Relook at the Policy

Its time for a paradigm change of approach in defence offsets

By

Maj.

Gen.

Mrinal

Suman

(retd)

Although India entered the complex world of defence offsets only seven

years ago, it has travelled a long distance and offsets have become an essential
part of all high value defence deals. Although ministry of defence (MoD) prefers to
keep all offset activities concealed from public scrutiny, it is estimated that India
has signed offset contracts worth Rs 22,000 crore. However, it is still a mystery if
any offset contract has been successfully implemented with anticipated benefits.
Indias defence offset policy has matured through a process of evolution. Initially
announced in 2005, the policy was more of a counter-trade arrangement, designed
primarily to promote exports from the public sector. The policy was revised in 2006
to include any private defence industry manufacturing these products or
components under an industrial licence granted for such manufacture. It also
allowed Foreign Direct Investment (FDI) in Indian defence industry and defence
R&D. Subsequently, the mandatory requirement of an industrial licence for private
companies
was
removed
in
2008.
The last revision of the policy was carried out in January 2011 as a part of the
Defence Procurement Procedure (DPP). The latest policy directive, called Defence
Offset Guidelines (DOG), has been made effective from 1 August 2012. The
directive contains two major changes objectives of the defence offset policy have
since been spelt out and Transfer of Technology (ToT) has been accepted as an
eligible
avenue
for
discharging
offset
obligations.
Salient
Aspects
of
the
Policy
As per the Indian policy, all import deals with an indicative value of more than Rs
300 crore carry an offset obligation equal to 30 per cent of the contract value.
Offset percentage can be changed or waived by the Defence Acquisition Council
(DAC). Offset obligations can be discharged within a timeframe that can extend
beyond the period of the main contract, but within two years of the main deal being
implemented.
Foreign vendors can choose their Indian partners and discharge their offset
obligations through any one or a combination of the seven specified methods.
They include direct purchase of, or executing export orders for, eligible products
manufactured by, or services provided by Indian enterprises; FDI in joint ventures
with Indian enterprises (equity investment) for the manufacture and/or
maintenance of eligible products and the provision of eligible services; investment
in kind in terms of ToT to Indian enterprises for the manufacture and/or
maintenance of eligible products and provision of eligible services; investment in
kind in Indian enterprises in terms of provision of equipment through the nonequity route for the manufacture and/or maintenance of eligible products and

provision of eligible services; provision of equipment and/or ToT to government

entities engaged in the manufacture and/or maintenance of eligible products and
provision of eligible services, including the Defence Research and Development
Organisation (DRDO); and technology acquisition by DRDO in areas of high
technology.
Products eligible for discharge of offsets relate to defence, internal security and
civil aerospace. Services mean maintenance, overhaul, upgradation, life
extension, engineering, design, testing of eligible products and related software or
quality assurance services with reference to the indicated eligible products and
training. Training may include training services and training equipment but
excludes
civil
infrastructure.
An
Appraisal
of
the
Current
Dispensation
Although the offset regime continues to be highly obscure, two audit reports
submitted by the Comptroller and Auditor General of India (CAG) provide a rare
glimpse of its imperfections and absurdities. The first report covers a review of 16
offset contracts worth Rs 18,444.56 crore (Report No 17 of 2012-13). According to
the contracts, India should have received offset inflows of Rs 5543.33 crore at the
time of compilation of the said report. Actual gains have neither been collated nor
revealed. The second report relates to the acquisition of helicopters for VVIPs
(Report
No
10
of
2013).
Both the reports are alarming in nature, to say the least. They reveal that Indias
offset regime is in a total mess. Policy provisions are being flouted with impunity.
Unauthorised programmes have been accepted against offset obligations. In some
cases, foreign vendors have been allowed to claim credit against outlandish
activities like expenditure incurred on the conduct of seminars in India. Offset
credits have been granted against the supply of simulators, despite specific
instructions
to
the
contrary.
Bizarrely, ineligible Indian companies with more than 26 per cent foreign holding
have been accepted as Indian Offset Partners, thereby making a mockery of the
concept of offsets since most benefits flowed back to the foreign holders. As MoD
has no mechanism in place to monitor offset programmes, it is being forced to
accept the progress reports submitted by the vendors. In short, the foreign vendors
are
calling
the
shots
and
MoD
is
helplessly
acquiescing.
The success of any offset programme primarily depends on its proper selection,
detailed planning, close supervision and regular monitoring. India has failed in all
respects. CAG reports reveal that there has been no value addition in India due to
the flawed policy and faulty implementation. As offsets do not come for free and
carry cost penalty, India has suffered considerable financial outflow without
commensurate
benefits.
Need
to
Exercise
Caution
As is apparent from the CAG reports, the current offset policy suffers from major
infirmities. Guidelines for the ToT are far too complex and lack clarity, thereby

lending themselves to multiple interpretations. Procedure for the selection of high

technology for receipt by DRDO is too convoluted to succeed. The concept of
multipliers has been rendered ineffective and purposeless by making it usagebased rather than linking it with the level of technology on offer. Finally, instead of
having a single authority with decision-making powers to oversee all facets of
offset activities, India has chosen to have two agencies the Acquisition Wing and
the newly created Defence Offset Management Wing. It is a sure recipe for
bureaucratic
turf
battle.
It is time India carries out a paradigm shift in its fundamental approach towards
offsets. To start with, offsets should not be mandatory for all major deals. It should
be based on case-by-case decisions of DAC. Need and desirability of seeking
offsets should be debated at length while categorising a procurement proposal.
Offsets should be demanded only when the envisaged benefits justify the likely
cost-penalty.
Offset programmes must always be in consonance with national priorities and
should fill an important technological/economic void. As relevance of offset
programmes is of critical importance, the choice cannot be left to the discretion of
vendors who will invariably opt for the cheapest and the easiest routes. Therefore,
DAC must decide detailed contours and scope of offsets that the vendors should
offer. Request for Proposal (RFP) must contain these details upfront.
As recommended by Transparency International, vendors should be asked to
submit two commercial quotes in two separate sealed envelopes duly marked
one with the stipulated offset package and the other without any offset obligations.
Such an approach will force vendors to reveal the true offset cost being charged by
them,
thereby
facilitating
value-for-money
evaluation.
Commercial evaluation of the technically acceptable vendors should be done by
opening commercial quotes without offset packages. It implies that offset packages
should not influence determination of the lowest bidder. Once the lowest bidder is
identified, his offset quote should be opened for a reality check to ascertain
whether seeking specified offsets makes economic sense or not. In case it is felt
that the indicated cost-penalty does not justify the advantages likely to accrue from
the
offsets,
the
requirement
of
offsets
should
be
dropped.
The
Way
Forward
The current euphoria about the benefits accruing from offsets is highly misplaced.
India will do well to pay heed to the caution sounded by Transparency International
that offsets are very prone to corruption. Indian defence procurement regime is
already mired in controversies, contract for the purchase of helicopters for VVIPs
being the latest imbroglio. CAG has faulted the contract for non-compliance with
the provisions of DPP. Worse, work completed prior to the award of the helicopter
contract
was
allowed
against
offset
obligations.
Offsets are certainly a highly potent tool in the hands of assiduous experts but
become an imprudent activity when handled in an amateurish manner.

