It certainly seems questionable that DND-LON should qualify for a PSO, but the European rules on the matter are rather vague in parts so they can be bent to suit DND. Wrt to government (note UK government) policy on this, I believe this is the relevant link:
https://www.gov.uk/government/upload...y-guidance.pdf
It would seem that it is UK Gov policy is to use PSO's to maintain (but not expand) regional routes to LON where there is a danger they may be lost. Funding to back this up appears to be available from the UK Gov.
As far as objections go, I think DND is so small that it's not worth bothering about, even if there is a case to answer. I think a few Dundee taxpayers might have an issue though.........