Defence Procurement Policy 2011: A Work In Progress

Major (ret’d) Guneet Chaudhary

The Indian Armed Forces fought the 1962 Indo-China War with World War II era weapons systems while Chinese soldiers were equipped with the latest in automatic weaponry. Soon thereafter, India turned to the U.S.S.R. for modern weaponry. Western countries were not keen on selling weapons to India because of its close ties to the Eastern Bloc. In any event, India could not afford the more expensive western weapons.

Today, of course, India is not viewed suspiciously by the West. And as India experiences strong economic growth, its defence budget has also grown, enabling the Indian Armed Forces to procure advanced, reliable, and technologically sophisticated western weapons systems. The Government of India has increased its defence budget by 11 percent in 2011-12, to Rs 164,415 crore (nearly $36 billion), to fuel the rapid modernization of the Army, Navy, and Air Force. Last year, the defence budget increase was 4%. According to KPMG, deals worth US $24.66 billion have been signed recently by the Indian Ministry of Defence (“MoD”) with global integrators, such as Tata and the European Aeronautic Defence and Space Company (EADS), and other deals valued at US $41.99 billion are being negotiated.

There are a number of reasons why the Indian government has decided to modernize its defence capabilities. Mainly, Russia has failed to keep its promise to supply weapons systems and spare parts in a timely manner. Since the Kargil war, India has been in desperate need of a weapons system upgrade and the Indian government has decided to embark on a major defence acquisition program, aimed at adopting advanced technology. According to Retired Brigadier Gurmeet Kanwal who heads the government-funded Centre for Land Warfare Studies, “China is the real long-term challenge on the strategic horizon and India’s security planning is geared toward it.” Our oldest rival and neighbour Pakistan, which has nuclear weapons like India, is also a factor in strengthening defence planning.

The Indian Army will need to upgrade its artillery, tanks, missiles, ammunition, and other equipment. The Indian Air Force desperately needs to upgrade its ageing and obsolete fleet of MIG 21 fighter jets. It has also introduced plans to modernize its airfields with sophisticated radar and newer avionics. The Indian Navy seeks more stealth features, including an Air-Independent Propulsion (AIP) system, and land attack capabilities in new submarines. The Navy has approached French ship builders for sophisticated combat management systems for the Scorpene submarines being built in India.

The government has also moved ahead with a $10.5 billion fighter jet contract, one of the largest acquisitions in history. India aims to introduce surveillance helicopters, transport aircraft, and submarines to expand its defences in the air as well as in the Indian Ocean. India is set to place a follow-up order for three more Airborne Warning and Control Systems (“AWACS”), and is seriously considering American Gulfstream, Brazilian Embraer, and European Airbus. According to some sources, the Indian Air Force has selected the C-17 as the new heavy lift aircraft and will be placing an initial order of 10 aircraft through the US Government’s Foreign Military Sales (“FMS”) route. The MoD is considering the proposal and the first aircraft may be delivered three years after a contract is executed.

As China designs a stealth aircraft to rival the US F-22, India is gearing up to overhaul the Air Force of its Soviet era planes. The Saab JAS-39 Gripen was competing with the Boeing F/A-18 Super Hornet, Dassault Rafale, Eurofighter Typhoon, Lockheed F-16, and Russia’s MiG-35 to win a fighter jet contract, which officials say may eventually lead to the purchase of up to 200 aircraft. On 27th April 2011, the Eurofighter Typhoon and Dassault Rafale had been shortlisted for the contract. On the other hand, the Indian Navy has chosen to rely on indigenous products and has its own design bureau. India, which long focused its military planning on Pakistan, is also determined to modernize its Navy to counter China’s influence in the Indian Ocean through its “string of pearls strategy” of developing a network of friendly ports from Gwadar in Pakistan to Hambantota in Sri Lanka.

The MoD has implemented a policy aimed at reforming defense procurement in order to retool its military more effectively and efficiently. On January 6th, 2011, the MoD released the Defence Procurement Procedure (“DPP”), which supersedes DPP 2008 and DPP 2009. The objective behind continuously updating procurement procedure, as stated in DPP 2011, is to demonstrate “the highest degree of probity and public accountability, transparency in operations and impartiality as well as free competition.” The main aim of DPP 2011 is the ”expeditious procurement of the approved requirements of the armed forces in terms of capabilities sought and the time frame prescribed by optimally using the allocated budgetary resources.”

