For long, the Indian defence industry has been dominated by the public sector, with the Armed Forces, especially the Army being its captive market. As of now, the defence public sector consists of 41 Ordnance Factories (OF), 13 Ordnance Research and Development Centres, nine Ordnance Institutes of Learning, three Regional Marketing Centres and four Regional Controller of Safety, all of which come under the Ordnance Factory Board (OFB) which in turn comes under the Department of Defence Production in the MoD. The Department of Defence Production also has under its ambit the Defence Research and Development Organisation (DRDO) and nine Defence Public Sector Undertakings (DPSU). As India’s defence requirements was proposed to be met in full by the public sector, the private sector was not given any space to grow.
Much of this had to do with legacy attitudes carried forward from pre-independence times. It was partly also a result of a lack of an understanding of how ‘realpolitik,’ played out in the international arena and a totally misplaced faith in non-violence and diplomacy to resolve disputes with neighbours. Shortly after achieving independence, India’s first Prime Minister, JL Nehru, actually questioned the need for an Army. General Lockhart, who was appointed as the Commander in Chief of the Indian Army, met the Prime Minister and asked him for the government’s directive on the Nation’s defence policy. This caused Mr Nehru to explode. “Rubbish! Total rubbish,” he shouted! “We don't need a defence plan. Our policy is ahimsa (non-violence). We foresee no military threats. Scrap the army! The police are good enough to meet our security needs”.
That naiveté soon gave way to some level of pragmatism as Pakistan aggression in October 1947, saw the Army and Air Force being rushed in to save the situation in Kashmir. But the final awakening took place in 1962, after India faced a humiliating defeat at the hands of the Chinese. Today, the nation is reasonably well prepared to defend itself against all threats. But an aspect of prime concern is India’s dependence on imports for advanced weapons and cutting edge technologies. To overcome this lacuna, major policy reforms have been announced to enhance self-reliance in defence production. These pertain to revised rules on FDI and corporatisation of the OFB.
Indian companies were loathe to invest in defence manufacturing as FDI was not permitted, restrictions were placed on exports and even if a product was manufactured, there was no guarantee that orders would be placed by the armed forces. Consequently, the private sector did not invest in research and development for military related equipment and hardware. A change took place at the turn of the century, when the private sector was allowed 100 percent equity with a maximum of 26 percent FDI. This was however subject to licensing from the government. Unsurprisingly, the response was lukewarm and the initiative failed to attract any worthwhile FDI. The government tweaked the policy many times thereafter, but kept the FDI component below 51 percent, to avoid handing over control to a foreign institution. This too, cut no ice. In 2015, the government allowed higher FDI through government approval on a case to case basis for state of the art technologies (later amended to modern technologies), abolished the Foreign Investment Promotion Board and did away with the requirement of CCS approval and requirement for single largest Indian ownership of 51 percent, apart from doing away with the requirement of three year lock-in period for equity transfer by the foreign investor. But all this failed to enthuse the foreign investors. As minority shareholders, they would have limited say in management of the company, and would not be in a position to control the decision making. The total FDI inflow in the defence sector in 2018-2019 was thus a meagre USD 218 million, as compared to the total FDI which came to India which was USD 62 billion.
The latest move to increase FDI in defence to 74 percent through the automatic route, giving the foreign investor controlling interest, will likely lead to increased FDI inflows in the defence sector. Should this materialise, it would bring in much needed technology and finances, giving a huge boost to India’s efforts to achieve self reliance in the defence sector. Here, the two defence corridors that have been created, one in Tamil Nadu and the other in Uttar Pradesh, can act as further magnets to draw in investment. Latest technologies can now come to India through the setting up of subsidiaries by foreign vendors through Joint Ventures (JV) with Indian companies in India. These in turn can become the base for future development of technologies.
In addition, the Buy (Global: Manufacture in India) clause in the draft Defence Procurement Procedure (DPP) 2020, mandates 50 percent indigenous content in the manufacturing of either the entire equipment or spares/assemblies/sub-assemblies/Maintenance, Repair and Overhaul (MRO) facility through the Indian subsidiary. This is likely to further encourage foreign investors to set up subsidiaries in India and participate in procurement though this route. Setting up of foreign defence companies in India will also require an ecosystem to procure spares and parts from the local manufacturers to cut down on the cost of the equipment. Defence manufacturers involved with low-end technology now stand incentivised to provide necessary spares. Over time, a defence ecosystem in the country will develop to make spares available locally and provide life time support to the equipment.
