Ministry of Defence Opposes Increase in FDI Limit

Ministry of Defence Opposes Increase in FDI Limit

Major General Mrinal Suman, AVSM, VSM, PhD

No issue concerning self-reliance in defence production and modernisation of the armed forces has been subjected to as intense a debate as the question of Foreign Direct Investment (FDI) in defence. As is to be expected, industrial entities have taken stands that suit their commercial interests. Whereas the Indian companies want the upper limit to be pegged at 49 percent, foreign investors demand that their holding should not be less than 51 percent. However, it is the attitude of the Ministry of Defence (MoD) that is a cause for concern. Being the main stakeholder, it should be welcoming foreign majors to establish manufacturing facilities in India. Instead, it has a taken a totally negative stand.

The current FDI policy was promulgated in 2001 with an upper limit of 26 percent. Foreign investors have given it a cold shoulder. There has been negligible inflow of funds during the last 12 years. In May 2010, with a view to encourage ‘established players in the defence industry to set up manufacturing facilities and integration of systems in India’, the Commerce Ministry proposed that the upper limit be raised to 74 percent. It was felt that a higher limit was essential to persuade foreign manufacturers to share their technological expertise. Unfortunately, the proposal had to be dropped in the face of strident opposition of MoD. 

In May 2013, the Commerce Minister initiated a fresh proposal. In order to mollify MoD, he advocated that the limit be raised to 49 percent initially, instead of 74 percent recommended by him earlier. It was a conciliatory move as he felt strongly that the cap of 26 percent was too low to attract foreign investments. 

Terming the proposal to be a ‘retrograde step’, MoD decided to stick to its earlier stand of keeping the limit at 26 percent. Defence Minister Antony felt that allowing foreign companies to set up manufacturing/assembly facilities in India would stymie the growth of indigenous design and development. 

However, to appear reasonable, Antony suggested that decision to allow higher FDI to access modern and state-of-the-art technology could be taken by the Cabinet Committee on Security (CCS) on a case to case basis. As is well known, it is a theoretical proposition and means little. Such statements have been made earlier as well – the government has been claiming that it is open to considering higher FDI in special cases. However, not a single case has been approved so far. 

The response of MoD is baffling, to say the least. On one hand, it made a paradigm shift in its approach to offsets by making infusion of technology to be the chosen engine to drive growth of the indigenous defence sector. The revised Defence Offset Policy of August 2012 allows foreign vendors to make investment in kind in terms of transfer of technology  through  joint  ventures  or  through  the  non-equity  route  for  co-production,  co-development  and  production  or  licensed  production and/or  maintenance  of eligible  products  and  provision of eligible  services.

On the other hand, MoD scoffs at obtaining technology through FDI and wants to follow the route of indigenous research and development. The reason for these diametrically opposite and mutually contradictory stances is the obsession of MoD to safeguard the interests of the public sector and the Defence Research and Development Organisation (DRDO). 

It is a matter of national shame that India has acquired the ignominious tag of being the largest importer of conventional weapons in the world. Dependence on imports is reported to be between 70 to 75 percent. As India has not allowed foreign companies to set up manufacturing facilities in India so far, they cannot be blamed for the current dismal state of the indigenous industry. 

In his letter to the Commerce Minister, Antony expressed confidence that capabilities for designing and developing weapon systems could be built up through indigenous efforts. Optimism is justified only when duly backed by the past track record. India’s well-protected defence industry has achieved little during the last 50 years. How can Antony presuppose that its performance in future would be better? Knowledgeable observers consider it to be a preposterous assumption.

Misplaced Confidence in the Public Sector 

India’s defence industry consists of 9 defence public sector undertakings and 39 ordnance factories. The private sector is a peripheral player. Public posturing notwithstanding, driven by its obsession to protect the grossly inefficient public sector, MoD wants no challenges to the contrived monopoly of the public sector – neither from the foreign companies nor from the domestic private sector. It wants the status quo to continue lest the public sector entities collapse in a competitive environment.

India has been following the route of ‘Buy and Make’ for close to five decades, wherein limited quantity is bought from a foreign vendor in fully built up condition and the bulk quantity is manufactured in India under transfer of technology provisions. In all such cases, recipient of technology is invariably a public sector entity.  Despite the fact that this route has been followed for decades for all large scale purchases, India has not gained technologically. Even Antony has admitted this fact.

‘Buy and Make’ policy suits the public sector ideally. Nomination as technology recipient means assured business for years with no riders on cost, quality and delivery schedule. No mastery of advanced technical knowledge is required to assemble equipment. Therefore, without much sweat, the public sector starts earning huge profits. There have been instances when it was felt that import of fully built up equipment would have been a lot cheaper than purchasing from a public sector entity. 

A look at the modus operandi of the public sector entities will be in order here – sub-assemblies are imported and built up products are sold to captive services at a huge profit. In the infamous case of Tatra vehicles, BEML managed to dupe MoD of millions of dollars between 1986 and 2012 by importing vehicles and selling them to the armed forces after making minor additions at an exorbitant price. 

The performance of the ordnance factories has been equally dismissal. The case of the Vehicle Factory Jabalpur (VFJ) is symptomatic of the ills that plague their functioning. In its report No 16 of 2012-13, the Comptroller and Accountant General of India has castigated VJF for gross under-utilisation of plant and machinery. It could achieve in-house manufacture of components/assemblies to the extent of only a meagre 17.46 per cent (Stallion) and 16.63 per cent (LPTA), as against the planned objective of 59.04 per cent and 51.58 per respectively. 