One of the major changes affects offsets, a special form of counter-trade in relation to the sale of defence equipment to the Government, where a foreign vender reinvests or undertakes specified programs with a view to compensate or assist the buyer to generate benefits to the buyer’s country’s economy. The offset obligation has been increased to 30%, making it more favourable to Indian stakeholders and industry. Under DPP 2011, internal security, civil aerospace, and training services, including flight simulators, are now included in the offset policy.

The offset policy will benefit the domestic manufacturing and aerospace sectors.

The revised pPolicy intends to expand India’s defence industrial base, encourage indigenous production and reduce imports enabled through the pPolicy’s simplified procedures. Ultimately, the offset policy aims to promote incremental changes in Indian defence manufacturing capabilities and investment in defence manufacturing, export of Indian defence equipment, and investment in defence research and development.MoD has taken into account the interests of stakeholders and has enabled Indian industry to take full benefit of the capital procurements in defence by exploitation of its offsets clause.

The government aims to set into motion a modernization program of its defence capabilities due to many reasons. Mainly, Russia has been failing in keeping its promises of timely supply of weapon systems and spare parts. Since the Kargil war, India is in desperate need for an upgrade. The Indian government needs to embark on a major defence acquisition program, aimed at adopting advanced technology. The Indian Navy and Coast Guard needs ramping up and therefore modernizing the country’s maritime forces should be primary. The Indian Army requires upgrades in its artillery, tanks, missiles, ammunitions and other such equipments. The IAF desperately needs to upgrade from the ageing and obsolete MIG 21 to introducing plans for modernized airfields with sophisticated Radars, DF and newer avionics. The Navy is looking for more stealth features, an Air-Independent Propulsion (AIP) system, and land attack capabilities in the new submarines. The AIP would help increase the submergence of submarines by 3-4 times thereby making them hidden and more lethal. The Indian Navy has approached French ship builders for such sophisticated combat management system for the Scorpene submarines being built in India.

KPMG research indicates that deals worth US$ 24.66 billion (approximately) have been signed by the Indian MoD with global integrators such as Tata and European Aeronautic Defence and Space Company (EADS) in the past number of months and another US$ 41.99 billion (approximately) deals are in the process of getting signed.

The objective behind the continuously updated procurement procedure as mentioned in the forewords of the DPP 2011 is to demonstrate “the highest degree of probity and public accountability, transparency in operations and impartiality as well as free competition.”

The scope of the defence procurement procedure has been enlarged since 1992 through amendments in 2003, 2005, 2006, 2008, 2009 and now 2011. The DPP 2011 was released in January 2011 and has been expanded to include “civil aerospace, internal security, training within the ambit of the eligible products and services for discharge of offsets obligations.” This policy is a stepping-stone for the manufacturing and the service industries as well as the IT sector. The main aim of this policy as mention in its forewords is the ”expeditious procurement of the approved requirements of the Armed Forces in terms of capabilities sought and the time frame prescribed by optimally using the allocated budgetary resources.”

The offset policy aims at promoting incremental changes in Indian defence manufacturing capabilities and investment in defence manufacturing, export of Indian defence equipment, and investment in defence research and development.

The DPP 2011 has been changed in many respects from the DPP 2008 and   has incorporated amendments from that recommended in 2009. Certain amendments issued to DPP 2008 in the year 2009 have been incorporated in DPP 2011.

One of the most significant changes introduced is with respect to Off Sets expanding its scope by permitting investment in “Civil aerospace”, “internal security” and “Training” within the ambit of eligible products and services for discharge of offset obligation.