Exports are now being encouraged with Prime Minister Modi laying down an ambitious export target of USD 5 billion by 2025. Presently, India figures in the 23rd place among the top 25 arms exporter in the world as per SIPRI report of Mar 2020, but accounts for just 0.2 percent of the global arms market. With government assistance, India can emerge as a favoured destination for purchase of weapons, platforms and equipment, especially from the Asian countries which are looking at an alternative to Chinese products. This should give a fillip to creating a strong defence industrial base in India, which in turn will reduce India’s dependence on imports, enhance local manufacturing capability, create jobs locally and boost the Indian economy.
Can easing FDI norms impinge on national security? What would happen if the foreign manufacturer chose to shut down the facility at a critical time? These are valid concerns, but since all facilities within India would be governed by Indian laws, cutting off supplies at a critical juncture is not a likely occurrence. However, if we were dependent on imports, then those supplies could be cut off. Local manufacture through FDI still remains a far better option to imports. There is also a view expressed that FDI will have a negative impact on the indigenous Indian defence industry. But even without FDI, the industry progressed little. Advanced technology takes years to develop and India will forever remain in the catching up phase sans FDI. So FDI remains the best bet for now to get advanced technology. This will in time lead to the development of a strong defence industrial base and thereafter to in-house development of cutting edge technologies. Raising the FDI limit to 74 per cent seems to be a workable solution and perhaps in the days to come, this could be further ramped up to 100 per cent, where required.
Corporatisation of the OFB
The other important reform pertains to the corporatisation of the OFB. The users have always had serious concerns with products supplied by the OFB pertaining to reliability, costs, delays in delivery schedules and lack of accountability. It was hoped that corporatisation of the OFB would revitalise this segment of defence production. Corporatisation however is not a new idea. It was recommended by the Nair Committee in 2000, the Kelkar Committee in 2005 and the Raman Puri Committee in 2015. But its implementation was dropped due to resistance from the unions and also by vested interests within the system.
Post the 2019 General Elections, the corporatisation of OFBs formed part of the Modi 2.0 government’s ‘167 transformative ideas’ to be implemented in 100 days ie by Oct 2019. But this too was scuttled by the unions, which threatened an indefinite strike, fearing loss of jobs. The government has now announced corporatisation of the OFB, but this time as a 100 percent government owned public sector unit (PSU), on the lines of other defence PSUs. The aim is to provide functional and financial autonomy and managerial flexibility to the OFB, to enable the organisation to grow at a faster pace and play a greater role in defence manufacture, while at the same time, adequately safeguarding the interests of the workers. The unions however remain agitated and have called the government’s decision as “arbitrary, illegal and unjustified”. They believe that corporatisation is the first step towards privatisation.
The fact however remains that the OFB has regularly performed below its potential. There are serious concerns with respect to quality, delivery schedules and cost of manufacture. The OFB has monopoly over several products required by the armed forces, and thus sees little need either for innovation and technology development, or to improve quality and cost efficiency. The aspect of lack of accountability also remains a serious concern. The supply of defective anti tank mines to the Army by the OFB in February 2010, which were manufactured by Ordnance Factory, Chanda, but were rejected by the Army due to exudation in TNT, is a case in point. The Army wanted the mines to be destroyed, but the OFB was unwilling to write off the huge cost incurred in the manufacture. So despite warnings being given by the Army, the mines were ordered to be kept segregated in CAD Pulgaon. These caught fire in 2016, which led to the loss of 19 lives. But till date, no one in OFB or OF Chanda has been held accountable. Such stories get repeated year after year, with little or no action being taken against the supply of poor quality products which at times results in accidents and unnecessary loss of lives and limbs. If such a serious case as that of the faulty mines manufactured by OF Chanda can be brushed under the carpet despite receiving focussed media attention, then the other cases obviously will merit little or no attention at all.
Corporatisation will lead to better management of the OF, with greater autonomy in functioning. Decision making will be dynamic and in real time, leading to timely deliveries, achievement of laid down targets and the supply of quality products at competitive rates. It will enable the OFB to form strategic alliances with Indian and overseas companies, will boost innovation and lead to development of new products, all of which will enable the ‘Make in India’ projects. This will lead to better user satisfaction and reduced costs. But will the government push through with this reform, which is vital for the growth of the Indian defence sector? Or will the unions still hold sway with their threats to go on indefinite strike? As of now, the unions have called off their proposed indefinite strike, which was scheduled for 12 October 2020. This followed a conciliation meeting, held between the three Federations of Defence Civilian Employees and the Ministry of Defence, wherein it was agreed that, during the pendency of on-going conciliation proceedings, the Ministry will abide by the provisions of Section 33(1) of the Industrial Disputes Act 1947 which stipulates that the employer cannot alter the conditions of service of the employees till the conclusion of conciliation proceedings. However, it will not affect government’s decision to corporatise the OFB. The road ahead appears bumpy, but by no means insurmountable. For the good of the nation, it is vital that these reforms are pressed through with the urgency they deserve.
(For DSA - Nov 2020)