Inappropriately selected, poorly implemented and casually monitored programmes

invariably prove to be wasteful. More worrisomely, they hold the ominous potential
of getting embroiled in allegations of corrupt practices, thereby derailing planned
modernisation of the armed forces. It is a harsh reality that many nations have
learnt at a great cost. Therefore, India must revisit the complete policy, lest it
proves detrimental to national security imperative.
http://www.forceindia.net/DefExpo2014_RelookatthePolicy.aspx

14 Sep. 14

IDSA COMMENT
Defence Offset Guidelines: Time to Correct the Imbalance

Laxman K Behera
July 24, 2013
On 23 May 2013, the Ministry of Defence (MoD) issued an Office Memorandum
(OM), keeping in abeyance of services related provisions from offset guidelines, the
latest revised version of which was issued less than a year ago in August 2012. The
abeyance of all services, effective from the date of issue of the OM, is applicable to
all tenders or Request for Proposals (RFPs) issued after the notification of the OM,
and also those tenders issued earlier but the commercial and technical bids are yet
to be submitted. The MoDs action has created a debate among various
stakeholders, particularly the Indian IT and software- related companies which see a
loss of business to the tune of $10 billion as consequence of the OM. More
importantly, the OM has opened up a new challenge for the MoD in articulating a
revised offset policy that would take into account the current gaps in the offset
guidelines while satisfying the services sector a key stakeholder in Indian defence
industry and a vital partner from the offsets point of view.
The OM comes in the wake of controversies surrounding the purchase of 12 VVIP
Agusta Westland helicopters, in which allegations were made that bribes were paid
through bogus software companies which merely worked as front organisations on
behalf of middlemen and foreign companies. While the OM is an attempt to prevent

such malpractices, it has in the process banned the entire services sector from doing
offset business. This is evident from its annexure, which has gone into every
possible minute details in identifying and suspending all such paragraphs in the
Defence Offset Guidelines of 2012 (DOG 2012), where the term services surfaces.
Consequently, the term Services which broadly cover a range of activities including
software development; software and computer based training modules;
maintenance, repair and overhaul (MRO); engineering, designing and testing; quality
assurance; and training has now become history till the time new orders are issued.
Interestingly, in addition to suspending the complete list of services which appear as
the fourth category in the List of the Products and Services Eligible for Discharge of
Offset Obligations, the annexure has also suspended services-related activities in
other paragraphs, including the ones which had been included for the first time in the
DOG 2012. Two such paragraphs relate to vessels of war, special naval systems,
equipment and accessories and Micro, Small and Medium Enterprises. Any
services related to the above two now stand suspended.
Since the OM talks of its validity till such time that further instructions are issued,
one would assume that no sooner than later a revised guideline would be issued by
the MoD. It is also assumed that the new guidelines would take into account the
current gap in the offset policy which is biased in favour of the services sector. In
comparison to the defence manufacturing sector which is subject to compulsory
industrial licensing and where strict value addition principle is applicable (the latter
being made more stringent in Defence Procurement Procedure 2013), the services
sector is exempted from such conditions. The services sector also gets further
incentivised by the defence FDI policy which (after the 16 July 2013 meeting chaired
by the Prime Minister) allows more than 26 per cent foreign equity in defence
manufacturing sector on a case by case basis to be decided by the Cabinet
Committee on Security (CCS), Indias highest decision making body on security
matters. The CCS decision is to be influenced by the FDI proposals credibility in
bringing in yet to be defined modern and state of the art technology to India. In
comparison, the services sector can attract upto 100 per cent FDI without any
governmental watch or regulation.
The above imbalance has led to a flurry of offset inflows into the services sector
which has in fact become the most preferred area for the foreign companies to
choose Indian Offset Partners (IOPs) from, for the discharge of their offset
obligations. This has, however, not necessarily led to capability enhancement of the
Indian services sector, particularly the companies in the IT and IT enabled Services
(IT-ITeS) industry which have already reached a certain level of maturity and
international reckoning. Moreover as the VVIP helicopter procurement case shows,
the sector is at times vulnerable to malpractice since the government has no
wherewithal to see how much real work is being done in India and by the Indian
companies.
The crucial challenge for the MoD is now to limit the flow of offsets into the services
sector and ensure that value addition takes place in India. On the aspects of limiting
offset flows into the services sector it would be ideal for the MoD to stipulate a
maximum percentage of offsets that can go into the services sector. This would not
only limit the scope for malpractice, but would provide a fillip to the manufacturing
sector which constitutes the core of defence industrial base.

