a commercial firm. What we secured on that was a commitment from the U.K. government to waive the obligations of Canadian companies into the U.K. under the U.K.'s industrial and regional benefits policy. So we secured a $100 million waiver that we could allocate to Canadian firms that would prevent them from having to put work into the U.K. It was an innovative way of approaching IRBs on that particular procurement.

• 0945

We also, on the second part of the IRB package, secured a commitment of $196 million from GEC-Marconi, or VSEL, to put economic activity into Canada. Of that $196 million, $78 million has involved significant technology transfer from GEC-Marconi into Canada, which will position Canadian companies to do long-term repair and overall maintenance of the submarines in Canada.

Mr. David Price (Compton—Stanstead, PC): Mr. Chairman, I have a question.

The Chairman: Yes, Mr. Price.

Mr. David Price: Just for my information, what's VSEL?

Mr. Ron Kane: It's Vickers Shipbuilding and Engineering Limited, which is now called GEC-Marconi; it's a change of ownership.

Mr. David Price: Okay, I see. Thank you.

Mr. Ron Kane: The final slide covers the future environment for industrial and regional benefits. Clearly the environment is changing in terms of the ability to apply the IRB policy to government procurements. There are some upsides and downsides in that changing environment.

Certainly international trade agreements are reducing the size of the pie to which the IRB policy can be applied. Right now about 25% of Canadian government procurement is subject to the IRB policy, so that has been reducing over time. It will likely not reduce very much further in the near future. Defence trade is one area that is not being liberalized as much as other areas of the industrial base. Most countries will seek to exempt defence procurements from trade obligations, because of the importance to the national economies.

There is a decrease in the defence acquisition budget, so we're seeing fewer projects coming on-line and much more delay in getting projects through the budgetary cycle.

Significant acquisition reform is being conducted within the government. In the context of DND, the changing mission of the department changes what they require in products and services, and that also impacts on how we would apply IRBs to government procurement.

DND has indicated a desire to procure more off-the-shelf equipment rather than getting involved in long-term developmental programs. DND is also going through alternate service delivery in trying to meet their operational requirements at less cost. A good example of that would be NATO Flying Training in Canada, where the training of pilots is now being administered outside the department.

The final point I'd like to make is that we have recently completed a fairly in-depth, substantive evaluation of the IRB policy. That evaluation, done by a third-party consulting firm, confirmed that the IRB policy does produce value, particularly in relation to the resource investment by the government. So it is a very valuable part of the government's industrial development tool kit.

The consulting firm did indicate some concerns over the short-term nature of some of the benefits produced, rather than long-term sustainable development. That was generally attributable to creating a defence capability in Canada where there was no domestic market. It was very hard to sustain, particularly where international markets are generally closed to Canadian firms entering into those markets. So what we're trying to do now is ensure that the IRB policy focuses on what we call the knowledge-based industrial sectors in Canada and induce longer-term, sustainable development through the policy on that.

Thank you very much for your time and attention.

The Chairman: Thank you very much, gentlemen.

We're going to go to a round of 10-minute questions, but just before we begin that, you mentioned a third-party consulting firm that did your policy evaluation. Is that something you can share with this committee, the results of their findings?

Mr. Ron Kane: I believe so, Mr. Chairman. We're in the stages of just receiving the final version of the report from the consultant, and a management letter to the department. I do have a representative from our audit and evaluation branch who may be able to give guidance in terms of the releasability of that and the timing.

The Chairman: Well, let me, as chair of SCONDVA, put in that request. Unless for some reason it's deemed that we should not receive it, it would be useful for us in our study to receive the findings of that consulting firm.

Let's start with Mr. Hanger of the Reform Party for 10 minutes.

• 0950

Mr. Art Hanger (Calgary Northeast, Ref.): Thank you, Mr. Chairman.

Thank you, gentlemen, for supplying us with additional information on procurement.

I'm interested in one project that was not listed amongst the successes, or maybe it wouldn't be considered a success; I don't know. It's the Griffon helicopter purchase or procurement. Just last year, 100 new machines rolled off the line—I think the last one was delivered—and Bell closed its doors after. So we have 100 new machines that can't even do the job. Obviously something went wrong. Was it an IRB process that was involved in the purchase of those helicopters, the Griffons?

Mr. Ron Kane: The determination of what helicopter was required to perform the operational load of the Department of National Defence was made by DND. They indicated the operational requirement and the specification and determined that the product being offered by Bell Helicopter Textron Canada out of Mirabel was a product that met their particular requirements.

Once that determination was made, we then looked at applying IRB policy to try to induce wider economic benefits to the Canadian economy from that particular procurement. But the decision as to what was bought was made by the Department of National Defence. We come in in somewhat of a secondary role, to ask, once that procurement decision is made, how can we then try to lever further economic activity for the national economy on that?

I have another point of clarification. The operation of Bell Helicopter Textron in Mirabel is still an ongoing operation. It is still the number one world supplier of civil helicopters. That's one thing Canada leads in. So the operation in Mirabel is certainly not closed. Production is taking place at that centre, and there are discussions of further work activity that could be undertaken at Mirabel.

Mr. Art Hanger: Well, what happened, then? There you have 100 helicopters coming off the line. There's allegedly some benefit. It's difficult to re-analyse the benefits, whether they be regional or not. Certainly if there were regional benefits, they were outweighed by the equipment benefits. The equipment doesn't meet any kind of standard that the military had initially set for a tactical helicopter. They're just plagued with all kinds of problems. Really we have 100 machines that can't do the job.

I guess my question is this: What safeguards are in place to ensure that there's no political interference in this procurement process?

Mr. John Banigan: Maybe I can answer that.

For major crown procurements, the decisions are made by the cabinet, and the strategy for the procurement is worked up by officials of the Department of National Defence, Public Works, and our department. The decision on procuring the goods is made by the cabinet.

