India is one of the major importers of defense equipment, and it depends highly on foreign suppliers to fulfil the requirements of its defense forces.
Currently, imports amount to nearly 70% of India’s total defense expenditure. While the country has been on a quest to become militarily self-reliant in producing equipment and systems that feature the indigenous “Made in India” tag, it has thus far failed to achieve strategic autonomy. A plethora of reasons have hampered the creation of a strong industrial base for the defense sector, not the least of which has been the half-hearted policies of the Indian government that have prevented private players from investing in this crucial sphere.
In a bid to significantly reduce dependence on defense imports, encourage private players, and create world-class indigenous products, India’s Defense Minister, A.K. Antony, introduced the first Defense Production Policy (DPrP) earlier this year. The policy has taken into consideration the experience of procurement agencies as well as the feedback received from both Indian and foreign defense industries. Expected to herald an era of record industrial growth in the military arena, this new policy provides ample opportunity to both the public and private sectors to manufacture products to meet Indian defense requirements. “The policy has the potential to effect a positive change on industry’s engagement and involvement in defense production,” said Satish K. Kaura, Co-Chairman of the National Defense Council for Confederation of Indian Industry (CII).
Following India’s independence, successive governments kept private players out of defense equipment production due to the strategic and sensitive nature of the sector, and from the outset it came under the purview of Indian Government. The first Industrial Policy was outlined in the Industry Policy Resolution of 1948 and henceforth, defense production was the prerogative of the public sector. The 39 Ordnance Factories (OFs), 8 Defence public sector units (PSUs) and 50 Research & Development laboratories were relied on to fulfil the demands of the defense forces. The participation of private companies was limited to sub-contractors and ancillary industry, and they were barred from entering the production arena. The country opened up its economy in the early 1990s and thanks to economic reforms, private sector started flourishing, helping to write India’s economy success story. A decade later in May of 2001, the Government of India decided to open the defense industry sector to private companies. The Ministry of Defense (MoD) allowed private sector participation of up to 100% and foreign direct investment (FDI) permissible up to 26%. Defense-related items were removed from the reserved category and transferred to licensed category. However, most of the private players preferred to stay away from the high-tech defence production sector due to the necessary high investment costs and the abysmal performance of government owned units. Some companies such as L&T, Tatas, Mahindra and Mahindra ventured into this industry, but the overall response was lacklustre.
In 2005, a committee recommended that selected private sector companies should be given permission to build major defense platforms such as tanks, aircraft and ships. A couple of years later in 2007, another committee examined over 40 private sector companies, recommending 15 of them for Raksha Udyog Ratna (RUR) status. It was reported that Tata Motors, Larsen and Toubro, Tata Power Company, Mahendra and Mahendra, Godrej and Boyce, Bharat Forge, Infosys Technologies, Wipro Technologies and Tata Consultancy Services were cleared for RUR status. Once awarded, RUR would have granted these companies a position equal to DPSUs and OFs.
However, this year in February, the MoD announced that it was scrapping this proposal, citing small private sector companies as being opposed to the granting of RUR status, since they would be ineligible for the same such status. According to a Business Standard report, “MoD sources suggest that this decision was prompted less by opposition from private sector companies and more by pressure from the DPSU trade unions, which feared job losses from business flowing to private sector companies.”
In 2005, the MoD formulated a defense offset policy to contribute to the development of the country’s domestic defence industry. The primary objective of this policy was to build India’s defense industrial base. This policy permitted foreign vendors to discharge their obligations either via the execution of defense exports of Indian items and services or via investments in India’s defense infrastructure. Moreover, in order to implement their offset obligations, they could also select Indian firms in consultation with an industry associate of their choice. Later in 2008, the MoD amended the guidelines after studying international practices. The revised policy included a list of products which would qualify for the discharge of offset obligations; removal of the requirement for private industry to obtain industrial license to participate in offset programs unless stipulated by the regulations of the Departmental of Industrial Policy and Promotion (DIPP); exemption of acquisitions under fast track from offset obligations; and more.
Under the new Defense Procurement Procedure (DPP), a number of new areas in offsets have been included in the first defense production policy. This has been done to boost defense production both in the public and private sectors. DPrP is seen as an attempt to encourage private players to set up defense business units in the country. It aims to significantly slash the need for defence exports by achieving substantive self reliance in the design, development and production of equipment, weapon systems, and platforms required for defense in as early a time frame as possible.
“The main thrust of the DPP is to bring about a change in the orientation and to ensure that most of the weapon systems and platforms required for the nation’s security are made in India,” said Raj Kumar Singh, defense production secretary, in an interview given to a publication. “Gradually, we intend to make -- or integrate -- most of the platforms here and reduce our dependence on imports.”
This new policy also aims to enhance the potential of small to medium enterprises (SMEs) in indigenisation while broadening the defense R&D base of the country. Industry analysts predict that SMES will play a key role in the defense industry and achieve the levels of vertical integration that the developed defense markets such as the US and Europe already have.
The DPrP states that preference will be given to indigenous design, development and manufacture of defense equipment. Singh said that under this policy, “the Indian government has short-listed four domestic companies to develop and manufacture next-generation infantry combat vehicles for the Indian Army.”
Foreign direct investment is still limited to 26% despite a vociferous call to hike the FDI limit and make it 49%. The cap on FDI makes this sector an unattractive proposition for foreign vendors. Last year in November, The New York Times reported that American officials believe that Indian rules limiting foreign contractors to minority stakes in joint ventures, and requirements for them to spend 30% of any contract money on work in India, are too onerous.
Industry experts note that the increase in FDI would help secure the transfer of key technologies to India, as well as boost the foreign capital investment available to them. Recently, the Department of Industrial Policy and Promotion suggested the raising of FDI cap to 74% in the defense sector, and according to reports, a group of ministers are considering the proposal to increase the FDI limit from the present 26 per cent to 49 per cent to attract more foreign investors in the country. Singh said that the “aim in limiting foreign investment to 26% is to develop defense technologies within the country, and if the FDI is hiked, foreign firms only will supply defense products to India and local firms will still be dependent on overseas suppliers.”
However, Defense Procurement Policy-2011 has opened the civil aerospace and internal security sectors to foreign defense suppliers, whereas these areas were previously off-limits for them. And in February, at the inauguration of the Aero India 2011, AK Antony said that the Indian government has appointed a committee to explore the possibility of throwing open more areas to foreign arms vendors to meet their contractual obligations.
During the period of 2010-20, foreign vendors are expected to invest over 30 billion US dollars in the Indian manufacturing industry as part of their offset obligation. American contractors have inked agreements to create joint ventures with Hindustan Aeronautics Limited (HAL), a DPSU. In the year 2007, Boeing signed a $10 billion deal with the company. For Boeing’s 777 commercial jets and for planes it’s building for the Pentagon and India, HAL is making parts. Last year in November, the first Sikorsky S-92 helicopter cabin made in India by Tata Advanced Systems was unveiled.
The Indian defense industry is still in its nascent stage. The market is highly lucrative but requires huge investment to make India self-reliant in defense production. For this to happen, transfer of critical defense technology, less bureaucratic hurdles and policy flexibility are required.