On the aspect of value addition by the services sector, the MoD has a real challenge
on hand as the services by nature are intangible. The silver lining is that the National
Association of Software and Services Companies (NASSCOM), an industry
association, has come forward in devising a method by which the intangibles can be
measured. The MoD now needs to work with the NASSCOM and other industry
players to establish a mechanism and issue the revised guidelines that would thwart
bogus companies from doing business in defence.
Last but not the least the MoD also needs to seriously think about the background
checking of Indian Offset Partner (IOP). Presently the foreign companies have the
complete discretion in choosing the IOPs, with virtually no background checking by
the MoD. It is quite surprising that the Defence Offset Management Wing (DOMW)
which has otherwise a wider mandate relating offset guidelines and all matters
relating to post-offset contract management does not have the authority to ensure
genuiness of the IOPs. A little background checking by way of examining the IOPs
annual reports, balance sheet and all such necessary documents would however
trigger a fear among the foreign companies who would be more cautious in
partnering with bogus companies.
http://www.idsa.in/idsacomments/DefenceOffsetGuidelines_lkbehera_240713.html
14 Sep. 14

India has emerged as a large net importer of arms over the past decade. The year
2001 saw an opening up the defence sector to private players and allowing up to 26
per cent foreign direct investment.
India has emerged as a large net importer of arms over the past decade. The year
2001 saw an opening up the defence sector to private players and allowing up to 26
per cent foreign direct investment. In 2006, the first formal Defence Procurement
Policy (DPP) was put in place. The key objective of the defence offset guidelines
was to leverage capital acquisitions to develop the defence industry, improve
defence research and encourage development of synergistic sectors like civil
aerospace and internal security. The guidelines were last revised in August 2012
and
the
latest
DPP-2013
came
into
effect
on
June
1.
Some form of barter system has existed for centuries, but the US was the first to
coin the term offsets as an inducement to sell arms to underdeveloped friendly
countries, and in return, either purchased goods or made local investments. The
ground position today is that the major arms sellers of the world such as US, UK,
France and Germany label such regulations as protectionist, and are not in favour of
defence offsets. On the other hand, most countries have high defence offsets
regulations. China has no formal offsets policy. Australia does not accept indirect
(civilian) offsets, unless they bring benefits to the countrys defence industry.
In India, all contracts above $65 million require 30 per cent of offset. Indian firms
and joint ventures are exempted from offset obligations provided the indigenous
content is over 50 per cent. India also accepts subcontracting in outsourced
services, such as engineering and defence software. Clearly, Indian offsets
requirements
are
not
unreasonably
stringent.
Nearly 122 open defence offset contracts signed around the world between 1997
and 2010 have only partially been executed due to various issues. It is clear that
offset management is very complex, as has to be managed to the satisfaction of two
parties. The US, being one of the largest exporters of high technology weapons, has
been
vocally
moderating
offset
policies
around
the
world.
Offsets are a powerful marketing tool to motivate a purchase. Major defence
contractors are conscious of the psychological power of offsets in democracies.
What constitutes a legitimate offset, are questions still searching for answers. The
physical valuation of offsets is complex. Value of parts locally sourced could be
straight-forward, but cost of transfer of technology (ToT) and helping set up industrial
base could be vague. Co-production and subcontracts are the best forms of direct
offsets.
Offset/industrial partnership management organisations have emerged. Offset India
Solutions (OIS), an Indian company, extends a partnering approach to provide
customised expertise to international companies for fulfilling their offset obligations
throughout its lifecycle. Offsets management itself has, thus, become an industry.
The new offset guidelines promote investment in micro, small and medium
enterprises (MSMEs) by applying a multiplier factor of 3.0 to the offset calculations.
It also facilitates technology acquisition from a select list, by the defence research

and development organisation (DRDO). The offset discharge banking period is

extended to seven years. Period of execution of offset contracts is now allowed up
to two years beyond the period of main procurement contract.
Indian defence manufacturing industries capability to absorb offsets is still evolving.
To achieve high indigenous content in high technology products is not easy. At
present, the exclusion of services for purposes of value addition in India is a
dampener. All this results in complex extended negotiations. One would recall the
long time that Indian agencies and French aerospace company Dassault had to iron
out offset issues during the MMRCA negotiations. One recent successful offsets
management case is that of Pilatus Aircraft, Switzerland, setting up an electrical
harness manufacturing capability, along with Bharat Electronics (BEL) in Bangalore.
The electrical harnesses manufactured by BEL would be for the Pilatus global
supply chain. The contract which includes an integrated ground based training
system, and a comprehensive logistics support package, covers the 30 per cent
offset obligation. Pilatus Aircraft entered into a contract with the Indian government
last year for the supply of 75 PC-7 Mk II turboprop basic trainer aircraft for the IAF.
The companies that want to build long-term defence relations with an emerging
power like India would find good offsets solutions. A Financial Times study projects
15,000 defence contracts in the decade ending 2022, with offset obligations of $100
billion. Top five US defence contractors Boeing, General Dynamics, Lockheed
Martin, Northrop-Grumman, and Raytheon would be saddled with $ 42 billion of the
obligations. Even as Indo-US defence trade reach new highs, offsets and defence
FDI policies continue to act as roadblocks. Notwithstanding, US president Barack
Obama reaffirmed during his recent meeting with prime minister Manmohan Singh
that the US would grant India the same privileges reserved for its closest allies in
respect of transfer of defence technology, co-production and co-development.
US sales of military equipment to India have grown from zero in 2008 to around $9
billion in 2013. Projects worth tens of billions are in the pipeline. Indias expectation
combined with a 26 per cent cap on FDI in the defence sector limits the interest of
American firms to fulfill Indian requests for high-technology defence items. Defence
contractors are not only worried about intellectual property rights or the technology
moving to unintended sources, but also about some of the recipients developing
technologies and later becoming competitors at their expense. India has a
significant manufacturing industrial base. It has, under licence, produced thousands
of aircraft over five decades. It has a very successful space programme. Therefore,
it should not be difficult to find local offset partners. Pilatus has recently set a good
example for others to follow.

