Mr Amit Cowshish is a former Financial Advisor (Acquisition), Ministry of Defence and former Distinguished Fellow, Manohar Parrikar Institute for Defence Studies and Analyses, New Delhi. Click here for Detailed Profile
It has been reported that the government is all set to remove software and consultancy services from the list of eligible products and services through which the offset obligation could be discharged.1 The report says that the government is also finalizing a massive overhaul of defence procurement procedure, providing first opportunity in all contracts to Indian companies, including the private sector, while placing procurement from foreign suppliers as the last option.
The removal of software and consultancy services from the list of eligible products and services is reportedly being done because the Italian investigators have found that the money was routed by the middlemen in the VVIP helicopter deal through phoney software contracts. Any move that prevents such transgressions in future should be welcome. However, it raises a few questions.
The new defence offset guidelines were announced in August 2012 after extensive deliberations within the Ministry of Defence (MoD). The products and services eligible for offsets are clubbed under four categories in Annexure VI to Appendix D of these guidelines. Software development appears as a distinct entry under the category of ‘services (related to eligible products)’. But in addition to this, software development is also included in one form or the other in many other products listed under the remaining three categories of the eligible products: ‘defence products’, ‘products for inland/coastal security’ and ‘civil aerospace products’. For example, one of the entries under the category of ‘defence products’ is ‘vessels of war, special naval systems, equipment and accessories’. The guidelines say that this will include ‘software specially designed, developed and modified for design of all types of warships, submarines and auxiliaries or their hull forms’.
It will, therefore, not be wrong to assume that software development was included in the list of products and services eligible for offsets only because it was considered necessary for achieving the objectives of the offset policy. By now making software development ineligible for discharge of offsets we might be depriving ourselves of what was considered necessary only a couple of months ago. This could also prove to be a setback for the Indian software industry. The question is whether it would not be better to tighten the monitoring system to prevent frauds from being committed rather than blocking the entire gamut of software development activities. If, on the other hand, this proposed deletion is not going to make any difference, there was no need to include it in the list in the first place.
The second question is whether this is the only eligible mode of discharging the offset obligation that is prone to misuse. There are entries like ‘quality assurance’ and ‘training’ under the category of ‘services’, which are not quite well defined. There is a possibility of these being misused. The category ‘products for inland/coastal security’ includes ‘training aids, viz. simulators, associated equipment, software and computer based training modules’. Till the other day, simulators were not recognized as a valid mode of discharging offset obligation.2 Such vacillation on relatively minor issues undermines the confidence in the overall policy.
There are many other entries that are delightfully amorphous. An entry under the category of ‘defence products’ reads: ‘miscellaneous equipment and materials designed for military applications, specially designed environmental test facilities and equipment for the certification, qualification, testing or production of the above products’. Will one or more such entries be deleted from the list of eligible products and services if it is found in future to have facilitated wrong doing?
The third question is more fundamental. Transgressions could also take place through an arrangement made under the main contract between the prime vendor and the sub-vendors or others and not necessarily through an arrangement under the offset programme. Therefore, deletion of software development from the list of eligible products and services may not really be a game-changing preventive measure against transgressions in future.
This is not to argue that software development should not be deleted from the list of eligible products and services. If the MoD is convinced that this step is required to plug a loophole in the offset policy, there is no reason why it should not take this step. The point really is whether the apprehension about misuse of this avenue for discharge of offset obligation is well founded and that there are no other bugbears in the policy. It would help if the policy is reviewed from this point of view, with inputs from other organizations, and necessary steps are taken to prevent misuse of all eligible avenues for discharging the offset obligations.
The second part of the press report about a massive overhaul in the defence procurement procedure, providing first opportunity in all contracts to Indian companies, including the private sector, while placing procurement from foreign suppliers as the last option, is interesting for the promise it holds. The Defence Procurement Procedure 2011 has been under review for more than a year. Any massive overhaul should be the result of a well thought-out strategy to energize sluggish defence procurements rather than a reaction to the recent developments concerning the procurement of VVIP helicopters.
