Defence offsets cross Rs 8000 crores

by Ajai Shukla

Business Standard, 21st Nov 09

Since 2005, when the Ministry of Defence mandated that every foreign defence purchase above Rs 300 crores would impose on the vendor an offset liability of 30% of the contract value, global arms majors have scurried to tie up partnerships with Indian defence manufacturers.

Today, for the first time, the MoD revealed exactly how much business the defence offsets policy has generated. Satyajeet Rajan, the chief of the Defence Offsets Facilitation Agency (DOFA) revealed that, since 2007, foreign vendors have signed up for offsets worth about Rs 8000 crores.

In 2007, a mere Rs 243 crores worth of offsets were firmed up. The figure rose tenfold to Rs 2598 crores in 2008. And in 2009, DOFA has already okayed Rs 4870 crores worth of offsets and counting.

These values are of planned production; actual production has still to begin in all but a handful of offset partnerships that were tied up over the last three years.

Interestingly, 94% of all planned offsets are in the aerospace sector; the remaining 6% covers the manufacture of naval systems. Apparently the MoD’s Rs 42,000 crore tender for the purchase of 126 medium fighters has been a major driver in encouraging offsets partnerships. Most of the six vendors competing in that contract have been identifying potential partners within India’s private sector, as well as with public sector aerospace giant, HAL.

Foreign vendors are currently permitted to discharge their offset obligations in three possible ways. Defence products, purchased from India’s defence manufacturers for export are eligible for offsets credits. So too are investments in India’s defence industry. Finally, investments made in Indian R&D facilities will be counted as offsets.

So far, the investment into Indian R&D has been negligible. And in choosing Indian partners, foreign arms vendors have preferred private companies to the public sector. So far, 40% of all offsets have gone to MoD-owned entities: factories of the Ordnance Factory Board and the eight defence PSUs. 33% of the offsets have gone to large private companies and a healthy 27% have gone to small and medium sized manufacturers.

The potential value of offsets business is enormous. India currently buys foreign weaponry worth about Rs 50,000 crores annually, a figure that is rising. Taking the minimum offsets liability of 30%, about Rs 15,000 crores worth of offsets must be discharged annually. In fact, the figure is higher; the medium fighter tender specifies an offsets liability of 50%.

The global arms industry complains bitterly about offsets; the United States government officially frowns at offset demands, but allows its companies to meet the conditions of buyers. But India’s MoD insists that global defence contractors actually derive commercial benefits from partnering Indian companies in defence manufacture. The DOFA chief points out, “Offsets requirements force foreign vendors into looking for Indian companies to partner. But this is for the present; 10-15 years down the line, we will not need offsets at all to galvanise Indian defence manufacture.”

Offsets were first demanded by European countries in the late 1950s, when the US was arming NATO against the Soviet Union. But the practice gathered momentum only in the last two decades. In 1990 only 20 countries demanded offsets as a part of arms purchases. Today offsets are demanded by over 130 countries.

In India, defence offsets were first approved by the Defence Minister in 2004 and included in Defence Procurement Policy of 2005 (DPP-2005). This was amended in DPP-2008, which permitted “offset banking” and the waiving of offsets in “fast track” purchase. This year, DPP-2009 permitted a long-standing request by foreign vendors, allowing them to change offset partners.

Today, indicating that more changes could be legislated in DPP-2010, DOFA Chairman Satyajeet Rajan asked the private sector to suggest useful changes to the offsets policy.

Distribution of offsets

40% : Ordnance factories and DPSUs

33% : Large private industry

27% : Other private industry

Offsets business year-wise

2007 : Rs 243 crores

2008 : Rs 2598 crores

2009 : Rs 4870 crores