There have also been additions in the Appendix and Annexure to DPP 2011, including amendments related to Request for Proposal (“RFP”), Transfer of Technology (“ToT”) for Maintenance Infrastructure, Technical Oversight Committee (“TOC”), Trial Evaluation, Exchange Rate Variation (“ERV”), Performance and Warranty Bond, and Fast Track Procedure, among others. The new procedure establishes a more formalized procurement process, particularly as to the contracting mechanism for the ship building industry

The introduction of a “‘Buy and Make (Indian)”’ category is a positive step to to encourage the participation of the Indian private industry in defence acquisitions. Under DPP 2011, As provided by the policy, the acquisitions fall under four categories: (i) are covered under the “‘Buy,”’ (ii)Decision, “‘Buy and Make,” (iii)’ decision, “‘Buy and Make (Indian),”’ decision and (iv) “‘Make.”’ decisions. The flow chart below describes the capital acquisition and the offset requirements:

“Buy” means an outright purchase of equipment. Based on the source of procurement, acquisition under this category is subclassified as “Buy (Indian)” or “Buy (Global).” “Indian” means Indian vendors only, and “Global” mean foreign as well as Indian vendors. “Buy Indian” must have at least 30% indigenous content if an Indian vendor is integrating the systems.

An acquisition under the “Buy & Make” category means a purchase from a foreign vendor followed by licensed production or indigenous manufacture in the country. An acquisition under the “Buy & Make (Indian)” category means a purchase from an Indian vendor, including an Indian company forming a joint venture or establishing a production arrangement with an original equipment manufacturer, followed by licensed production or indigenous manufacture in the country. “Buy & Make (Indian)” must have at least 50% indigenous content on a cost basis. An acquisition under the “Make” category includes high technology complex systems to be designed, developed, and produced indigenously.

The following flow chart describes the capital acquisition and offset requirements under each category:

Important commercial changes have also been made under DPP 2011. For instance, the Exchange Rate Variation clause has now been made applicable to all Indian vendors when they compete with their foreign counterparts under the “Bio- Global” category.

DPP 2011 may be faulted for its failure to more effectively address institutional and human resources, which are crucial for an efficient acquisition process. An acquisition department has been set up to specifically handle capital procurements and has vital acquisition functions, such as the formulation of qualitative requirements and post-contract monitoring. The Comptroller and Auditor General of India (CAG), in a 2007 report pointed out systemic weaknesses in Army acquisitions, including inter alia, “delays” in acquisition; lack of effective coordination among the services in procurement of common items/capabilities; “major drawbacks” in the formulation of QRs; and, deficiencies in the process of technical and trial evaluations. Reiterating the Group of Minister’s (GoM’s) recommendation, the Comptroller and Auditor General of India (CAG) has suggested, “an integrated defence acquisition organization . . . incorporating all the functional elements and specialisation involved in defence acquisition under one head.” Nearly a decade has passed since the GoM made its recommendation and a few years since the CAG made its observations, yet the successive DPPs, including the 2011 version, have not adopted these recommendations. The MoD procurement budget is Rs. 43,800 Crores for 2010-2011. This is a huge amount of money requiring cautious expenditure and it is therefore important that a strong acquisition department is formed with an adequate number of professionals with the requisite knowledge in their respective fields. This issue has been ignored by the MoD. Currently, MoD is controlling every stage of the procurement procedure as can be seen in the diagram given below:

The increased categorization of procurement has led to more confusion and difficulties in evaluating a category. Also the offset guidelines in DPP-2011 do not allow the provisions of multiplier and technology transfer through the offset route. There is a probable fear of being dumped with redundant technologies because of the lack of a strong monitoring system. These shortcomings need to be overcome soon in order for the offset route to become useful.

The FDI policy also needs to be reviewed so that the “Buy and Make (Indian)” and offset policy is successfully implemented, but a change in foreign direct investment policy is outside the purview of the DPP. Also, there is clear discrimination between the public and private sectors. Therefore, it was important that DPP enunciate uniform set of guidelines for both.

There is no doubt that DPP 2011 has improved on the shortcomings of DPP 2008. Notwithstanding the positive changes, DPP 2011 falls short on several above stated accounts. Nevertheless, the new DPP enhances national procurement competence. India is currently the 10th largest defence spender in the world, with an estimated 2 percent share of global defence expenditure. Defence will remain a spending priority sector by the Indian Government because of past conflicts and continuing terrorism threats and hostile neighbouring countries.

Guneet Chaudhary is a senior partner at Jurisconsultus, and a retired Major of the Cavalry Regiment of the Indian Army.

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