As Mr. Kane indicated previously, the requirements of the line department are primary—the specifications, the cost, and the risk assessment—and industrial benefits are a secondary consideration. We look at whether there's a satisfactory industrial benefits plan, which we put into the contract.

I believe in the case of this particular procurement, the industrial benefits plan was satisfactory and was performed as required in the contract. I'm not aware of any deficiencies in the helicopter, but if there are, I think that's, if I might say, a question for National Defence, not Industry Canada.

Mr. Art Hanger: There were a number of deficiencies in the helicopter. All you have to do is read the Auditor General's report. It makes it very, very clear.

When a purchase such as this is made and there's such a shortfall in meeting the requirements, is a review not done on the process itself to say, “Well, we made a mistake here” or “We shouldn't have done that”? Does everybody just turn a blind eye, including what might be considered industrial and regional benefits? Do they just go on as usual?

• 0955

The Chairman: Mr. Hanger, I think the witnesses have tried to indicate to you that it's not in their purview to decide what piece of equipment is needed. If you have questions vis-à-vis the IRB benefits of that, that's relevant to them, but—

Mr. Art Hanger: Mr. Chairman, may I interrupt?

The Chairman: Sure.

Mr. Art Hanger: We're speaking with Mr. John Banigan. He's the assistant deputy minister to the standing committee on defence. I would assume that he would have some—

The Chairman: I think if you'd read that again, Mr. Hanger, you'd see that's not correct.

Mr. Art Hanger: That's what I have in front of me.

The Chairman: The point I'm making is that the witnesses are here, and if you have questions relevant to the IRB component of a particular contract, then they're relevant and the witnesses will field them. You have concerns, and you've raised them before—they may be valid and they may not—as to the efficacy or not of these helicopters, but that's not why these witnesses are before us.

Mr. Art Hanger: It's not the efficacy of the helicopters I'm questioning. It's the process itself.

I might point out again that decisions are being made. Mr. Kane pointed out that the regional and industrial benefits program came into effect even on the purchase of these helicopters. I'm trying to determine exactly what went wrong. Something went wrong, obviously, and things didn't turn out the way they were expected to. Since the program was in effect, I'd like to know what happened on their side.

The Chairman: Fair enough. You go ahead and ask your questions, and I'm going to encourage the witnesses, when they feel the questions are irrelevant to why they're here, to quite frankly say so. So go ahead, Mr. Hanger.

Mr. John Banigan: With regard to that contract, sir, the administration of the contract would be the responsibility of Public Works and Government Services and the Department of National Defence. It's up to them to oversee the procurement from the point of view of the performance, the price, and meeting the specifications of the contract.

Our role in a contract of that nature is more limited. It's to determine whether the industrial and regional benefits obligations that the contractor had promised and committed to are in fact delivered. If I'm not mistaken, in that particular case, the industrial and regional benefits obligations were delivered satisfactorily.

So from an Industry Canada point of view, that contract is satisfactory. If there are other deficiencies with the goods, I think, with respect, that's a question for National Defence to answer.

The Chairman: Thank you. I appreciate those comments.

Mr. Hanger.

Mr. Art Hanger: Thank you for your reply.

Going back to page 14 of the presentation, Mr. Kane, you say that in 1988, the Canadian annual procurement strategy enunciated a hierarchy of principles for using procurement to promote national objectives, and you list two. You say the primary objective was to meet operational needs at the least cost, and second, the industrial and regional benefits policy was confirmed as a lever to achieve and develop objectives by focusing on long-term benefits.

When you place demands on companies under a bid—for instance, they have to produce such large IRBs in return for these government contracts—they have to build all of this into their costs, obviously. This obviously is going to drive up the price of the given contract. So with the defence department the way it's strapped for cash right now and in desperate need of new equipment, and yet being effectively forced to underwrite these costs to the IRB, doesn't this contradict the principle that they're going to get the best equipment for the lowest price?

Mr. John Banigan: I don't think there's any proof that there's a premium to buy from a Canadian supplier. Indeed, we've often had offshore contractors comment to us that they were very pleased with their Canadian suppliers. They often do business with them after the contract is finished. It gives them more competition amongst their existing supply base. It gives them quality suppliers. The general attitude amongst foreign vendors is that they've developed very competitive suppliers as a result of the IRB policy.

We don't require anybody to go into a relationship other than what makes good business sense. As I mentioned, the procurement strategy is driven primarily on performance to specification, price, and risk. The industrial benefits policy is quite a secondary matter. We don't say what the industrial benefits should be in total; we just say there should be an acceptable plan. But the criteria are almost entirely weighted towards price, risk, and performance.

• 1000

So I don't accept that there are premiums or additional costs associated with companies dealing with Canadian suppliers. I don't think that's the case.

The Chairman: Thanks, Mr. Banigan.

Mr. Hanger, that's your 10 minutes. We'll have a second round if members wish.

[Translation]

I will now give the floor to Mr. Antoine Dubé of the Bloc Québécois, for 10 minutes.

Mr. Antoine Dubé: You told us about the regional benefits in the first two case studies, but not in the third, which appears on page 34. Do you have this information available?

[English]

Mr. Ron Kane: On the Upholder-class submarine procurement, the obligations of VSEL for the $196 million are not yet allocated on a regional basis. We're waiting for the company to submit its IRB plan in terms of how it's going to meet this $196 million commitment. That plan is due to us by, I think, 15 April. That will give us an appreciation of whether the plan, from our standpoint, is acceptable in terms of both quality and quantity of the benefits.

This particular procurement was a little bit different from our normal procurement in that the contract was signed in advance of the IRB package being submitted to the Government of Canada. That was due to urgencies and sensitivities on the particular procurement. So we're still waiting for the prime contractor to provide Industry Canada with the IRB proposal, and we can then certainly make available the regional distribution on that.

