India’s defence needs FDI

Last Friday, the Ministry of Defence took yet another step to signal that it is serious about turning around the pathetic state of India’s defence industry. It did so by requesting proposals from eight foreign vendors for 56 medium transport aircraft to replace the Indian Air Force’s ageing fleet of HS 748 Avros. What is striking about the deal is not its value of around Rs 28,000 crore, but the fact that the ministry has deliberately kept the state-owned Hindustan Aeronautics Ltd away from the competition. The deal involves off-the-shelf purchase of 16 aircraft with the balance to be made in a facility in India established by the foreign vendor and an Indian private sector partner of its choice. 

Private sector involvement

This is the first time in recent decades that the government has consciously chosen to open up a military industrial contract to the private sector and it comes hard on the heels of the Ministry’s April 20 amendation to its defence procurement procedure (DPP). Yet, these are only tiny steps in the right direction. What we need are giant strides that will ensure that the next cycle of modernisation too — it will begin roughly in the mid-2020s — is not based overwhelmingly on imports.

“Tweaking” procedures, as the MoD is now doing, is not going to achieve this. It will take nothing less than a drastic makeover, involving a transformation of the management of the ministry, as well as dismantling some parts of the military-industrial setup, to make way for more efficacious alternatives.

In the mid-1990s, a committee headed by A.P.J. Abdul Kalam said it would increase the indigenous content of weaponry from 30 to 70 per cent by 2005. But in 2013, we are still importing 70 per cent. We are manufacturing high-end products like the SU 30 MKI fighters, Brahmos missiles and Scorpene subs, but these are licence productions of foreign designed weapons, and even here we know that key assemblies will be imported till the very end of the programme.

While other sectors of the manufacturing industry in the country, notably automobiles, have become world class sectors, the record of our government-run arms industry which employs 1.5 million people, remains one of failure and disappointment. In 1991, the Arun Singh Committee on Defence Expenditure was the first to point out the obsolescence of the ordnance factories and recommended the shutting down of five and letting the private sector handle items like clothing. Instead of shutting down, they are flourishing, including the premier Vehicle Factory Jabalpur which simply assembles Ashok Leyland Stallion and Tata LPTA 713 trucks.

The performance of the Ordnance factories and Defence Public Sector Units (DPSUs) has been, to use a polite word, below par. According to a report of the Boston Consulting Group, the annual output per employee in the Ordnance Factories and the DPSU is of the order of Rs 15.4 lakh while the average across the manufacturing sector is Rs 30.40 lakh. The parliamentary Defence Service Estimates of 2012-13 show that despite this, Rs 556 crore had been allotted for overtime pay in the Ordnance factories’ budget.

Loot of the exchequer

Just how we have short-changed our defence capabilities and allowed DPSUs to loot the exchequer is brought out by two figures. One reveals that build times for indigenous warships are unconscionably long. The Delhi class (6,500 tonnes) took 114 months to be built while equivalent ships take 29-30 months in the U.S. and Japan. Delhi, the first in its class, may have involved a learning curve, but sadly, the follow on Mysore and Mumbai also took 117 and 106 months. The Shivalik class which were contracted for 60 months took 112 months.

Another metric emerges from the fact that Indian-made Sukhoi 30 MKI costs Rs 80 crore per unit more than those imported from Russia. The fact we are tying up to design the fifth generation fighter with the Russians indicates that there was little or no learning process involved in the indigenous manufacture of the Su-30 by the HAL.

In the past one year, we have seen two other aspects of the problem. A CBI probe has shown how the management of the Bharat Earth Movers Ltd (BEML) undermined the 1986 agreement with Tatra of the erstwhile Czechoslovakia for the supply of its T815 trucks. But instead of a projected 85 per cent indigenisation by 1991, we were left below 50 per cent in 2012.

Evidence suggests that our DPSU managers have actually been going out of their way to serve the interests of the foreign “partner,” rather than the PSU they head. This is not a disease confined to BEML alone; almost all DPSUs suffer from it.

The roots of this could well lie in that other problem which was revealed by the second major scandal, relating to the import of 12 VVIP helicopters — corruption. The VVIP helicopter deal suggested that not a single major defence purchase arrangement had escaped corruption, excluding, perhaps, the US FMS arrangements.

The formal thrust of the DPP has been incorporated in the “Buy”, “Buy and Make” and “Make” acquisition strategies. As outlined by the DPP 2011, “Buy” would mean an outright purchase of equipment and could be “Buy (Indian)” or “Buy” (Global)’. “Indian” would mean Indian vendors only and “Global” would mean foreign as well as Indian vendors. “Buy” Indian’ must have minimum 30 per cent indigenous content if the systems are being integrated by an Indian vendor.

“Buy & Make” would mean purchase from a foreign vendor followed by licensed production/indigenous manufacture in the country. “Buy & Make (Indian)” would mean purchase from an Indian vendor including an Indian company forming joint venture/establishing production arrangement with an original equipment manufacturer (OEM) followed by licensed production in the country. “Buy & Make (Indian)” must have minimum 50 per cent indigenous content on a cost basis.

“Make” would include high technology complex systems to be designed, developed and produced indigenously. Note that the budget outlay for the “make” category which was Rs 89 crore last year has been cut to just Rs 1 crore in this year’s budget.

An incentive

Included in this is the policy of direct offsets of 30-50 per cent for any arms imports above a certain amount to promote the import of foreign technology. Expectations that this will bring high-tech into the country have been belied. No country parts with its core high technology. But what we can do, by taking bold steps like permitting 100 per cent FDI in defence industry, is to incentivise them to set up plants in India. This way you can ensure that key technology will not be denied to you at a crucial time, and Indian vendors would have the opportunity to get into the global supply chains of high-tech companies.

The new steps taken by the MoD indicate that it is reluctantly moving in the right direction, but as of now it remains much too protective towards the government military industrial complex which has failed us so badly.

The DPP changes have reordered the priorities for acquisition by making “Buy (Indian)” the number one option followed by “Buy and Make” (Indian), “Make” and so on. But by refusing to touch FDI rules, they will ensure that this policy will remain unworkable.

The time has come to bluntly acknowledge that the continuing dysfunctionality of our defence research and development setup, our public sector defence industry and our purchase procedures, have resulted from its higher management by the Ministry of Defence. In all fairness, it is too much to expect the babus of the MoD to initiate a revolutionary change in their departments. This is the job of the political leadership. Lamentably, however, it has failed repeatedly to provide the kind of leadership that would give this country a vibrant defence industrial sector.

(The writer was a member of the National Security Task Force set up by the government in 2011 to propose reforms in the national security setup)

The Hindu May 14, 2013