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The Big Picture – Taking Stock: Defence Sector

The Big Picture – Taking Stock: Defence Sector


India has a land frontier, a coastline and an exclusive economic zone, as well as island territories, vital offshore installations and airspace to defend. The Indian forces, therefore, have to be kept well prepared and well equipped to repel any external threat. India’s defence spending has grown manifold since the country announced its first defence budget in 1950. Approximately 40% of the budget release to the capital expenditure is currently driven by equipment modernization programmes in each of the three services- the army, the airforce and the navy. The country procures approximately 70% of its equipment needs from abroad. But, with ‘Make In India’ the government aims to reverse this trend and manufacture 70% or more of its defence equipments in India. This provides an immense opportunity for both domestic and foreign players in the defence sector.

Basically, defence expenditure is divided into two categories:

  1. Revenue: Includes expenditure on pay and allowances, maintenance, transportation and all stores expenditure on utilities.
  2. Capital: includes creation of assets and expenditure on procurement of new equipment.

India’s defence expenditure has always been in the range of 2% – 3% of the GDP. This is in line with other major developed nations. It signifies a fairly steady focus on defence within the economy. The new government’s manifesto explicitly envisages India as an exporter of defence equipment over the next decade. The government has done away with the requirement of licences for defence manufacturing for 16 items. FDI in defence sector has also been increased.

Currently, defence manufacturing is dominated by defence PSUs and ordnance factory boards (OFB), which together have 90% share in total defence manufacturing. The opening of the strategic defence sector for private sector participation will help foreign original equipment manufacturers to enter into strategic partnerships with Indian companies and leverage the domestic markets and also aim at global business. Besides helping build domestic capabilities, this will bolster exports in the long term- the country’s extensive modernization plans, an increased focus on homeland security and India’s growing attractiveness as a defence sourcing hub.

The defence procurement is governed by the Defence Procurement Procedure (DPP). The Government has now decided to revise the DPP every year. The key objectives of the defence offset policy are to leverage capital acquisitions to develop the Indian defence industry. The initial validity period of industrial licenses has been increased to three years from the present two years.

There is now need to acknowledge at every level of government that the private sector in India can be trusted to play as important a role in the modernisation of India’s defence capabilities as the public sector. A common framework for defence procurement across research establishments, ordnance factories, defence Public Sector Units (PSU) and the private sector is the need of the hour. Decision making needs to be simpler, faster and transparent. There’s also an urgent need to address and improve the ease-of-doing-business. The Ministry of Defence is the sole customer for the defence industry in the country. Without long-term contracts, certainty of volumes, a quick selection process, transparency and fair payment terms, there will be little incentive for private players to invest the huge resources required for defence production.

There is a compelling case for creating a single window for defence licensing and FDI approvals. Any large-scale involvement of the private sector in defence would require a clear road map for engagement, with clearly identified thrust areas. New modalities of public-private partnership (PPP) should also be thought of. The need has now arisen to accord infrastructure industry status to the defence sector, thereby paving the way for easier credit and a greater role and opportunity for the private sector. India’s confidence in FDI draws a facile equation between foreign investment, local manufacturing and technology inflow. The key, however, is not money but technology. Technology transfer is elusive. It requires not just a clause in a contract, but in the recipient taking determined measures to ensure acquisition and absorption of technology.

The most significant development of 2015 was the scrapping of the $20-billion Medium Multi-Role Combat Aircraft (MMRCA) deal for the purchase of 126 French Dassault Rafale fighter jets. To boost squadron strength, the government cleared the off-the-shelf purchase of 36 Rafale aircraft in fly-away condition from Dassault’s factories in France at an estimated cost of $8-9 billion. 2015 has been a good year for India’s helicopter fleet with three major deals: The purchase of 15 Chinook heavy lift helicopters and 22 Apache attack helicopters from the US’ Boeing company at a cost of $3 billion and $1-billion deal for 200 Kamov 226 T utility helicopters, a replacement for the air force’s vintage Chetak and Cheetah helicopters.

Another notable development in 2015 was the announcement of the One Rank One Pension (OROP) scheme for defence personnel. The scheme will require an additional expenditure of Rs. 8,000 crore ($1.2 billion) every year and is expected to provide equal pension payments for personnel having served in the same rank for the same length of service. However, a significant section of veterans continued to protest against the government, saying they have been cheated.