Under the existing system, procurements are categorized as ‘Buy’, ‘Buy & Make’ and ‘Make’. The ‘Buy’ category has two sub-categories: ‘Buy (Indian)’ and ‘Buy (Global)’. The ‘Buy & Make’ category also has a sub-category: ‘Buy & Make (Indian)’. It is not known whether the massive overhaul being contemplated will bring in yet another category, but the available indications are that every procurement would be categorised as ‘Buy (Indian)’, ‘Buy & Make (Indian)’ or even ‘Make’, unless there are clear reasons not to do so, which will possibly include refusal by the Indian industry to undertake the project. Opinion is likely to be divided on the issue but a few questions will inevitably need to be addressed if a policy along these lines is to be evolved.
First, there must be clarity about the objective of evolving such a policy. If it is being contemplated with a view to eradicating real or perceived corruption in defence procurements, the objective may remain elusive. If, on the other hand, it is being contemplated as a means of strengthening the indigenous defence industrial base to reduce the dependency on procurements from abroad, a number of steps will need to be taken to make the policy work. This requires wide-ranging consultation with all the stakeholders, primarily the services and the industry, on a whole range of issues, such as industrial licensing, taxation, foreign direct investment, exports, etc. This will, therefore, also entail consultation with other ministries, such as the Ministry of Commerce & Industry, which is responsible for industrial licensing. It would be better to bring in a change in policy after a due process of consultation.
Second, promoting indigenous industry and reversing the trend of heavy imports has always been the central message of all policy statements made by the persons in authority in recent years. The Defence Procurement Procedure 2011 stipulates that the goal of achieving self-reliance in defence will be kept in mind. The Defence Production Policy of 2011 has the following objectives:
Achieve substantive self-reliance in design, development and production of equipment, weapon system and platforms required for defence in as early a time frame as possible.
Create the conditions conducive for the private industry to play an active role in this endeavour.
Enhance the potential of small and medium enterprises (SMEs) in indigenization. And,
Broaden the defence research and development base of the country.
Therefore, it is not as if the same objective that is now sought to be achieved through the introduction of the first right of refusal by the Indian industry could not be achieved under the existing procedure. But there are reasons why this could not be achieved. One of the options when the Avro-replacement proposal was being considered was to categorize it as ‘Buy & Make (Indian)’. The industry was all gung-ho about the prospect but there were serious reservations in some official circles about the capability of the private industry to undertake the project and deliver the requisite number of aircraft within the stipulated timeframe. The point is not whether these apprehensions were justified or not but that there are many issues that will need to be resolved before any policy giving primacy to ‘Buy & Make (Indian)’ is promulgated.
Here is an off-the-cuff list of issues that would need to be resolved. What will be the mode of consultation with the industry? At what level will such interaction take place? As the industry is most unlikely to refuse any business proposition, how and who will take the final call as regards the capability of the indigenous industry to undertake the project? This problem will be more acute where the project is for manufacture of equipment or weapon systems that are not already being manufactured by anyone. In ‘Buy & Make (Indian)’, there will be an element of transfer of technology, the cost of which will be borne by the buyer as it will be passed on by the manufacturer to the buyer through the pricing mechanism. In such a situation who will own the intellectual property right and how will the buyer benefit from funding of the transfer of technology? How will the prospective vendors be short-listed? There could be many other issues like this in regard to not just the ‘Buy & Make (Indian)’ category but all other categories.
Third, lessons need to be learnt from past experience. The ‘Buy & Make (Indian)’ and ‘Make’ categories have been a part of the procedure for a long time now. Both these categories are dogged by difficulties. In ‘Buy & Make (Indian)’, for example, the product must have a minimum of 50 per cent indigenous content on cost basis. Though not specifically mentioned in the DPP, this level of indigenization must be manifest in the product when it is offered for trials. It is almost impossible to meet this condition. This is just one of the many problems faced by the prospective indigenous manufacturers.
In the absence of any authentic database in the public domain, it is not possible to say how many procurement programmes have been approved under these categories. But it is common knowledge that the record is not very encouraging. In fact, there has been very little progress under the ‘Make’ procedure, which was supposed to encourage the indigenous industry to meet futuristic requirements through design and development with 80 percent of the funding coming from the government. There is a need to commission a study to examine the reasons for this slow march towards indigenization and remove the rough edges before embarking on a new policy of first right of refusal by the indigenous industry.
Fourth, every category of procurement presents a different set of difficulties. In ‘Buy & Make’, for example’, one runs into difficulty as there is no guideline for selecting an indigenous private industrial entity for being nominated as the production partner of the foreign buyer. When faced with this difficulty in the Avro-replacement programme, it was decided to allow the foreign vendor select the Indian production partner, but this model is yet to be incorporated in the policy.
