Michael Ferguson's latest report examines the National Shipbuilding Procurement Strategy and the first few projects, which are already in the queue but still in the planning stages.
His report gives the government credit for a smooth, consultative process in establishing the framework arrangement and says oversight mechanisms are in place to protect taxpayers, but suggests the government is being rigid in aspects that could harm the navy over the long term.
"The ships haven't even been designed yet, so it is very early in the process," said Ferguson, who pointed to the current $26-billion budget to replace the country's existing frigates and destroyers.
"Based on all of the information available right now, it looks like that $26 billion will be insufficient to acquire 15 ships to replace the existing 15 ships."
The budgets for the planned frigate replacement and the Conservatives' signature Arctic patrol ship program have not been revised or increased in more than half a decade, despite rising labour and material costs.
As a result, the report says, it's unclear how many ships the strategy will produce, particularly with such cost restrictions in place — meaning the navy could be forced to reduce the fleet size below its needs.
The audit points out that in order to stay within budget, the navy has made capability trade-offs on both the Arctic patrol ships and planned replacements for military supply ships.
Ferguson says the 30-year, $34-billion strategy requires close monitoring but also budget flexibility.
"While budgets are a useful control, Canada may not get the military ships it needs if budgets are not subject to change," Ferguson wrote.
The Conservatives have tended to treat "rough estimates" as budget caps, the auditor said.
The budgets for the Arctic patrol ships and the Canadian surface combatants, meant to replace the frigates, have not been adjusted since 2007-08, and according to National Defence, "there have been significant increases in cost elements, which are impairing the affordability of the military ships."
The auditor took a swipe at the Harper government for not having a clearer defence policy, echoing critics.
"While the (Canada First Defence Strategy) did outline the expected number of navy ships and the core missions for the Canadian Forces, it did not define the specific naval capabilities required to fulfil the government's level of ambition," the report says.
"In our opinion, a gap appears to be developing between the (Canada First Defence Strategy) level of ambition, the evolving naval capabilities, and the budget. National Defence should continue to monitor the extent to which it will or will not meet the government's expectations for future military needs, and continue to report to ministers on expected capability gaps, allowing the government to make adjustments to expectations and capabilities."
Public Works Minister Diane Finley said the report was "overall, a positive assessment."
She pointed to comments by Ferguson, which described the strategy as allowing the government to acquire "military ships in a timely, affordable, efficient and transparent manner."
Her written statement contained endorsements from key industry stakeholders, and even some opposition politicians, but it did not address the specific criticisms surrounding budget and the absence of a detailed defence policy.
"It's very early in this process to identify what — if any — adjustments have to be made," she said.
But The Navy League of Canada says now is the time to have a public debate not only about budgets, but also what kind of warships Canadians want guarding coasts and participating in overseas missions.
As the auditor general points out, it all starts with a detailed defence policy, said retired vice-admiral Ron Buck.
"In the absence of this kind of review, and resulting decisions that could free up money for reallocation, the government's major policy achievements with the National Ship Procurement Strategy will undoubtedly stall, resulting in a smaller and less capable naval fleet in the future," said Buck, a former head of the navy.
Senior defence and Public Works officials said Tuesday they are committed to replacing the existing fleet on a one-for-one basis and will, as the auditor suggested, consult with cabinet ministers when budget questions arise.
The national shipbuilding strategy, signed October 2011, selected two shipyards as preferred builders for the federal government — one in Halifax for combat ships, the other in Vancouver for smaller civilian-grade vessels.
With that overall agreement signed, it is left up to federal officials to negotiate each ship-construction contract individually.
Ferguson described the overall strategy as well-executed.
"Although only a few contracts have been signed to date and it will be a few years before any ships are delivered, the National Shipbuilding Procurement Strategy shows promise," he said. "As with anything new, there are risks involved and these will need to be closely monitored on an ongoing basis."
But Ferguson did complain about how the federal government was drawn into backstopping the cost of infrastructure upgrades at the two preferred yards.
Both the Irving-owned Halifax Shipyards and Seaspan in Vancouver bid on the exclusive arrangement, saying upgrades to their facilities would be at "$0 net cost to Canada."
But after the deals were signed, they raised concerns they would be shouldering the burden without a guarantee that the federal government would build as many ships as promised.
The Irving Shipyard requires $300 million in upgrades, while the B.C. company is aiming for $200 million.
Ferguson warned the federal government could be on the hook for some of that extra cost if it doesn't order the number of ships it promised.
The intent of the strategy was to avoid the boom-and-bust cycles that have characterized shipbuilding in Canada for more than two decades.
The auditor says the strategy has secured the future of the Halifax yard for a generation because of the navy's combat needs, but Vancouver may have as few as seven years of guaranteed work.
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