[Translation]

Mr. Antoine Dubé: You mentioned that this policy had been applied to 18 major capital projects and to 51 review cases valued between 2 and 100 million dollars. Have you broken down the regional benefits as you did in the two case studies to which I referred?

[English]

Mr. Ron Kane: Yes, we have a breakdown showing the IRBs on those full 18 cases and the regional allocation of the benefits, the small business components, and so forth. Those 18 projects are covered in detail in the IRB evaluation that the chairman has requested to have made available.

[Translation]

Mr. Antoine Dubé: For the 51 review cases as well?

[English]

Mr. Ron Kane: Yes.

[Translation]

Mr. Antoine Dubé: Could this information be sent to the committee, Mr. Chairman? It is in the public domain.

[English]

The Chairman: Yes, we've already made a request. I have, as chair.

[Translation]

Mr. Antoine Dubé: And that it be forwarded to all committee members?

The Chairman: Yes.

Mr. Antoine Dubé: Thank you. I would like to know how you calculate indirect benefits and what these include.

[English]

Mr. Ron Kane: As for the types of indirect benefits, one would be in the form of technology transfer. It could be the transfer of technology from a European prime contractor to a Canadian company. We'll try to value the worth of that technology, what it means to the Canadian company in terms of its sales and its competitive nature. If we don't have the capacity in Industry Canada to give a good valuation of that technology, we'll go to other sources within government and the private sector to try to get a value of that technology and then credit the prime contractor with that.

Another would be in terms of direct investment, and that's generally done on a dollar-for-dollar basis: for every dollar of new investment put into Canada by the prime contractor, they would get a dollar. We generally do not give multipliers; we don't generally give more benefit than what the incoming benefit to Canada is. In some cases we do look at that, if it's in the interest of the Canadian taxpayer.

• 1005

[Translation]

Mr. Antoine Dubé: I'm interested in another point as well. When you spoke about the IRB program, you were saying that you look first at the price and technical considerations, then at the regional benefits. When you assess the regional benefits, do you do so according to the number of jobs created, the amount of money or some other factors?

The deputy minister told us in answer to a question that he thought that the price and technical considerations were very important factors. How would you weigh the importance of regional benefits?

Mr. John Banigan: In assessing whether or not a project is acceptable, we do not necessarily do a concrete evaluation of all these factors; we usually leave it up to the company to determine where contracts will be awarded. It is not up to the government to make this decision. We require that there be a regional distribution of benefits, but it is up to the companies to make these choices. The purchasing departments, generally the Department of National Defence, are responsible for making decisions regarding technical, risk and quality considerations. In the case of regional industrial benefits, the question of acceptability is a judgment call. Generally, we require 100% against the value of the contract, but there is no specific rule or precise analysis. It is simply a question of judgment.

Mr. Antoine Dubé: Who makes this judgment call?

Mr. John Banigan: Cabinet.

Mr. Antoine Dubé: I see. I am the Bloc Québécois critic for regional development. The list of partners in the industry portfolio includes the regional development agencies—the Atlantic Canada Opportunities Agency, Western Economic Diversification, and Canada Economic Development for Quebec Regions. Are these agencies involved in the process, and, if so, what role do they play in evaluating the project?

Mr. John Banigan: Mr. Manley, the Minister of Industry, is responsible for all the regional agencies. They have all been included in his portfolio. Our department, Industry Canada, is responsible for the policy and holds consultations with the regional agencies regarding the quality of the project and the possibility of granting contracts to SMEs in their region. The analytical work is done by a team from Industry Canada, and the decision is made by Cabinet.

Mr. Antoine Dubé: Thank you.

The Chairman: Thank you, Mr. Dubé.

[English]

We'll go to the majority side. Mr. Proud and then Mr. Bertrand.

Mr. George Proud (Hillsborough, Lib.): I have just a short question. Has the government considered requiring prime contractors to place a certain percentage of IRBs in regions or provinces of Canada, especially those with not as strong an industrial base as others?

Mr. John Banigan: We've never specified what the percentage should be in a particular region. We encourage the contractors, so as to improve the quality of their bid, to have good distribution across the country, and we often help them by introducing them to companies across the country that they might not be familiar with. But we don't have any requirements for certain percentages to be in certain regions. We leave that up to the contractors.

They do try quite hard to locate in the less developed regions of the country, but we don't think it's in anybody's long-term business interest to force business relationships that aren't based on competence, quality, and performance.

• 1010

Mr. Ron Kane: Perhaps, Mr. Chairman, I could raise a supplementary to Mr. Banigan's reply.

As I mentioned in my presentation, under the Agreement on Internal Trade, signed by the federal government, the provinces, and the territories, we're obliged to apply the industrial and regional benefits policy in a way that is non-discriminatory in respect to the regions for which the federal government has a regional development framework. So that agreement precludes us from specifying to the prime contractor regional quotas or targets.

But as I mentioned, prime contractors are very sensitive to that, and they have, through practice, seen the benefits of finding cost-effective quality suppliers in all regions. We really do get very attractive IRB packages from prime contractors.

Mr. George Proud: Thank you.

The Chairman: Thanks, Mr. Proud.

Mr. Bertrand.

[Translation]

Mr. Robert Bertrand (Pontiac—Gatineau—Labelle, Lib.): I would like a few clarifications.

When the Department of Public Works issues calls for tender, for example for search and rescue helicopters, are the industrial benefits included in the bid?

Mr. John Banigan: Yes.

Mr. Robert Bertrand: If I understood your presentation correctly, it is up to the bidders to determine the best way of reaching the industrial benefits objectives.

Mr. John Banigan: That is correct. In the equipment request document,

[English]

certain characteristics of the industrial benefits policy would be requested. It's up to the contractor to decide what he'll propose to the government, and when that's acceptable, that's put into the contract.