Take another example of ‘Buy (Indian)’. Under this category products can be bought only from Indian vendors but the products must have a minimum of 30 per cent indigenous content if the systems are being integrated by them. Again, though not stated in the DPP, the product offered for trial must meet this requirement. Very few, if any, vendors will keep a product with 30 per cent indigenous content ready for supplying to the armed forces through the process of competitive bidding with no certainty about when the product will be procured, or whether it will be procured at all.
Fifth, if the indigenous industry has to become a partner in this national endeavour of reversing the trend of imports, it must know what the requirements of the armed forces are going to be over a ten to fifteen year time horizon, which is also a stated objective of the Defence Production Policy of 2011. But this has not happened. The public version of the Long Term Integrated Perspective Plan (2012-27), approved by the Defence Acquisition Council on April 2, 2012, is yet to be released, though it is mandated as per the Defence Procurement Procedure 2011. Indian industry does not know from any authentic source what the Ministry of Defence is going to buy in the near future.
It is for the Ministry of Defence to decide what kind of procurement system would work, but there is a need to involve all the stake holders in the exercise and shape the policy by taking into account the lessons of past experience. This will take time and delay the process of amending the DPP 2011 further. It is, therefore, worth considering whether laying down the circumstances in which procurement proposals could be placed under one or the other existing category would not be a simpler way of achieving the same objective that is sought to be achieved through a massive overhaul of the defence procurement procedure. (After all, all these categories serve a specific purpose and were made a part of the procurement procedure at different points of time after due consideration.) This will provide enough flexibility to resort to any category rather than making it mandatory to offer the project to Indian industry as the first option and then be faced with a situation where it becomes risky to reject the claim of the industry that it could undertake the project. More importantly, laying down of the guidelines for categorization of the procurement proposals would remove the ambiguity and subjectivity that presently affect the categorization.
Quite often there are simple solutions to complex problems.
Amit Cowshish is Former Financial Advisor (Acquisition) & Additional Secretary and Member, Defence Procurement Board, Ministry of Defence. He is currently Partner, Dua Associates, Advocates and Solicitors.
Views expressed are of the author and do not necessarily reflect the views of the IDSA or of the Government of India
1. Josy Joseph, “Massive revamp of MoD purchase procedure soon,” Times of India (New Delhi), 11 March 2013.
2. See paragraph 2.1.3.4 of Comptroller & Auditor General of India’s Report No. 17 for 2012-13.
Coping with the Aftermath of Transgressions in the VVIP Helicopter Deal
More from the author
It has been reported that the government is all set to remove software and consultancy services from the list of eligible products and services through which the offset obligation could be discharged.1 The report says that the government is also finalizing a massive overhaul of defence procurement procedure, providing first opportunity in all contracts to Indian companies, including the private sector, while placing procurement from foreign suppliers as the last option.
The removal of software and consultancy services from the list of eligible products and services is reportedly being done because the Italian investigators have found that the money was routed by the middlemen in the VVIP helicopter deal through phoney software contracts. Any move that prevents such transgressions in future should be welcome. However, it raises a few questions.
The new defence offset guidelines were announced in August 2012 after extensive deliberations within the Ministry of Defence (MoD). The products and services eligible for offsets are clubbed under four categories in Annexure VI to Appendix D of these guidelines. Software development appears as a distinct entry under the category of ‘services (related to eligible products)’. But in addition to this, software development is also included in one form or the other in many other products listed under the remaining three categories of the eligible products: ‘defence products’, ‘products for inland/coastal security’ and ‘civil aerospace products’. For example, one of the entries under the category of ‘defence products’ is ‘vessels of war, special naval systems, equipment and accessories’. The guidelines say that this will include ‘software specially designed, developed and modified for design of all types of warships, submarines and auxiliaries or their hull forms’.
It will, therefore, not be wrong to assume that software development was included in the list of products and services eligible for offsets only because it was considered necessary for achieving the objectives of the offset policy. By now making software development ineligible for discharge of offsets we might be depriving ourselves of what was considered necessary only a couple of months ago. This could also prove to be a setback for the Indian software industry. The question is whether it would not be better to tighten the monitoring system to prevent frauds from being committed rather than blocking the entire gamut of software development activities. If, on the other hand, this proposed deletion is not going to make any difference, there was no need to include it in the list in the first place.