As foreign manufacture in India is considered a threat to the very survival of the public sector, MoD prefers that technology be purchased by the government and a public sector unit be nominated to produce the goods. It is hard to believe that MoD expects the unproductive and inept public sector to lead the growth of the defence industry in India.  

DRDO: A White Elephant

A ‘white elephant’ is an idiom for a valuable but burdensome possession which cannot be abandoned and whose cost of upkeep is out of proportion to its usefulness or worth. With a network of 52 laboratories and more than 30,000 scientific/technical employees, DRDO is white elephant that has been costing the country dear – Rs 10232 crore in 2011-12. 

While stressing the criticality of building indigenous capabilities for designing and developing weapon systems, Antony has expressed confidence that DRDO can usher in an era of technological excellence through its R&D competence. Unfortunately, the past track record belies all hopes. 

DRDO has not produced a single system to date in the promised time-frame and conforming to the required parameters. It has been thriving on false claims and tall promises. Letdowns have become synonymous with DRDO. Escalations in costs and frequent deferment of completion dates have stopped surprising the environment. 

No one was surprised when the much hyped Trishul missile defence system was converted into a technology demonstrator. DRDO scuttled the import of Weapon Locating Radars (WLR) in 1997, promising indigenous development in two years time. Over 16 years have elapsed and DRDO is yet to deliver it. Most proposals meet the same fate. The only forte of DRDO is publication of glossy brochures and replication of some imported products, under the illusory taxonomy of ‘reverse engineering’ or ‘indigenisation’.

 

The most worrisome aspect is DRDO’s reluctance to learn from the past mistakes and affect changes. Despite drawing flak from all quarters, DRDO stubbornly refuses to reform.  The Kelkar Committee in its report of 2005 had recommended that DRDO should confine itself to the projects that require sophisticated technology of strategic, complex and security sensitive nature. Regrettably, DRDO continues to delve in the fields which are remotely related to the services, thereby diverting attention and losing focus.  

Dr P Rama Rao Committee was set up in February 2007 to carry out a thorough examination of structure and functioning of DRDO. However, due to the clout enjoyed by DRDO, only those recommendations were accepted that helped it consolidate its powers further and create additional vacancies at senior levels – a proverbial bane to boon switchover.

 

One wonders as to what makes Antony feel so confident about DRDO’s capabilities to develop modern weapon systems with cutting edge technologies. 

Harnessing Potential of the Private Sector

Most surprising is Antony’s assertion that the involvement of the private sector in defence would help boost indigenous capability. MoD’s hostility towards the private sector is well-known. Every effort is made to ensure that the dominance of the public sector remains unchallenged. Since the time the defence industry was opened to the private sector in 2001, not a single major contract has been awarded to it. 

Procedure for warship building issued in 2011 exposes the true intention of MoD and is indicative of its anti-private sector bias. Shipbuilding has been divided into two sections as follows:- 

·         Section A. Acquisition of Naval and Coast Guard Ships, submarines, yard crafts and auxiliary crafts etc ‘by nomination to DPSU’.

·         Section B. Acquisition of Naval and Coast Guard Ships, submarines, yard crafts and auxiliary crafts etc ‘on competitive basis’.

It is being claimed that Section B would provide a level-playing field to the private sector. However, it is apparent that all major proposals would be decided by nomination under Section A. Even if fully loaded, no public sector shipyard is likely to decline additional orders. Thereafter, it may outsource work by offloading surplus orders on others. By pre-empting competition, MoD expects to ensure that the private shipyards never grow up to be a threat to the public sector shipyards. 

All policy directives extend privileged treatment to the public sector and the private sector continues to wait for the much-promised level playing field. After deliberately shunning the private sector and nipping its growth for so long, MoD has overnight discovered its potential to ‘build up indigenous capability’. Knowing well that the public sector does not inspire any confidence, MoD has used the ploy of the private sector to buttress its argument against the proposed hike in FDI limit. It is nearly certain that the private sector will continued to be treated shabbily in the foreseeable future. Bureaucratic mindsets do not change easily.  

Finally

As the Union Cabinet has decided to keep FDI limit unchanged at 26 percent, India cannot expect major foreign investments. The current limit is considered unattractive and dissuasive. The much-hyped provision of CCS sanctioning higher FDI caps for cases involving state-of-the-art technologies is a sham as the authority to initiate such cases lies with MoD. 

Unfortunately, the views of the services do not count at all. Having suffered the public sector and its obsolete technologies for decades, the armed forces do not mind even 100 percent foreign holding as long as the goods are manufactured in India. They consider indigenous manufacture to be far more reassuring than imports.  

Guided purely by its own perceived interests, MoD has taken a stand that is subjective in nature. Obsession to protect the turf of its protégé (public sector and DRDO) has blinkered its vision and rendered it incapable of carrying out macro analysis of the issue in an objective manner. Unfortunately, a policy matter that impacts national security concerns so very critically has got caught in a web of self-seeking interests. 

Antony’s averment that ‘allowing foreign companies to set up manufacturing/assembly facilities in India would be a retrograde step’ is an ill-conceived statement. It is by far the most dissuading signal to the prospective foreign investors. They have been told in no uncertain terms that they are not welcome to invest in the Indian defence sector. *****