[Translation]

Mr. Robert Bertrand: When you receive bids, you must spend a great deal of time evaluating these benefits. It is not simply a question of price. There must also be the best possible benefits for the country, for the government.

Mr. John Banigan: There is a team that assesses risk and the technical and legal aspects of the bid, and another that evaluates the industrial and regional benefits. We use the experience we have gained on other contracts, we use our judgment, and we decide whether the bid is acceptable or not and then we make a recommendation to Cabinet.

Mr. Robert Bertrand: On page 17, you refer to industrial benefits and market size. There is an asterisk and we read at the bottom of the page: "Applied only to WTO, NAFTA-exempt procurement".

From your text, it would appear that these benefits are considered only in the case of military contracts. The group we met with on Tuesday told us that only some National Defence contracts were NAFTA-exempt, if I understood correctly.

[English]

Mr. Ron Kane: The IRB policy can only be applied to those procurements, as you mentioned, that are exempt from the WTO and NAFTA. These are principally defence-related procurements, but they also include some transportation services by Transport Canada and some information technology products.

• 1015

Both agreements define the types of procurements that are excluded. I would say 90% of those are defence-related, but some procurements conducted by departments other than National Defence could have the policy applied to them.

Mr. Robert Bertrand: I have just one last question. We know that because of lack of funds, DND right now will be using a lot more... you used the term COTS, commercial off-the-shelf. Will this limit the government's ability to secure IRBs on future government procurement spending?

Mr. John Banigan: The answer to that, sir, is probably yes. When you have a new development program, the contractor doesn't have existing suppliers, and there's an opportunity for Canadian contractors to get in on the ground floor to be suppliers right from the outset. When DND procures existing programs, commercial off-the-shelf, the contractor typically has existing suppliers, and it would not be efficient for them to bring on new suppliers.

As we saw from our examples, you tend to get more indirect benefits from COTS, whereas if it's a development program such as a new aircraft, for example, you tend to get more direct benefits, because you can participate in that program itself, as opposed to getting other types of benefits.

Mr. Robert Bertrand: So it might be cheaper at the front door, but you're losing jobs, for instance, where normally a subcontractor would come in.

Mr. John Banigan: You tend to get more indirects with commercial off-the-shelf. They have quality jobs associated with them as well; they're just not participating in the program at hand. So if DND were to buy a brand-new aircraft, the Canadian contractors would be subcontractors for that particular program. The indirects tend to be other products of the same company or other types of investments or mandates. So they're of a quality nature, but they're just not engaged in the program that is the subject of the procurement.

Mr. Robert Bertrand: Thank you.

The Chairman: Thank you, Mr. Bertrand.

Mr. O'Reilly for two minutes.

Mr. John O'Reilly (Haliburton—Victoria—Brock, Lib.): I have a point of clarification. When Mr. Dubé asked about IRB and cabinet, your answer was that cabinet decides IRB. Does that mean cabinet reviews every procurement involving IRB? Or is there some official within Industry Canada who has that authority?

Mr. John Banigan: I think, Ron, it's up to $100 million the cabinet decides?

Mr. Ron Kane: For the major crown projects, those programs over $100 million, the procurement strategy, including the industrial and regional benefits component of that, is taken to cabinet in the project approval stage. Then, through the bid solicitation process, we'll go out and request IRBs from various bidders and go through the evaluation process.

For $100 million and up, it certainly is the cabinet's mandate to approve the overall procurement strategy and the IRB portion of that. For the lower-valued procurements, that's done at the departmental level, but we also have to go to Treasury Board for contract approval, and Treasury Board will look at the IRB aspects of those procurements.

Mr. John O'Reilly: Down to what number?

Mr. Ron Kane: I believe the number is $10 million. I can check the number. That's administered mostly by Public Works, along with the procuring department, in terms of getting the contract approvals. The actual process of getting Treasury Board approval is probably best dealt with by Public Works and Government Services Canada.

Mr. John O'Reilly: Thank you very much.

The Chairman: Just to finish that, is there a committee that looks at these projects under $100 million? Is it the call of an individual or a committee of people? How does that work?

Mr. Ron Kane: From $2 million to $100 million, we have a procurement review process, which is an interdepartmental mechanism involving the procuring department, Industry Canada, the various regional agencies, sometimes Human Resources Development Canada, and Indian and Northern Affairs if there are northern or aboriginal benefits to be secured. That committee will look at the various procurements to see what potential there is to derive IRBs or Canadian content benefits from those procurements.

• 1020

As I mentioned in my presentation, we applied the policy to 51 procurements in that value range. Overall there were about 1,700 procurements in that value range, and 51 we thought had good opportunity for regional and industrial benefits.

So it is an interdepartmental process; it's not one individual or one department.

The Chairman: Thank you for that clarification.

Now Mr. Earle from the NDP for 10 minutes.

Mr. Gordon Earle (Halifax West, NDP): Thank you, Mr. Chair.

A lot of this is new to me, so I'm going to have to ask a very basic question right at the start. I was trying to find the answer in your presentation. We're talking about the industrial and regional benefits policy, and I was looking for a quick summary or definition of that policy. What exactly are we talking about when we say “industrial and regional benefits”? Is it something similar to what you have on page 4, Industry Canada's mission and goal?

The Chairman: If I can help, I think Mr. Earle is probably seeking a mission statement or a definition of just what the whole purpose of IRB is.

Mr. Ron Kane: We do have the statement issued by cabinet in 1986, when it approved the policy. The policy is predicated on levering long-term, sustainable economic activity from government procurements. It's a fairly simple mission statement in terms of policy. Then we do have within the department operational policies and practices to give that effect. We could share some more detail on that.

Mr. Gordon Earle: That leads to my next question. Is it possible for us to have a copy of that 1986 cabinet policy document so that we understand what the policy is that we're talking about when we look at this whole issue?