The second question is whether this is the only eligible mode of discharging the offset obligation that is prone to misuse. There are entries like ‘quality assurance’ and ‘training’ under the category of ‘services’, which are not quite well defined. There is a possibility of these being misused. The category ‘products for inland/coastal security’ includes ‘training aids, viz. simulators, associated equipment, software and computer based training modules’. Till the other day, simulators were not recognized as a valid mode of discharging offset obligation.2 Such vacillation on relatively minor issues undermines the confidence in the overall policy.
There are many other entries that are delightfully amorphous. An entry under the category of ‘defence products’ reads: ‘miscellaneous equipment and materials designed for military applications, specially designed environmental test facilities and equipment for the certification, qualification, testing or production of the above products’. Will one or more such entries be deleted from the list of eligible products and services if it is found in future to have facilitated wrong doing?
The third question is more fundamental. Transgressions could also take place through an arrangement made under the main contract between the prime vendor and the sub-vendors or others and not necessarily through an arrangement under the offset programme. Therefore, deletion of software development from the list of eligible products and services may not really be a game-changing preventive measure against transgressions in future.
This is not to argue that software development should not be deleted from the list of eligible products and services. If the MoD is convinced that this step is required to plug a loophole in the offset policy, there is no reason why it should not take this step. The point really is whether the apprehension about misuse of this avenue for discharge of offset obligation is well founded and that there are no other bugbears in the policy. It would help if the policy is reviewed from this point of view, with inputs from other organizations, and necessary steps are taken to prevent misuse of all eligible avenues for discharging the offset obligations.
The second part of the press report about a massive overhaul in the defence procurement procedure, providing first opportunity in all contracts to Indian companies, including the private sector, while placing procurement from foreign suppliers as the last option, is interesting for the promise it holds. The Defence Procurement Procedure 2011 has been under review for more than a year. Any massive overhaul should be the result of a well thought-out strategy to energize sluggish defence procurements rather than a reaction to the recent developments concerning the procurement of VVIP helicopters.
Under the existing system, procurements are categorized as ‘Buy’, ‘Buy & Make’ and ‘Make’. The ‘Buy’ category has two sub-categories: ‘Buy (Indian)’ and ‘Buy (Global)’. The ‘Buy & Make’ category also has a sub-category: ‘Buy & Make (Indian)’. It is not known whether the massive overhaul being contemplated will bring in yet another category, but the available indications are that every procurement would be categorised as ‘Buy (Indian)’, ‘Buy & Make (Indian)’ or even ‘Make’, unless there are clear reasons not to do so, which will possibly include refusal by the Indian industry to undertake the project. Opinion is likely to be divided on the issue but a few questions will inevitably need to be addressed if a policy along these lines is to be evolved.
First, there must be clarity about the objective of evolving such a policy. If it is being contemplated with a view to eradicating real or perceived corruption in defence procurements, the objective may remain elusive. If, on the other hand, it is being contemplated as a means of strengthening the indigenous defence industrial base to reduce the dependency on procurements from abroad, a number of steps will need to be taken to make the policy work. This requires wide-ranging consultation with all the stakeholders, primarily the services and the industry, on a whole range of issues, such as industrial licensing, taxation, foreign direct investment, exports, etc. This will, therefore, also entail consultation with other ministries, such as the Ministry of Commerce & Industry, which is responsible for industrial licensing. It would be better to bring in a change in policy after a due process of consultation.
Second, promoting indigenous industry and reversing the trend of heavy imports has always been the central message of all policy statements made by the persons in authority in recent years. The Defence Procurement Procedure 2011 stipulates that the goal of achieving self-reliance in defence will be kept in mind. The Defence Production Policy of 2011 has the following objectives:
Therefore, it is not as if the same objective that is now sought to be achieved through the introduction of the first right of refusal by the Indian industry could not be achieved under the existing procedure. But there are reasons why this could not be achieved. One of the options when the Avro-replacement proposal was being considered was to categorize it as ‘Buy & Make (Indian)’. The industry was all gung-ho about the prospect but there were serious reservations in some official circles about the capability of the private industry to undertake the project and deliver the requisite number of aircraft within the stipulated timeframe. The point is not whether these apprehensions were justified or not but that there are many issues that will need to be resolved before any policy giving primacy to ‘Buy & Make (Indian)’ is promulgated.