http://www.defencenews.in/defence-news-internal.aspx?id=jeKqtUMFhVs= 14 Sep.
14

Defence offsets in India: the way forward

By Anil Chopra Dec 01 2013
Tags: Op-ed

Bloomberg
BIG BUY A file photo of the Russian-made fighter jet Sukhoi 30 during an Aero India
airshow in Bangalore
India has emerged as a large net importer of arms over the past decade. The year
2001 saw an opening up the defence sector to private players and allowing up to 26
per cent foreign direct investment. In 2006, the first formal Defence Procurement
Policy (DPP) was put in place. The key objective of the defence offset guidelines was
to leverage capital acquisitions to develop the defence industry, improve defence
research and encourage development of synergistic sectors like civil aerospace and
internal security. The guidelines were last revised in August 2012 and the latest DPP2013
came
into
effect
on
June
1.
Some form of barter system has existed for centuries, but the US was the first to coin
the term offsets as an inducement to sell arms to underdeveloped friendly countries,
and in return, either purchased goods or made local investments. The ground
position today is that the major arms sellers of the world such as US, UK, France
and Germany label such regulations as protectionist, and are not in favour of
defence offsets. On the other hand, most countries have high defence offsets
regulations. China has no formal offsets policy. Australia does not accept indirect
(civilian) offsets, unless they bring benefits to the countrys defence industry.
In India, all contracts above $65 million require 30 per cent of offset. Indian firms and
joint ventures are exempted from offset obligations provided the indigenous content
is over 50 per cent. India also accepts subcontracting in outsourced services, such
as engineering and defence software. Clearly, Indian offsets requirements are not
unreasonably
stringent.
Nearly 122 open defence offset contracts signed around the world between 1997
and 2010 have only partially been executed due to various issues. It is clear that
offset management is very complex, as has to be managed to the satisfaction of two
parties. The US, being one of the largest exporters of high technology weapons, has
been
vocally
moderating
offset
policies
around
the
world.
Offsets are a powerful marketing tool to motivate a purchase. Major defence

contractors are conscious of the psychological power of offsets in democracies.

What constitutes a legitimate offset, are questions still searching for answers. The
physical valuation of offsets is complex. Value of parts locally sourced could be
straight-forward, but cost of transfer of technology (ToT) and helping set up industrial
base could be vague. Co-production and subcontracts are the best forms of direct
offsets.
Offset/industrial partnership management organisations have emerged. Offset India
Solutions (OIS), an Indian company, extends a partnering approach to provide
customised expertise to international companies for fulfilling their offset obligations
throughout its lifecycle. Offsets management itself has, thus, become an industry.
The new offset guidelines promote investment in micro, small and medium
enterprises (MSMEs) by applying a multiplier factor of 3.0 to the offset calculations. It
also facilitates technology acquisition from a select list, by the defence research and
development organisation (DRDO). The offset discharge banking period is extended
to seven years. Period of execution of offset contracts is now allowed up to two
years
beyond
the
period
of
main
procurement
contract.
Indian defence manufacturing industries capability to absorb offsets is still evolving.
To achieve high indigenous content in high technology products is not easy. At
present, the exclusion of services for purposes of value addition in India is a
dampener. All this results in complex extended negotiations. One would recall the
long time that Indian agencies and French aerospace company Dassault had to iron
out offset issues during the MMRCA negotiations. One recent successful offsets
management case is that of Pilatus Aircraft, Switzerland, setting up an electrical
harness manufacturing capability, along with Bharat Electronics (BEL) in Bangalore.
The electrical harnesses manufactured by BEL would be for the Pilatus global supply
chain. The contract which includes an integrated ground based training system, and
a comprehensive logistics support package, covers the 30 per cent offset obligation.
Pilatus Aircraft entered into a contract with the Indian government last year for the
supply of 75 PC-7 Mk II turboprop basic trainer aircraft for the IAF.
The companies that want to build long-term defence relations with an emerging
power
like
India
would
find
good
offsets
solutions.
A Financial Times study projects 15,000 defence contracts in the decade ending
2022, with offset obligations of $100 billion. Top five US defence contractors
Boeing, General Dynamics, Lockheed Martin, Northrop-Grumman, and Raytheon
would be saddled with $ 42 billion of the obligations. Even as Indo-US defence trade
reach new highs, offsets and defence FDI policies continue to act as roadblocks.
Notwithstanding, US president Barack Obama reaffirmed during his recent meeting
with prime minister Manmohan Singh that the US would grant India the same
privileges reserved for its closest allies in respect of transfer of defence technology,
co-production
and
co-development.
US sales of military equipment to India have grown from zero in 2008 to around $9
billion in 2013. Projects worth tens of billions are in the pipeline. Indias expectation

combined with a 26 per cent cap on FDI in the defence sector limits the interest of
American firms to fulfill Indian requests for high-technology defence items. Defence
contractors are not only worried about intellectual property rights or the technology
moving to unintended sources, but also about some of the recipients developing
technologies and later becoming competitors at their expense. India has a significant
manufacturing industrial base. It has, under licence, produced thousands of aircraft
over five decades. It has a very successful space programme. Therefore, it should
not be difficult to find local offset partners. Pilatus has recently set a good example
for
others
to
follow.
(Air Marshal (Retd) Anil Chopra is former head of IAFs HR and training)
http://www.mydigitalfc.com/op-ed/defence-offsets-india-way-forward-264 14 Sep. 14

The Government of India has been reiterating its commitment to achieve the muchpublicised target of procuring 70 per cent of its defence requirements from
indigenous sources by 2010. Despite its best efforts over the last two decades, India
is nowhere near that figure as yet. The Government is well aware of the emergence
of private sector as a vibrant and dynamic force, especially in information technology,
service sector and manufacturing fields. It has come to realise that self reliance
would remain a pipe dream if it continued to bank on public sector alone.
One of the objectives mentioned in the new defence procurement procedure is to
achieve self-reliance in defence equipment. But the whole procedure is silent about
the role of the private sector and no worthwhile initiatives have been proposed to
integrate its potential in Indias quest for self reliance.
In all deals where transfer of technology is negotiated, the nominated recipient is
always a DPSU, even if a private sector company is better placed in terms of
infrastructure
and
know-how
to
absorb
the
technology.