Mr. John Banigan: I think in the evaluation report that we will be submitting to you, there's quite a detailed description of what the policy is and how it's worked over the years. Perhaps that is the document that would give that information.

The Chairman: I made that earlier request. Could someone ensure that the information Mr. Earle is seeking is in fact in there, and if it's not, append it? Could you forward that to the clerk, please, and then we'll make sure all members of the committee receive that?

Mr. John Banigan: Certainly.

The Chairman: Thanks very much.

Mr. Earle.

Mr. Gordon Earle: What I really want to see is the actual cabinet policy that sets forth what IRB means.

Secondly, on page 23 you talk about evaluation of IRB projects, and you mention that this evaluation is done in separate parts, with the IRB component done by Industry Canada, the technical by DND, and the price by the Department of Public Works and Government Services. Could you clarify this a bit? Because it seems to me a lot of those things might tend to overlap in assessing or evaluating a particular project. What specifically would Industry Canada be looking at when you say “the IRB component” of a project?

Mr. Ron Kane: As part of the procurement process, in the bid evaluation stage, once the bids are received from potential contractors, the three portions are separated, as you mentioned. We do that separation to ensure that one evaluation does not unduly influence the other evaluation. If the technical evaluation is leading to the potential selection of one contractor, that could maybe unduly influence how we would look at IRBs, if we knew that for some reason one of those evaluations was focusing on a potential winner of the process. So we try not to have any indication of the potential winner until all portions of the evaluation are done and brought together and we look at the complete evaluation.

When we bring all three pieces together, that's where we get interplay between technical, price, and IRBs. It's really the combination between technical and price that comes together first. As Mr. Banigan mentioned, if we deem the IRB proposal of the bidder to be acceptable, then we can award the contract. But what we try to do in the evaluation stage is have firewalls between the three evaluations so that one does not necessarily induce an outcome.

• 1025

Mr. Gordon Earle: Next, on page 31, where you talk about regional distribution, you give a breakdown of various benefits that went to different regions. How is that usually determined? Is that determined by who gets the contract—for example, if a contract is awarded, say, in the Maritime region, then they would end up getting a certain proportion? Also, is this done after the fact, or is there something built in prior to the contract that would ensure a certain balance or breakdown in who gets what?

And in connection with that, could you comment a bit upon the “unspecific” $129 million? Where did that go?

Mr. John Banigan: When the contractors make their proposals to the government, in the industrial and regional benefits part of their proposal, they specify what they propose to put into each of the regions of Canada, and then we hold them to that in the contract. If they're undecided as to what region some contract might be in, particularly for an indirect, for example, or if they haven't selected a contractor yet, they will put it in the unspecified category. But they do give a regional breakdown, and that's part of our evaluation. We hold them to that in the contract, if they're successful.

Mr. Gordon Earle: And lastly, on page 8 you mention that Canadian private sector R and D spending is lower than in the U.S., despite our more generous R and D tax incentive system. Do you have any comment as to why that is?

Mr. John Banigan: It's a question that we're not exactly sure of. The department has been quite preoccupied with what the OECD calls Canada's innovation gap. There are structural weaknesses in the Canadian economy, and we think they have led to one of the causes of lagging productivity in Canada, in comparison to the United States.

It's certainly not our tax system, because we have very generous R and D tax incentives. So it's other structural weaknesses in the Canadian economy. A lot of analysis is under way in the department and elsewhere to try to understand the nature of the structural weaknesses, but this is just some evidence of some of the—

Mr. Gordon Earle: Could one of these structural weaknesses, for example, be the fact that we don't have a comprehensive national shipbuilding policy, which would then tend to focus certain research and development in that particular industry in Canada, those kinds of things? Would there be policy weaknesses perhaps?

Mr. John Banigan: We do have a national shipbuilding policy, but this is an economy-wide symptom we're looking at. We've observed that Canada performs relatively less R and D compared to the other OECD countries, and the reason for that is not altogether clear. A number of economists are studying that particular issue.

Mr. Gordon Earle: Thank you.

The Chairman: Thank you, Mr. Earle.

We will now go to a second round of five minutes per questioner, starting with Mr. Hanger.

Mr. Art Hanger: Thank you, Mr. Chairman.

I have some points of clarification on the Upholder-class submarine procurement. Wasn't it supposed to be a cashless deal?

Mr. Ron Kane: The actual contractual arrangement for compensation involved a combination of cash and services that the Canadian government provided the U.K.

Mr. Art Hanger: Right.

Mr. Ron Kane: But I don't have the details on that specific aspect of the contract. Public Works or DND would have.

Notwithstanding the payment provisions of the contract, we did insist, as the Government of Canada, on getting IRBs from that particular procurement, even though it was a very attractive deal for Canada in terms of what we were getting for the overall price on that. On this one, we did secure a very attractive IRB package on a procurement that was already very attractive to Canada. We managed to get from the U.K. government and the U.K. industry a good package for the Canadian industrial base.

Mr. Art Hanger: Generally the vendor pays for the IRBs through their bid; is that not the case?

Mr. Ron Kane: The vendor will offer an IRB package to meet its obligation. From the IRB evaluation and other feedback from industry, Industry does not see the IRB policy adding any tangible costs to the procurement equation. Prime contractors, once they get paired with cost-effective, quality Canadian suppliers, in some cases actually lower their cost of operation on a procurement.

• 1030

So the IRB policy doesn't induce paying premiums, but it does match the requirements of a prime contractor to cost-effective, quality suppliers. In some cases the net result of that is lowering the procurement costs.

Mr. Art Hanger: Okay. I have to ask for some more clarification. I'm not quite certain how this process worked in the purchase of the submarines. You're buying used submarines, and I guess the question is how can used submarines generate IRBs? If the Canadian government is buying the product, where does the IRB fit? Who's paying for the IRBs?

