Defence Offsets – dialoguing US

ByLt Gen Prakash Katoch

15 Jan , 2015

Media reports that the US is pushing for change in India’s offset policy for defence and that this issue may come up for discussion during President Obama’s upcoming visit.

The changes that the US seeks are primarily two. First, that since Indian defence firms have not yet found their roots in the global supply chain, US firms should not be penalized for delays unless a ‘willful default’ is found on their part. Second, that US companies should be able to perform offsets on behalf of the company given the contract.

Eyeing the Indian defence sector and wanting to capitalize on its opening up, the US obviously wants to extract the best possible price and benefits for US companies.

The first issue of US firms not be penalized for delays unless a ‘willful default’ is sure recipe of endless blame game that may result in delayed projects. The second issue is a matter of policy that the Indian government needs to examine. Whether in civil trade or defence sector, offsets imply are compensations that a buyer seeks from the seller for the purchase of goods and / or services.

The offset policy in defence purchases means that the seller needs to source 30 percent of the cost of any deal over Rupees 300 crore with a higher percentage involved for bigger deals though Indian firms and JVs are exempted from offset obligations provided the indigenous content is over 50 per cent.

Eyeing the Indian defence sector and wanting to capitalize on its opening up, the US obviously wants to extract the best possible price and benefits for US companies. It is in this connection that US trade representative Mike Froman was in India last month. US demands are likely to be more considering Indo-Russian projects like the FGFA may be in doldrums because of inevitable cost hikes on account of weakened Russian economy engineered through lowering of oil prices in addition to additional sanctions that US proposes to levy on Russia.

According to reports, the US is pushing for India to open its changes in the defence procurement procedure (DPP) for public comment before announcing them. This suggestion makes sense but the MoD has always resorted to only in-house tinkering on yearly basis and is unlikely to accommodate such recommendation despite Prime Minister Modi’s missive to simplify the DPP.

Axiomatically, with the FDI in defence sector being permitted even beyond 49 percent on selective basis, it is only the simplification of the DPP and making it unambiguously attractive to the private sector…

Axiomatically, with the FDI in defence sector being permitted even beyond 49 percent on selective basis, it is only the simplification of the DPP and making it unambiguously attractive to the private sector that we can hope for the defence-industrial complex to take off.

It would actually be prudent assign the review of DPP to an independent Think Tank with members from the Department of Defence Production (DoPD), DRDO, DPSUs, OF, FICCI, CII and private industry (both big and small players). It was only on February 14 last year that the Defence Offsets Management Wing (DOMW) of DoPD had issued an office memorandum notifying operationalising of a Facilitation Cell-DOMW at Central Marketing, Scope Complex, Lodhi Road, New Delhi, the objective being to enhance transparency and facilitate free and easy access to industry participants to approach the DOMW for discussion on any matter pertaining to the offset policy and speedy redress of grievances. This was a welcome step though preceded by the Defence Offset Facilitation Agency (DOFA) that was established in 2006 but had to be shut down as it could not deliver upon what was expected.

According to the new guidelines, the responsibility of defence offsets is divided between two organizations: the Defence Acquisition Council (DAC) to evaluate the offset proposals and finalize the contracts whereas the DoDP is responsible for implementation of offset contracts, including monitoring the progress of the contracts. The newly established DOMW was assigned the responsibility of offset contract management.

India’s present offset policy came into effect from August 1, 2012, incorporating many changes after a comprehensive review. The revised policy brought more clarity to the defence offset procedures while striking balance between the demands of the foreign original equipment manufacturers (OEMs) and the interests of the domestic defence industry.

Indian firms and JVs are exempted from offset obligations provided the indigenous content is over 50 per cent.

As mentioned earlier, Indian firms and JVs are exempted from offset obligations provided the indigenous content is over 50 per cent. Subcontracting in outsourced services like engineering and defence software is also accepted. These guidelines facilitate investment in micro, small and medium enterprises (MSMEs) by applying a multiplier factor of 3.0 to the offset calculations, besides technology acquisition from a select list, by the DRDO in addition to extending discharge banking to seven year and period of execution of offset contracts allowed up to two years beyond the period of main procurement contract.

However, it is significant to note that the 2012 CAG report that was tabled in Parliament had pointed out shortcomings in the offset contracts signed till mid-2012 highlighting most of the offset contracts did not completely adhere to the DPP, also questioning waivers given by MoD to certain foreign vendors in fulfilling their offset obligations.

As per a study undertaken by KPMG, defence offsets in the Indian scenario for period 2010-2020, taking into account perceived threats and a recovering economy, defence spending is set to increase substantially with existing (year 2010) offset opportunities in defence estimated at US$5 billion, expected to rise to US$12 billion over next three years and US$4-5 billion every year thereafter.

The study also brought out that greater private sector participation in defence would be in favour of Indian companies with 55 percent of offset contracts taken by the private sector, and that the Indian Aerospace Defence industry was emerging as outsourcing hub for many services like CAD, CAM and CAE, manufacturing and design engineering, testing and integration, and technical publications.

JVs underline the vast scope that defence offset have in India, their importance in bridging our voids in defence equipment and technology…

Significantly, some 18 defence offset JVs are already underway or on the anvil in India: between HAL and SNECMA of France; Lockheed Martin (USA) and Wipro Technologies; Boeing and Tata; Thales and Samtel Group (France) with an Indian company; TCS and SAAB; L&T and DRDO; Dassault Systems (DS) and Cummins Info Sys Ltd; Wipro and GE Security (USA); Taneja Aerospace and TIDCO; HAL and CAE (Canada); SAERTEX and KEM – ROC; Sikorsky and Tata Advanced Systems; Airbus, Airspace Infrastructure Ltd and Airlogic Ltd; Wipro and CAE (Canada); BEL and Surinam Armed Forces; Rolls Royce and HAL; M&M Ltd and BAE; L&T and Cassadian; Augusta Westland and Tata Sons Ltd, and: between L&T and Europe’s EAD. These ventures underline the vast scope that defence offset have in India, their importance in bridging our voids in defence equipment and technology, and as importantly the focus of foreign investors on the Indian defence market.

With Prime Minister Modi’s emphasis on ‘Make in India’, the government would surely be examining the DPP and the defence offset procedure to satisfy foreign investors including the US companies, an issue that is likely to come up during President Obama’s visit.