In addition to economic factors, defence industry is generally considered to be an

instrument of national sovereignty and pride. Defence industry comprises of all
industrial undertakings engaged in the production of hardware and services for use
by the defence forces. The origin of the Indian defence industry can be traced to the
establishment of Gun and Shell Factory at Cossipore in 1801. At the time of the
Independence, India had 16 Ordnance Factories, established by the British to
produce low tech items. Bharat Electronics Ltd was the first Defence Public Sector
Undertaking (DPSU) established in 1954 to manufacture electronic equipment for the
forces. Today, India has 39 Ordnance Factories and eight DPSU.
The Industrial Policy Resolution of 1956 divided industry into three parts:

Schedule A: Basic industries which are the preserve of the state, including
defence and heavy engineering.

Schedule B: Industries in which private industry was allowed to operate.

Schedule C: All other industries.
Manufacture of components, assemblies and sub-assemblies was thrown open to
the private sector in 1991. With a view to promote defence-industry partnership, the
Ministry of Defence (MoD) constituted six Joint Task Forces in collaboration with
Confederation of Indian Industry in 1998. Consequent to their recommendations, the
Government opened defence production to the private sector in January 2002. It
allowed 100 percent private equity with 26 percent Foreign Direct Investment (FDI).
It was a major policy change. Subsequently, the Department of Industrial Policy and
Promotion issued detailed guidelines for the issuance of licence for the production of
arms and ammunition.
The Kelkar Committee, constituted in 2004, made many radical recommendations.
The Government has accepted a majority of them but their implementation has
lacked earnestness and focus. The Department of Industrial Policy & Promotion
(DIPP), in consultation with Ministry of Defence, has so far issued 37 letters of intent
for the manufacture of various types of defence hardware which include armoured
and combat vehicles, radars, electronic warfare equipment, warships, submarines,
avionics, military aircraft, safety and ballistic products, armaments and ammunition.
Despite the above measures, there has been no discernible change in the ground
situation. Only a handful of Indias top companies are involved in small value
defence contracts. The private sector has to remain content with the supply of some
low-tech items to the public sector. Its supplies to DPSU and Ordnance Factories
grossed over Rs. 1200 crores and Rs. 1900 crores respectively last year. Whereas
these figures signify the contribution made by the private sector, they also highlight
the fact that the private sector continues to be merely an outsourcing base for the
public sector.
Reasons for Continued Non-Participation of the Private Sector
A number of defence-industry seminars, conferences and exhibitions have been held
in the recent years. Given decades of insulation and prejudices, this was no small
achievement. But old mindsets, complexity of procurement procedures and clout
wielded by the public sector have been acting as major deterrents to any meaningful
participation of the private sector. New aspirants, in particular, find the whole regime
to be highly forbidding.
Policy Issues
Decisions are taken by the Defence Acquisition Council to categorise a proposal as
Buy or Buy and Make or Make based on the advice given by Defence Research
and Development Organisation and the public sector. No inputs are sought from the
private sector. Its competence and potential are given no consideration.

In all deals where transfer of technology is negotiated, the nominated recipient is

always a DPSU, even if a private sector company is better placed in terms of
infrastructure and know-how to absorb the technology. A DPSU may have to
establish complete facilities ab initio, whereas a private sector company may need
only incremental technology.
Procedural Issues
The Indian public sector has got used to a position of pre-eminence. Its hold over
defence orders is total. It thrives because of its monopolistic clout and not because
of
any
displayed
excellence.

Requirements of the armed forces are not made known to the private sector
sufficiently in advance, with the result that it does not get adequate time, either to
scout for foreign tie-ups or to establish the necessary facilities. The time given for the
submission of technical and commercial proposals is grossly inadequate for a new
entrant in the field.
Parameters for the equipment to be procured are formulated with foreign equipment
in mind, after reading manufacturers brochures. Private sector is not consulted in
this process, whereas minor acceptable changes in parameters may make the Indian
equipment eligible for consideration.
As Requests for Proposals (RFP) are issued to foreign original equipment
manufacturers as well, they prefer direct bidding. They decline joint ventures with
Indian companies as it helps them to guard their technology and perpetuate their
monopoly with consequent financial gains.
All trials are carried out on No Cost No Commitment basis. Whereas foreign
vendors can incur the expenditure involved, many upcoming indigenous companies
do not possess the necessary financial strength. This acts as a major disincentive.
Functional Issues
Due to the very nature of its usage, defence equipment has to meet highly exacting
standards. There can be no failure in the face of the enemy. Regrettably, many
Indian vendors have not fully grasped the import of this requirement and find the
quality control regime to be extremely irksome.
Every producer seeks economies of scale and assured continuous orders.
Unfortunately, Indian procurement regime precludes both. RFPs are issued for onetime piecemeal quantities without indicating the envisaged total requirement over a
period of time. Additionally, no long term commitment is made regarding regular flow
of orders. This deters Indian companies from committing resources for establishing
production facilities as the venture can prove both expensive and risky.

Lack of Mutual Confidence

The Indian public sector has got used to a position of pre-eminence. Its hold over
defence orders is total. It thrives because of its monopolistic clout and not because
of any displayed excellence. It is fully aware of its weaknesses and knows that it
cannot survive an open competition with the private sector. This sense of insecurity
makes it wary of any move to facilitate the entry of the private sector and it tries all
stratagems to block it.
On the other hand, many functionaries feel that the private sector is out to make a
quick buck and lacks required perseverance. They tend to view the private sector as
traders rather than committed manufacturers who can endure the travails of long
drawn procurement procedure. According to them, anyone desirous of entering
defence industry has to be fully aware of the fact that defence orders take
inordinately long to materialise and vacillation invariably proves unproductive.
The Communication Gap
There is a total absence of an effective institutionalised interface between the MoD,
the services and the private sector for regular interaction at the policy making level.
There are a number of groups or partnership forums in place, but their utility is
limited to exchange of views only.
(a). Procurement Agencies are Unaware of Industrys Potential
Even today all major defence deals are signed with foreign producers. The public
sector continues to get bulk orders under transfer of imported technology. The
private
sector
continues
to
be
a
peripheral
participant.