Mr. John Banigan: There are some costs associated with the procurement, Mr. Hanger; they have to be made seaworthy again and they have to be modified to a certain degree to meet the Department of National Defence requirements. So the submarines were already built, but there are some costs incurred to deliver them to the Canadian Navy.

In that regard, work would be performed by the contractor, VSEL, so that would lead them to look for some Canadian suppliers to participate as subcontractors.

Mr. Art Hanger: This is the $196 million?

Mr. John Banigan: That correct.

The Chairman: Is that towards ongoing maintenance?

Mr. Ron Kane: The $196 million is the cost of getting the boats operational and getting their diving certificates issued by the U.K. government. That work will be done in the U.K., and because of that, we required GEC-Marconi to then put equivalent value of economic activity into Canada.

So that $196 million is to get the boats operational.

Mr. John Banigan: Is the maintenance involved in that sum?

Mr. Ron Kane: No. That's solely to get the boats operational in the U.K. For the ongoing maintenance aspects of that contract, another subcontract has been issued by the Department of National Defence for some short-term maintenance by GEC-Marconi. But the intent is to eventually move the maintenance fully to Canadian DND and also to Canadian industry.

Mr. Art Hanger: So this initial outlay of $196 million the Canadian government is actually paying in cash?

Mr. Ron Kane: I believe the transaction is cash, but Industry Canada is not the lead on that part of the procurement. The value of the work being done by GEC-Marconi on behalf of the Government of Canada I believe would be a fully cash transaction, but I would have to confirm that.

Mr. Art Hanger: Could we get a breakdown on that?

Mr. John Banigan: That's a contractual question. We can ask the Department of National Defence to give a factual answer and pass it on to the committee, if we may?

Mr. Art Hanger: We can get a breakdown on it, can we?

The Chairman: Oh, yes. We'll make that request through the department to get that answer. It's a very valid question too.

Mr. Art Hanger: My second question is this. When it comes to defence contracts, large Canadian high-tech firms frequently band together to shut out some of the competition, possibly some of the smaller players in the field. There is a certain amount of grumbling amongst some of these smaller firms, especially the high-tech firms. One example is the process set up to place the mission suite into the potential marine helicopter contract. I understand that will be almost as much as the cost of the airframe itself.

You mentioned in your outline the concern about the small critical mass of high-tech manufacturing in Canada compared to the U.S. Does this hinder the development of a competitive, vibrant high-tech sector?

Mr. John Banigan: Companies, as they try to position themselves to get the contracts, sometimes will form a consortium, thinking that their prospects are better in that case.

• 1035

Basically the procurement strategy for the large projects, the major crown procurements of $100 million and over, is a question for the cabinet to decide. The cabinet can decide whether they're going to have it open to all qualified bidders or whether they would be prepared to sole-source part or all of the contract to one company or one group of companies. Obviously they're looking for the best value for money for the procurement, and they'll decide whether sole-sourcing or an open bid would be the best way to go.

The Chairman: Thank you, Mr. Hanger. Sorry; your time is up.

Going to the majority side now, I see Monsieur Bertrand.

[Translation]

Mr. Robert Bertrand: Does it sometimes happen, Mr. Kane, that the contractor does not meet his IRB quota? If so, what penalty can be applied in such cases?

[English]

Mr. Ron Kane: As mentioned, the IRB obligations as they're bid into the contract are subject to liquidated damages for non-achievement of the commitment. I'm not aware of any cases where we've actually applied liquidated damages.

In some cases, situations have arisen where what was proposed by the prime contractor couldn't be achieved, because of changing market conditions and so on. In cases of that nature, we sit down with the prime contractor and try to find alternate ways of meeting its obligations to replace this activity. Maybe it was a proposed contract to a firm in Sudbury, and that firm went out of business. We would sit down with the prime contractor to try to find a replacement activity of equal value and equal quality.

In difficult situations, we try to work to achieve the overall commitment of the prime contractor. To my knowledge, we have not applied liquidated damages to a prime contractor.

Mr. Robert Bertrand: Have all the contractors met their IRBs?

Mr. Ron Kane: On the 18 major crown projects, yes. On lower-valued procurements, I would have to verify that and report back to you, but on the 18 major crown projects since 1986, liquidated damages have not been applied.

Mr. Robert Bertrand: But if I understood you correctly, if one contractor is lagging behind, for instance, you will sit down with him and try to work something out.

Mr. Ron Kane: Not so much lagging behind, but sometimes the IRB commitments of the prime contractor can be delivered over an eight- or 10-year contract period, so some things that the contractor planned to do, say, in 2004 or 2005 may not be achievable because of changes in technology, market conditions, and supplier linkages. So if a supplier is having difficulty meeting a regional commitment, we'll sit down and say, “Okay, we understand that cannot be achieved, but you as a prime contractor have to propose another transaction, another benefit, of equal value and equal cost to replace that particular transaction.”

So it's not so much lagging behind; it's just where there's difficulty in fulfilling the original intent because of changing conditions beyond the control of the prime contractor.

Mr. Robert Bertrand: The other contractors must follow this process quite astutely, because if the IRB changes, they can come back and say, “Well, geez, we would have done better”, or something like that. Has there ever been a case where contractors have come back and tried to get compensation of one form or another because of the changing of the IRB?

Mr. Ron Kane: No. I'm not aware of any situation where one of the losing bidders on a procurement has come back and said the prime contractor has not fulfilled its original IRB plan, and therefore they want compensation.

• 1040

The cases where we have to sit down with the prime contractor to do some modifications to the IRB plan as submitted are quite rare. Generally the prime contractor will overachieve its IRB commitment, as shown by some of the data. So generally we're in overachievement mode rather than underachievement. It's only in very select cases where we would have to sit down with the prime contractor and look at some replacement activity for a transaction that is no longer achievable because of changed circumstances. Those are few, and other bidders have not come in to question that at all.