Here is an off-the-cuff list of issues that would need to be resolved. What will be the mode of consultation with the industry? At what level will such interaction take place? As the industry is most unlikely to refuse any business proposition, how and who will take the final call as regards the capability of the indigenous industry to undertake the project? This problem will be more acute where the project is for manufacture of equipment or weapon systems that are not already being manufactured by anyone. In ‘Buy & Make (Indian)’, there will be an element of transfer of technology, the cost of which will be borne by the buyer as it will be passed on by the manufacturer to the buyer through the pricing mechanism. In such a situation who will own the intellectual property right and how will the buyer benefit from funding of the transfer of technology? How will the prospective vendors be short-listed? There could be many other issues like this in regard to not just the ‘Buy & Make (Indian)’ category but all other categories.
Third, lessons need to be learnt from past experience. The ‘Buy & Make (Indian)’ and ‘Make’ categories have been a part of the procedure for a long time now. Both these categories are dogged by difficulties. In ‘Buy & Make (Indian)’, for example, the product must have a minimum of 50 per cent indigenous content on cost basis. Though not specifically mentioned in the DPP, this level of indigenization must be manifest in the product when it is offered for trials. It is almost impossible to meet this condition. This is just one of the many problems faced by the prospective indigenous manufacturers.
In the absence of any authentic database in the public domain, it is not possible to say how many procurement programmes have been approved under these categories. But it is common knowledge that the record is not very encouraging. In fact, there has been very little progress under the ‘Make’ procedure, which was supposed to encourage the indigenous industry to meet futuristic requirements through design and development with 80 percent of the funding coming from the government. There is a need to commission a study to examine the reasons for this slow march towards indigenization and remove the rough edges before embarking on a new policy of first right of refusal by the indigenous industry.
Fourth, every category of procurement presents a different set of difficulties. In ‘Buy & Make’, for example’, one runs into difficulty as there is no guideline for selecting an indigenous private industrial entity for being nominated as the production partner of the foreign buyer. When faced with this difficulty in the Avro-replacement programme, it was decided to allow the foreign vendor select the Indian production partner, but this model is yet to be incorporated in the policy.
Take another example of ‘Buy (Indian)’. Under this category products can be bought only from Indian vendors but the products must have a minimum of 30 per cent indigenous content if the systems are being integrated by them. Again, though not stated in the DPP, the product offered for trial must meet this requirement. Very few, if any, vendors will keep a product with 30 per cent indigenous content ready for supplying to the armed forces through the process of competitive bidding with no certainty about when the product will be procured, or whether it will be procured at all.
Fifth, if the indigenous industry has to become a partner in this national endeavour of reversing the trend of imports, it must know what the requirements of the armed forces are going to be over a ten to fifteen year time horizon, which is also a stated objective of the Defence Production Policy of 2011. But this has not happened. The public version of the Long Term Integrated Perspective Plan (2012-27), approved by the Defence Acquisition Council on April 2, 2012, is yet to be released, though it is mandated as per the Defence Procurement Procedure 2011. Indian industry does not know from any authentic source what the Ministry of Defence is going to buy in the near future.
It is for the Ministry of Defence to decide what kind of procurement system would work, but there is a need to involve all the stake holders in the exercise and shape the policy by taking into account the lessons of past experience. This will take time and delay the process of amending the DPP 2011 further. It is, therefore, worth considering whether laying down the circumstances in which procurement proposals could be placed under one or the other existing category would not be a simpler way of achieving the same objective that is sought to be achieved through a massive overhaul of the defence procurement procedure. (After all, all these categories serve a specific purpose and were made a part of the procurement procedure at different points of time after due consideration.) This will provide enough flexibility to resort to any category rather than making it mandatory to offer the project to Indian industry as the first option and then be faced with a situation where it becomes risky to reject the claim of the industry that it could undertake the project. More importantly, laying down of the guidelines for categorization of the procurement proposals would remove the ambiguity and subjectivity that presently affect the categorization.
Quite often there are simple solutions to complex problems.
Amit Cowshish is Former Financial Advisor (Acquisition) & Additional Secretary and Member, Defence Procurement Board, Ministry of Defence. He is currently Partner, Dua Associates, Advocates and Solicitors.
Views expressed are of the author and do not necessarily reflect the views of the IDSA or of the Government of India
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