The procurement agencies are extremely keen to encourage indigenous production

and limit imports to the minimum inescapable requirements. They, however, are
unaware of the capabilities and potential of different private sector companies, as the
competence of Indian companies has not been authentically catalogued as yet. They
do not know whom to invite for submission of proposals. It is much easier to acquire
details of numerous foreign producers.
There is no data bank of Indian industries available with the MoD. Requests for
Proposals (RFPs) are issued only to a few highly visible companies, while many
others lose by default. Although, the Acquisition Wing has been tasked to create the
necessary data bank, the process has hardly taken off as yet.
(b). Industry Lacks Knowledge of Defence Requirements and Procedures
On the other hand, many private sector companies have the capability to
manufacture the whole range of defence requirements but do not know whom to
approach to ascertain details. They are ignorant of the procurement agencies, their

policies and procedures. This ignorance makes them wary of dealing with the
defence.
To compound the problem, there are over 150 different defence procurement
agencies with different procedures. There is no system of centralised notification of
requirements and vendor registration. Due to this lacuna, a new entrant finds the
whole environment highly dissuasive.
The Way Forward
The present process of interaction between the Government, public sector and
private enterprises should be continued, albeit with renewed vigour and purpose. All
joint committees should be represented at the level of decision makers, so that follow
up action can be taken in a time bound manner.
Structural Reforms
A representative of the designated industry association should be a permanent
invitee to the Defence Acquisition Council, depending on the security sensitivity of
agenda points. His inputs as regards the technical prowess of the private sector will
prove invaluable while deciding whether to import technology or not. Similarly,
selected agenda points of Defence Procurement Board, Defence Production Board
and Defence Development Board should be circulated to the industry association for
advice. These steps will go a long way in integrating the private sector.
Early Interaction with Industry on Acquisition Proposals
The Acquisition Wing should indicate broad parameters of equipment under
procurement to the industry association six months prior to the issuance of RFP. The
association could circulate this information amongst the concerned companies for
their advance knowledge. This will give adequate time to the interested companies to
carry out technology scan and scout for foreign collaborations, if required.
Equipment Directorates of the Services Headquarters should seek advice of the
industry before finalising parameters. The industry, with its massive pool of
knowledge, will be able to help the authorities in getting a better understanding of the
latest technological advancements worldwide and in India with their degree of
stabilisation. Comments received from the association should compulsorily be put up
to the approving committee. In some non-critical cases, indigenous capability may
even influence the formulation of parameters.
To help the Indian companies in taking decisions regarding investment of resources,
RFP should invariably indicate the total requirement envisaged over the years. This
could be without any firm commitment as such.

Support to Indigenous Industry

There is an urgent need to have a mechanism in place to facilitate the participation
of
Indian
private
sector
in
defence
industry.

Most nations support indigenous producers by giving them purchase and price
preference. Foreign producers should be given incentives for collaborations with
Indian companies. It could even be made mandatory, as has been done by Great
Britain under its Industrial Participation policy.
Policy on grant of waivers for deviations from parameters must make a distinction
between an Indian and a foreign producer. Easier grant of waivers, albeit within
acceptable limits, to Indian companies will encourage them to commit resources
more willingly. Even commercial terms should be made more favourable to the local
vendors as the lower life-cycle cost of indigenous equipment must also be factored
in.
Presently, the payment terms are unfavourable to the Indian producers. Foreign
vendors are released full payment of their dues on submission of proof of dispatch
(against performance and warranty bonds each equivalent to 5 percent of contract
value). However, Indian companies get payment only after the issuance of inspection
note by the designated inspectors. This may take a few months, thereby increasing
the cost of the capital involved. This incongruity needs to be addressed.
Facilitation Service
There is an urgent need to have a mechanism in place to facilitate the participation
of Indian private sector in defence industry. Such a mechanism can serve twin
objectives. First, it could assist in the assessment of a companys current
technical/manufacturing prowess and its potential for the development of defence
products. A directory of credible defence manufacturers should be compiled with
details of all assessed companies. This directory should be made available to all the
defence procurement agencies to assist them to identify companies for issuance of
tenders. The directory could also help foreign producers to locate potential Indian
partners for collaboration.
Secondly, advisory service could be extended to companies as regards the
availability of opportunities for the supply of their current products to the defence.
The service could also suggest defence products which a company can manufacture
with marginal addition to its facilities. Related areas for development/diversification
could also be indicated. Thus, this service can acquaint a company with the
prevailing business opportunities and guide it as well.

Public-Private Sector Partnership

The public sector possesses excellent infrastructure, manufacturing facilities and a
highly experienced task force. It will be a waste of national resources if these assets
are duplicated by the private sector.
The Government has to realise that both public and private sectors are national
assets and harnessing of their potential is essential if India wants to achieve self
reliance
in
defence
production.

The private sector, on the other hand, can bring in latest technology, managerial
practices, marketing skills and financial management. Therefore, a well-blended
fusion of both will result in synergising of their strengths through economies of scale
and prove mutually beneficial.
A strong and fruitful relationship can be built with mutual accommodation. The public
sector should not regard private players as a persistent irritant and adopt a
confrontationist attitude towards them. Similarly, the private sector must not seek to
replace the public sector. Such an approach may be perceived by the public sector
as a threat to their primacy and existence. It may make them close their ranks and
resist all interaction with the private sector. That shall be counter-productive.
The Government has to realise that both public and private sectors are national
assets and harnessing of their potential is essential if India wants to achieve self
reliance in defence production. It should not play favourites and treat both as equal
partners in progress.
Conclusion
The then Defence Minister of India, Mr Pranab Mukherjee, in his address at New
Delhi in June 2005 had stated: The Government is committed to the development of
a vibrant and proactive defence industry in India. It should be ensured that the
available capability, infrastructure and resources including intellectual capital are
harnessed to the fullest extent as our national assets and optimally utilised in
achieving this objective. He further advocated a strong and healthy partnership
between the public and private sector for enhancing the defence capability and in
sustaining a powerful domestic industrial base for the future.
During the last three years, a serious and concerted effort has been made by the
Government to reform and streamline the entire acquisition process. The
Government has come to appreciate the potential of the private sector and wants it
to complement the efforts of the public sector. A number of praiseworthy initiatives
have been taken and policies reviewed. Yet, the results on ground have very little to
show. There has been no appreciable inflow of anticipated foreign funds.

