Nobody’s baby: the offset orphan

Target India!

By Ajai Shukla

Business Standard, 6th Sept 11

As this newspaper reported last week, the ministry of defence (MoD) is backtracking from its defence offsets programme. Its resolve to jumpstart indigenous defence production through offsets has been broken by a cartel of foreign arms merchants. The vendors’ specious argument, which the MoD has inexplicably swallowed, is that Indian defence companies cannot absorb the billions in offsets that will arise from our weapons purchases over the coming decade, the biggest overseas arms buying spree in history. Indian defence companies have protested otherwise, but the MoD is not convinced. The inevitable speculation that the MoD has been bought over is too charitable. The reality is even more damning: rather than seizing the opportunity that offsets provide --- which would require clear thinking and the setting up of functional structures --- the ministry would rather neuter offsets to the point of irrelevance.

Defence offsets, for latecomers to this debate, are a form of counter-trade in which global vendors who win Indian defence contracts worth Rs 300 crore or more must invest 30% of the contract value into India’s defence industry. From 2011 onwards offsets can also be discharged in civil aerospace and internal security.

Offsets are almost universal, with over 130 countries demanding offsets in overseas defence purchases. Most of these, notably Israel, Turkey, Malaysia and South Africa, have well-established offset authorities that articulate exactly what they expect from an offset programme. But India’s MoD is unique in leaving it all to the vendor. The Defence Procurement Policy of 2006 (DPP-2006), and its subsequent amendments, does not enjoin the MoD to specify the offsets it wants; or to nominate an Indian company as an offset partner. The foreign vendor decides whether to buy cast iron pipes from India (passing them off as battleship components) or high-end software engineering. South Block’s only demand is: please tell us how you will discharge your offset liability.

This appalling disinterest stems from a fundamental flaw in our approach to offsets. The first is the view, rooted in years of technology sanctions, that anyone who sells India high-tech weaponry is actually doing us a kindness. Flowing from this deeply subservient perspective is the notion: don’t make specific demands; whatever those kind people give us is good enough. Consequently, nobody has ever enunciated the aim of India’s offset programme. Is it to boost defence manufacture; or to get access to high technology; or to ensure life-cycle support for the weaponry that we buy? Your guess is as good as mine.

This fatal flaw can be redeemed in the forthcoming amendment to the offset policy, which the MoD has almost finalised. Introducing a one-sentence objective --- “The aim of India’s offset policy is to….” --- would introduce a clarity that is sorely needed.

Without an articulated aim, it is unsurprising that no MoD department takes ownership of offsets. The Defence Offsets Facilitation Agency (DOFA) is a man-and-a-dog backwater that denies responsibility for anything more than “facilitation”. Justifiably so, for it does not have the staff, the wherewithal, or the mandate to examine offset proposals, scrutinise their financial viability, audit their discharge or endorse their successful completion. That leaves to the Acquisition Wing the key decision about whether an offset proposal is acceptable or not. As this newspaper’s recent reporting on offsets has highlighted, the Acquisition Wing takes the approach: don’t let offsets derail procurement; accept whatever offset proposal the vendor offers.

Take a look at the opportunities that are being lost. It is projected that India will spend $45-50 billion (Rs 2,07,000 - 2,30,000 crore) on overseas weaponry this decade, with offset requirements of 40% (the MMRCA contract is actually 50%). That means $20 billion (Rs 92,000 crore) worth of offsets must be discharged over the next 15 years or so, which is the period in which these contracts will be discharged. Indian industry must, therefore, absorb $1.33 billion (Rs 6,100 crore) in offsets each year. To place that figure in context, Peugot will invest Rs 4,000 crore in its automobile factory in Sanand, Gujarat. Over the next decade, the IAF’s 10-year modernisation programme will see the production in India of the MMRCA; the Indo-Russian fifth generation fighter aircraft (FGFA) and multi-role transport aircraft (MRTA); the medium transport aircraft (MTA) that will replace the Avro; Hindustan Aeronautics Ltd’s intermediate jet trainer (IJT), the Sitara; National Aerospace Laboratory’s Saras light transport aircraft; the Tejas light combat aircraft (LCA) and Medium Combat Aircraft (MCA); and a range of new helicopters being developed by HAL, such as the light combat helicopter (LCH). Setting up each of these production lines will take tens of thousands of crore, including the R&D base, the testing facilities, and the ancillary suppliers that come up. And this is just in aerospace. Indian CEOs wonder: where is the difficulty in absorbing 6,100 crore a year?

The MoD also seems to have forgotten that Indian companies exported over $60 billion (Rs 2,76,000 crore) worth of engineered goods last year to the US alone (Commerce Ministry figures).

The MoD has much to learn from developing countries with far less clout than India, who have translated offsets into huge strategic leverage. Turkey used technology obtained from offsets to develop a component for the American F-35 Joint Strike Fighter, eventually becoming the sole source for that component. When the US cut back Turkey’s role as a supplier, Ankara --- in a riveting David-and-Goliath struggle that caused a 17-month delay to the F-35 programme --- halted supplies until Washington came into line. Ankara demonstrated how offsets could translate into a critical role in a global supply chain.

Malaysia is another country from which India could learn. After obtaining know-how on composite structures through offsets, Malaysia is today a crucial supplier of aerospace composites (more than half of all composites used on the Boeing 787 Dreamliner are Malaysian). Kuala Lumpur has a simple game plan for obtaining technology through offsets. It specifies the technology that it wants; asks the foreign vendor to choose a Malaysian partner company; transfer the technology and develop Malaysian expertise; and then buy back the high-technology products that emerge. A simple, yet beautiful, plan.