If a really major change were being requested by the prime contractor and we didn't think it was legitimate—if we thought the prime contractor could in fact achieve the regional commitment—that's when we would seriously look at applying liquidated damages, to hold that prime contractor accountable for fulfilling its obligations.

The Chairman: Thank you, Mr. Bertrand.

Sorry, colleagues. That's five minutes. We can come back.

Now to

[Translation]

Mr. Dubé for five minutes.

Mr. Antoine Dubé: I have three questions, which I will ask one after the other.

I would like you to tell me about the role played by Canadian content in the project evaluation. Perhaps this is not the responsibility of the Department of Industry, but do you know whether the government evaluates the bids from the point of view of government contributions, such as loan guarantees provided by the EDC or other government bodies, or some type of R and D contributions? Are the costs to the government taken into account? Are the tax deductions taken into account as well? Some companies get contributions in the form of tax deductions. That is of interest to the Department of Revenue, but I imagine some overall analysis is done.

Finally, is job creation taken into account in assessing indirect benefits? I think this is a very important factor. There are possible government benefits through income taxes and other taxes. The same is true of products and services because of the QST. Are all these factors taken into account when a company's bid is being reviewed?

Mr. John Banigan: In Mr. Kane's presentation, there's mention of benefits on page 15. The direct benefits come from the equipment that the government buys, for example a sub-system or parts for an airplane or a vehicle.

As for indirect benefits, you have examples here. Among others, you have benefits for Canadian industry in terms of taxation. There are also the benefits the companies spin-off to subcontractors in Canada. So there are tax benefits and other aspects like that. We evaluate the benefits that the entrepreneur promises to spin-off to Canadian companies.

Mr. Antoine Dubé: On page 16, you have trade agreements either under OECD or WTO. You talk about regional trickle down over a long period. That's interesting, but in the future, during the coming years, won't the international agreements perhaps threaten these regional trickle downs? Maybe it will be considered as akin to protectionism or even going against the agreements.

Mr. John Banigan: At this point, IRB are acceptable within the framework of NAFTA and the WTO. We'll probably negotiate other international agreements, but I can't speculate on that.

• 1045

Mr. Antoine Dubé: My colleague Earle put a question on naval construction. You know that naval construction is exempt from NAFTA which means that the USA do all their own construction. Canada can do the same thing but, somewhere, there's a perverse effect to all this. If it was more open, there would be... How do you see this exemption for naval construction? What is its impact on this sector of the industry? Would you be favourable to it being included in the free trade treaty?

Mr. John Banigan: You're right. The American market isn't accessible to Canadian naval yards. That does pose a problem for our industry because we have a very small market. The government buys ships from time to time, but it's not a big buyer. So the situation is difficult for Canadian dockyards. During the NAFTA negotiations, the Americans demanded that their market not be open to Canadian shipyards. It was a matter of negotiation at that time.

Mr. Antoine Dubé: But it could change.

The Chairman: Thank you, Mr. Dubé.

[English]

Mr. Clouthier and then Mr. Bertrand.

Mr. Hec Clouthier (Renfrew—Nipissing—Pembroke, Lib.): Ron, with regard to the IRB program, is there a formula in place? If a certain company applies for the IRB benefits, is there a threshold? How do you calculate that? Would it be a certain percentage of the total contract, or does it just go basically program by program, or by request?

Mr. Ron Kane: For each procurement, we sit down as an interdepartmental group, and as we develop the procurement strategy and our IRB sub-strategy, we look at the potential to lever benefits out of that procurement—benefits that are in the interest of the Canadian economy. We also don't induce the prime contractor to do things that are dysfunctional to its overall business interest. We will set a value threshold or requirement on a particular procurement.

If you take the search and rescue helicopter procurement as an example, we sought 100% of contract value in IRBs by the prime contractor, so the prime contractor was obliged to put economic activity into Canada equal to the value of the contract. That's generally the standard. But one particular procurement may have less ability to get IRBs induced, particularly without incurring extra cost in the procurement equation, so we may set the threshold at 80% or 70%. We look at that on a case-by-case basis.

Mr. Hec Clouthier: That's of the total contract.

Mr. Ron Kane: Yes.

Mr. Hec Clouthier: I noticed that some of these IRBs go on for eight or 10 years. Do you have a monitoring team? If I were a contractor and I had an IRB benefit for the year 2006, would you come back and verify and check into what I was doing every year or six months? How does that work?

Mr. Ron Kane: Yes, we do. On my staff we have officers assigned to each of the major procurements, all the way from the initial receipt of the IRB proposals to contract close-out. We will monitor the achievements of the prime contractor against his obligations, and that generally requires annual reporting by the prime contractor against his obligations.

For example, at the end of this year, a prime contractor would come in and say, “We've done this, this, and this. We would like now for the Government of Canada to recognize that and reduce our IRB obligation by that amount.” We'll sit down and verify that in fact the contractor did do what they stated they did, in terms of getting that IRB credit. We may go out to sub-suppliers of that prime contractor and ask, “Did you in fact receive a contract of this value and of this nature from the prime contractor?”

So we do verify, from point of contract award all the way through contract close-out, the achievements of the commitments of the prime contractors.

• 1050

Mr. Hec Clouthier: In these long-term contracts, can either side come back—Industry Canada or the contractor—and renegotiate because of a fluctuation in interest rates or because of the unemployment rate in that particular area? Or maybe some new technology came on board from something that was totally outside the contract, and now they or or Industry Canada are saying, because of this new technology that's now on the Internet or whatever, you don't need the IRB as much as you did before. Is anything like that built into it?

Mr. Ron Kane: Certainly in terms of any changes to price or technical, that would be led by Public Works and Government Services as a major change of the contract.