Even today all major defence deals are signed with foreign producers. The public
sector continues to get bulk orders under transfer of imported technology. The
private sector continues to be a peripheral participant with the production of some
low-tech items and indigenisation of some components.
The present process of interaction and integration should be continued, albeit with
renewed vigour and purpose. All joint committees should be represented at the level
of decision makers so that the follow up action can be implemented in a time bound
manner. There is no point in having committees and joint task forces if their reports
are going to gather dust with no follow up action.
Technological prowess of the private sector should be given due recognition and
considered a national asset. The objective of achieving self-reliance will remain
elusive unless the private sector is duly integrated and its potential fully harnessed to
build a viable indigenous defence industrial base. The Government has to create an
environment wherein the private sector feels assured of just business opportunities,
level playing ground and fair play.
And finally, India plans to spend USD 100 billion on capital expenditure during the
7th Plan Period (2007-12). Imports account for close to 70 percent of capital
expenditure and offsets are required equal to 30 percent of import contracts. Thus,
India expects offset trade worth USD 21 billion during the next five years. Currently,
Indian defence exports amount to paltry USD 50 million annually, i.e. USD 250
million in five years. From USD 250 million to USD 21 billion, it will be a quantum
jump of enormous proportions. The public sector cannot handle it by itself. The
private sector has to be closely integrated and its potential fully harnessed for
beneficial absorption of the projected offset business.
http://www.indiandefencereview.com/spotlights/private-sector-in-defenceproduction/0/
Impact of Offset Policy on India's Military Industrial Capability - I
ByS.N. Mishra
IssueVol. 26.3July - Sept 2011 | Date : 24 Oct , 2011
The Indian Ministry of Defence introduced offset provisions in its Defence
Procurement Procedure 2005 (DPP-2005)1 for capital acquisition schemes
exceeding an estimated cost of Rs. 300 crores i.e. around $ 66 million with the fond
hope to build indigenous capability in design, development and production of critical
military hardware, systems, & components by promoting Joint Venture (JV)
arrangements, Foreign Direct Investment (FDI) inflow, skill up gradation, setting up
Manufacture Repair & Overhaul (MRO) facility, boosting export etc.
Click for IDR subscription

As part of the liberalisation process and to foster long term business/production tie
up with global companies the offset policy in DPP 2006,2 2008,3 20094 included
provision for credit banking5, delineation of defence products6 and dispensed with
the licensing requirement in Ministry of Defence (MOD).
There is an urgent need to look at our offset policy options; particularly in regard to
inclusion of technology transfer in priority areas, FDI policy in Defence and a more
effective
offset
implementation
arrangement.

DPP-20117 made a substantial leap from the earlier stipulation of direct offsets by
including dual use Civil Aerospace products and Homeland Security items8 thereby
ushering indirect offsets in a limited way. It also makes a definitive policy statement
for progressive indigenization in critical areas and ensuring level playing field for the
private sector including private shipbuilding companies.9
DPP-2011 was soon followed up with a Defence Production Policy10 document
which outlines the road map for indigenization.
This paper examines impact of offset policy during (2005-2010) on indigenous
capability build up in MIC (Military Industrial Complex) and bolstering self reliance. It
brings out how offset realisation of around $2B during (2005-2010) was mainly for
sub contractorisation of low end products and services, MRO facilities, Training &
soft skills and has not brought in the expected inflow of FDI and JV arrangements,
exports & long term business partnership in design, development and production of
high end products.
There is thus an urgent need to look at our offset policy options; particularly in regard
to inclusion of technology transfer in priority areas, FDI policy in Defence and a more
effective offset implementation arrangement.
2. Indias Military Industrial Complex
Indias military industrial complex consists of 9 DPSUs, 40 OFs, 50 DRDO labs, 140
private defence companies, 5000 SMEs (Small and Medium Enterprises) involved in
production of around 450 items.12
Product range: DPSUs & OFs
The nine DPSUs (Defence Public Sector Enterprises) are engaged in manufacture of
wide range of products like helicopter, fighters, warships, submarines, patrol vessels,
heavy vehicles and earthmovers, missiles and a variety of electronic devices, alloys
and special purpose steel.The forty ordnance factories are engaged in production of
small arms and ammunition of all the weapon systems, clothing, armoured and
transport Vehicles.14 A very high degree of self reliance has been achieved in these
areas except in the area of artillery guns of 155 mm calibre where army is still
groping to fill up the void in towed and wheeled category-thanks to Bofors imbroglio.

Value Addition
The DPSUs and OFs, largely through licence agreements since 1960s have built
substantial production capability for tanks, ICVs, Vehicles, missiles, frigates,
submarines, aircrafts and electronic devices.
The overall value addition of DPSUs hover around 37%. Midhani
exception (57%) where substantial self reliance in several critical
titanium alloys, managing steel, special steel alloys, nickel base and
super alloys and Niobium-Hafnium required by strategic sectors and
has been achieved.15

is a healthy
material like
cobalt base,
programmes

In case of OFs the value addition is substantial (85%), possibly because of the lesser
technology depth of land systems compared to fighters and frigates.
Even amongst the naval platforms, value addition in submarines is substantially less
(23%) compared to patrolling vessels (37%), because of technology depth.
The value addition of each deliverable would, depend on the depth of technology
provided and stage of technology absorption.
An overview of performance of the DPSUs and OFs is placed below:

The value of sales of DPSUs & OFs (Ordnance Factories) was of the order of
$7.7Billion during (2009-10) with Profit after Tax to Sales a healthy 13% for the
DPSUs.
DRDO: Major Programmes
The 50 Defence R&D lab(s) are engaged in progressive enhancement of self
reliance of defence systems.16
Some of the major milestones towards making the country self- reliant in the areas of
military technology are:

Prithvi (Surface to Surface missile) in the ranges of 150 km & 250 km

Agni-I (Surface to surface missile) with a range of 700km
Akash (Surface to Air) missile with 25km range

Brahmos (Supersonic cruise missile) a JV product of India & Russia

Light Combat Aircraft (LCA) Tejas
Battle field surveillance radar- Short Range, Phased Array Radars
Electronic warfare programme for Army (Samyukta) & Navy (Sangraha)
Multi barrel rocket system(Pinaka) in 37.5 km range
Hull mounted sonars HUMSA (NG)
Torpedo Advanced Light (TAL) MK-1
The value of systems/products/technologies developed by DRDO and inducted into
the services is in the range of $11B.17
Private Sector Participation:
Consequent on opening up of the defence industry
sector in May 2001, allowing Indian private sector
participation with FDI cap of 26%, a number of JVs
have mushroomed between Indian and foreign
companies.
Major private sector industries and SMEs are
actively engaged in software development,
engineering services, manufacturing & sub
assemblies, accounting for 17% of outsourcing18 to
DPSUs, OFs.

