By Christine Murray and Brenda Goh
LONDON (Reuters) - Britain said it would continue exploring plans to put its 159 billion pound ($256.2 billion) military equipment programme in the hands of a private firm, even after one of the two consortiums left in the running pulled out of the competition.
U.S. engineering firm CH2M Hill, which was leading a team with Serco Group Plc and WS Atkins Plc, said on Tuesday its group had withdrawn from bidding to run Britain's Defence Equipment and Support (DE&S) unit.
CH2M Hill said the team had decided to pull out after finding its participation was not as commercially viable as it had required, but gave no further details for a move which raises fresh questions about the contracting out of state activities.
However a source close to the situation said the team's decision was unrelated to the position of Serco, whose involvement had been criticised after it was accused of fraud by the British government on separate contracts.
The government-owned, contractor-operated or "GOCO" option had already been questioned as it would make Britain the first country to outsource its negotiations with weapon suppliers such as BAE Systems and Finmeccanica.
The DE&S unit accounted for almost half of the MoD's 34.4 billion pound budget last year. Britain expects to spend 159 million pounds on military equipment between 2012 and 2022.
The competition had also faced questions over its viability after only two, rather than an expected three, consortiums expressed interest, leading the Ministry of Defence to launch a review in September into whether there was an effective competition.
"This (drop-out) is regrettable and the reduction in competitive tension will make it more challenging for the Department to conclude an acceptable deal with the remaining bidder," Defence Secretary Philip Hammond said in a statement.
Hammond said the MoD would now study a proposal from the remaining team - led by U.S. engineering group Bechtel and with PA Consulting and PricewaterhouseCoopers - with the intention of comparing it against an alternative known as "DE&S Plus".
"This analysis will inform a decision on whether it is in the public interest to proceed with only a single commercial bidder and an internal option, or whether alternative approaches should be considered and a further statement will be made once this process is complete," Hammond said.
The government had initially intended to consider the two proposals and then weigh the best against DE&S Plus next year.
The DE&S Plus option will keep the unit under government management. The government has not given much detail on what it will comprise of, but has described it as an "improvement of the status quo".
"This will clearly move the process to a faster conclusion, industry will be prepared to work with whatever the MoD decides but what it needs more than anything else is clarity," said independent defence analyst Howard Wheeldon.
"I'm not really surprised that we've come to this stage... I think we're moving faster and faster to a DE&S Plus process, in other words, I think the greater likelihood is that this process will not be privatised in the way it was originally planned," he said.
A Bechtel spokeswoman said: "We remain committed to this process and fully believe our approach to defence acquisition can transform DE&S, saving billions and enabling more of the right kit and support to be delivered at the right time for the UK's Armed Forces." ($1 = 0.6206 British pounds)
(Editing by Kate Holton and David Holmes)