In respect to the industrial and regional benefits commitments of the contractor, if something comes to pass that was not forecast and requires a potential change in how they're going to meet their commitment, this is the situation where we would sit down with the prime contractor and say, “We recognize you can't do what you originally committed to, but you have to replace that with an activity of equal value and equal quality.” But those are very few instances. Generally the contractors are able to meet their commitments as originally specified, and in fact overachieve their commitments.

The Chairman: You have time for one brief question, Mr. Bertrand, and then I'll go to Mr. Earle.

[Translation]

Mr. Robert Bertrand: Mr. Kane, we undertook this study to try to improve DND's acquisition system because we find their process is very ponderous. What could you suggest with a view to improving this acquisition process?

[English]

Mr. Ron Kane: Overall it's my view that the system is working quite well in terms of the degree of interdepartmental cooperation and consultation. Industry Canada works with procuring departments and other government players to ensure that IRBs don't induce a procurement outcome that is not the best in terms of price and technical. As I say, IRBs are secondary to that evaluation. We have a good appreciation of and a good working relationship with DND in how we make that collective decision.

One area where we could probably work together more closely is to try to determine DND's long-term requirements for goods and services, and then decide how the IRB policy can be used to help set up a Canadian capability. In many cases the IRB policy can ensure that DND is able to meet its goods and services needs in Canada rather than offshore, and that generally means less cost and a quicker response time for DND.

So right now DND and we are working quite well with that type of dialogue.

Mr. Robert Bertrand: Thank you very much.

The Chairman: Thank you.

Mr. Earle for five minutes.

Mr. Gordon Earle: Thank you.

I have one quick question, and it relates to the shipbuilding industry again. The reason I'm focusing on that is this committee will be looking at how that industry ties in with the whole concept of procurement, particularly procurement of National Defence equipment.

You mentioned that we do have a national shipbuilding policy. I wonder if you could make a copy of that policy available to the members of this committee.

Mr. John Banigan: Certainly, sir.

Mr. Gordon Earle: Thank you.

The Chairman: Are there any more questions from either side?

Mr. Bertrand, did you have

[Translation]

any further questions?

[English]

Mr. Robert Bertrand: One, but it has nothing to do with what we're discussing this morning. Are the Americans going to launch our satellite? There was a difference of opinion about whether or not the Americans were sending up a satellite. I believe it was supposed to be launched next summer. The Americans said no, they weren't going to do it, and I was just wondering if they had changed their minds.

Mr. John Banigan: Are you referring to the RADARSAT?

Mr. Robert Bertrand: Yes.

Mr. John Banigan: I'm not up to date on that, but I can enquire and get back to you through the clerk, if I may.

Mr. Robert Bertrand: Thank you.

The Chairman: Mr. Hanger, you had another question.

• 1055

Mr. Art Hanger: Yes. Is the government's IRB policy bad for industry in the long run?

Mr. John Banigan: I don't believe so, sir. The companies that have received contracts from offshore primes have benefited from the policy. They frequently go into long-term business relationships with these firms. The foreign primes often say they're pleased that they've been exposed to these new suppliers, and they often have long-term supply arrangements with them.

One of the reasons we don't specify what region you should locate in or who you should deal with is to leave it up to the parties to negotiate the best business arrangements.

I think the program over its years has been beneficial to Canadian industry overall.

Mr. Art Hanger: What then are we going to do in Canada to make us more competitive? Thousands, tens of thousands, of highly qualified people are leaving this country to go south of the border, and they're employing themselves in some very unique positions in the United States, the aerospace industry being one. Yet when it comes to seeking some employment here or being able to utilize their skills, they don't find it in our industry, because in a way it's a closed shop. It certainly isn't open to playing a more expanding role in the industrial sector.

So I'm wondering what's going to happen even to our aerospace industry, for instance, when you see it being manipulated, if you will, by a few of the large players. The expansion that the Americans are experiencing south of the border is not really taking place up here to the same degree.

Mr. John Banigan: I believe we have a healthy aerospace and defence sector with some world-class companies, some of which are large companies and some of which are small companies. I can give you some additional background if you wish, but in my opinion, a number of Canadian companies are best in the class in the aerospace and defence sector. Many of them dominate the market segments they're in.

The Chairman: Does that include General Motors Diesel in London, Ontario?

Mr. John Banigan: Yes, that would be a good example.

The Chairman: I have to take Mr. Hanger to that plant, I tell you.

Voices: Oh, oh!

Mr. John Banigan: That would be one example of many Canadian companies that are world leaders in their field.

The data shows that the Canadian aerospace and defence sector is growing more rapidly than it is in the United States, and that's partly because we have a number of very successful firms. So if you would be interested, I could provide you with some general information on the performance and structure of our industry.

Mr. Art Hanger: I would be interested.

Mr. John Banigan: Shall I give that to the clerk?

The Chairman: Yes, that would be very useful.

Mr. Robert Bertrand: That's in today's Globe and Mail, as a matter of fact. I'll read it, if I may. Mr. Peter Smith, president of the Aerospace Industries Association of Canada, said Canada now has the world's fourth-largest aerospace sector, and “this is in no small part due to the success of Bombardier.”

The Chairman: We're just about out of time. If I just might end on this note—and I'm always giving a commercial, because that firm is in my riding—as these gentlemen know, they export. The American Marines have bought their vehicles, I think the Australians have bought their vehicles, the Saudis have bought their vehicles, and obviously the Canadian Forces have bought their vehicles. We really make some of the very best equipment in this country. So, as well as recognizing the very real concerns that members are raising, we ought to remember the success stories too.

Gentlemen, I want to thank both of you very much for attending this committee today. You've shed a lot of important light on the situation for us. We have requested some more information on about three occasions, and we'll look forward to receiving that. Thank you for helping us out here today.

The meeting is adjourned. The committee will reconvene on Tuesday at 3.30 p.m. Thank you.