Editors Pick

US
Aerospace
Industry and India
Indias Role in the
New World Order
India as a defence
manufacturing hub

They are also associated with national & strategic programmes like LCA, MBT (Main
Battle Tank), Pinaka, Arihant, Dhanush & Brahmos.
Many of them have excellent facilities like Tatas, L&T, Pipava but significant limitation
in terms of design capability and systems integration.
The Buy & Make (Indian) option in 2009 would provide private sector a window to
TOT19 which was the exclusive preserve of DPSUs/OFs earlier.

They are now into cost effective production of fast

patrol vessels and IPVs & outcompeting defence shipyards thanks to the level
playing field provided in Ship Building Procedure.20 Even DPSUs like HAL are giving
way to the Tatas in manufacture of Aerostructures & Cabins where foreign OEMs like
Lockheed Martin & Sikorsky have shown distinct predelection for partnership with
Tatas
3. Self Reliance
A review committee headed by Dr.Kalam, the then SA to RM, with participation of all
the Services and the DPSUs, in Oct 1993 took note of uncertainties in supply of
defence systems by countries of former Soviet Union, mounting pressure of embargo
on critical technologies from developed nations and set a goal of enhancing the
indigenous content in the defence inventory from 30%(1995) to a possible 70% by
200521 in a 10 years time.
Self-Reliance Index was defined as the ratio of Indigenous Systems Procurement
Cost to Total System Procurement Cost of the year.22
Despite the impressive indigenous capability, Self Reliance Quotient has not moved
beyond 30% since 1993.
In the aerospace sector, predominant reliance on licensed manufacturing without
taking adequate steps to bolster nascent design and development capability is a
major cause,23 of our lack of indigenous capability in the fighters segment.
The most serious problem in aircraft design, development and production is the
vertical disjunction between design, development and production agencies.24
The Soviet Union brought the production agencies directly under the design bureau
with remarkable results. Tony Saich also observes that the major orgnisational
problem with S&T System has been lack of linkage across vertical structure;
particularly between research & production sectiors.25

The Defence Expenditure Review Committee (2009) accordingly makes a strong

case for drawing a self reliance road map for attaining the goal of 70% indigenisation
in a 15 20 year time frame.26
4. Gaps in Critical Areas of Technology
Self-Reliance is linked to indigenous capability to design, develop & produce critical
subsystems like Propulsion, weapon, sensors of major platforms. The areas
identified by Dr. Kalam 18 yrs back remain largely unchanged Even aerograde
material used for fuselage by fighters27 and high quality steel required by frigates,
submarines and aircraft carrier,28 our dependence on imports is around 90%. It is
sometimes alluded to lack of economies of scale29 which is indefensible as India
must have indigenous capability to produce such critical material to meet recurring
requirement for aircraft and naval platforms.

5. Budget Trends: Capital Acquisition

There has been a significant spurt in acquisition by IAF and Navy in recent years,
major acquisition contracts signed being viz. MIG 29 (upgrade) (Rs.3856 Cr.),
Medium Lift Helicopters (Rs.5600 Cr), C-130 J aircraft (Rs. 366 Crores) and
LRMRASW (Long Range Maritime Reconnaissance and Surveillance) Aircraft) for
the Navy (Rs.10684 Crores).
The trend of capital acquisition expenditure is placed below:

5. Offset Contracts (2005-2010)

The broad details of the 12 acquisition programmes & offset contracts concluded
with foreign companies is placed below:-

Continued: Impact of Offset Policy on Indias Military Industrial Capability I

TABLE-1

WORKING RESULTS
VALUE OF PRODUCTION AND SALES OF DEFENCE
PSUs (Rs in crore)
Name of 2011-12
the PSUs

2012-13

2013-14

(Provisional)
Value
of Value
Production Sales

of Value
of Value
Production Sales

of Value
of Value
Production Sales

of

HAL

12693.19

14204.21

14201.82

14324.00

15296.00

15180.00

BEL

5793.58

5703.63

6290.00

6012.00

6140.00

6180.00

BEML

4077.19

3648.37

3359.70

3289.77

3201.32

3254.81

MDL

2523.69

2262.87

2290.64

2404.69

2709.00

112.00

GRSE

1293.80

546.33

1529.37

464.34

1550.83

1550.83

GSL

676.40

269.70

506.62

844.13

512.24

1095.89

BDL

992.94

959.12

1177.00

1074.71

1793.43

1829.86

MIDHANI

496.00

509.01

537.37

558.59

555.04

563.63

HSL

564.04

564.04

483.84

483.84

403.22

403.22

TOTAL

41501.55

41058.00

42360.36

41440.07

43395.08

41404.24

TABLE-2
Profit After Tax(Rs. in crore)
Name
of
2011-12
the PSUs

2012-13

2013-2014
(Provisional)

HAL

2539.43

2997.00

2735.00

BEL

829.90

890.00

853.00

BEML

57.25

79.87

0.00

MDL

494.31

412.72

332.50

GRSE

108.03

131.54

119.12

GSL

82.80

15.57

-35.63

BDL

234.96

288.40

308.18

MIDHANI

68.45

82.52

72.58

HSL

(-) 85.98

(-)55.17

(-)85.00

TOTAL

4329.15

4842.45

4299.75