Among many other things, the committee of experts set up by the ministry of defence (MoD) last year has recommended a ‘strategic partnership model’ for ensuring greater involvement of the private sector in defence production.
This model is premised on MoD forging long-term strategic partnerships with chosen Indian companies for manufacture, life-cycle support and upgrades of all major platforms procured under the ‘Buy and Make’ category.
The ‘Buy and Make’ category entails limited outright purchase of the required equipment from a foreign original equipment manufacturer (FOEM) followed by licensed production of the bulk of the contracted quantity in India by an Indian production agency (IPA). The FOEM is required to transfer the technology to facilitate licensed production.
The IPAs can be from the public or the private sector but in the absence of any guidelines for selecting private sector entities MoD has been nominating defence public sector undertakings (DPSUs) or the ordnance factories as IPAs.
To illustrate, in the aborted deal for 126 MMRCA from Dassault of France, 18 aircraft were to be bought in a fly-away condition and the remaining 108 were to be built in India by the state-owned Hindustan Aeronautics Limited (HAL). This is typically how a ‘Buy and Make’ programme is structured.
The ‘strategic partnership model’, recommended by the committee of experts, seeks to ensure that the DPSUs do not keep getting nominated by default or design. The underlying objective is to create additional capacity in the private sector on a long term basis ‘over and above the capacity and infrastructure that exists in the public sector units’ for projects that are of strategic importance.
This is also expected to prevent cost and time overrun which, in the committee’s view, is the result of a complete reliance on technical and managerial capabilities of the DPSUs, which inevitably affects induction programme of the equipment being license-built in India and, in turn, modernisation of the armed forces.
The experts’ committee had identified seven areas of strategic importance and classified them under four segments but a second committee set up by the government to suggest yardsticks to be adopted for identifying the strategic partners seems to have re-organised them into two. (See box)
As per the committee’s recommendations, strategic partners would be selected for specific projects through a well defined procedure and ‘long term covenants’ signed with them as well as their ‘tierised partners’. While the platform to be procured will be chosen by MoD, the partner chosen for that project would ‘jointly negotiate (along with MoD) on a Government-to-Government basis’.
The covenants would cover not just the initial contract but also the ones that may follow, presumably for life-cycle support and upgradation. The government would be expected to encourage teaming agreements between prime contractors, strategic partners, DPSUs and the other tiers in the supply/production chain to ensure optimum utilisation of resources over long periods of time.
Having been selected as strategic partner for a specific platform, that entity will not be eligible to be chosen for ‘any other purpose under this dispensation’. These partners will also not be allowed to have cross-holdings in each others’ companies. This is intended to ‘prevent conglomerate monopolies emerging at the very start’.
The contracts could be on a fixed price or cost plus basis but in either case they should have inbuilt risk-sharing and risk-reward features. For this, MoD would need to evolve a robust system of cost and other forms of audit. Investment by the partners in the project would, of course, be on the basis of assured orders.
The strategic partnership model is a well meaning conceptual construct but it will require a lot of doing to crystallise it into an implementable precept for inclusion in the next version of the eagerly-awaited Defence Procurement Procedure (DPP).
About a decade back MoD had tried to implement a similar concept of Raksha Udyog Ratnas (RURs), or Industry Champions. Though the RURs were to undertake ‘Make’ projects involving indigenous design, development and manufacture of futuristic equipment, there is a striking similarity between these models in that both of them require pre-qualification of a few private sector entities to undertake the projects.
It is believed that the idea to notify the RURs was abandoned under pressure from trade unions of the DPSUs which were apprehensive of public sector units being overwhelmed by the private sector.
This may, or may not, be true but whatever reasons prevented MoD from notifying the RURs about a decade back may be relevant even today in the context of the strategic partnership model. MoD would do well to keep this in mind while taking the final call on this issue.
Even the private sector may not be very comfortable with the stipulation that a company or its subsidiaries will not be eligible for any other project in the same segment after being chosen as the strategic partner for a particular project.
The criteria believed to have been recommended by the second committee set up by MoD could add to some discomfiture because, as in the case of the criteria for selecting RURs, there is a certain element of arbitrariness in some of them.
Take, for example, some of the criteria for selection of strategic partners for projects falling under segment I that covers military platforms: turnover of Rs 4,000 crore in each of the previous three years and capital assets of Rs 2,000 crore.
For being selected as strategic partners for projects falling under the second segment, the Indian companies will have to have a turnover of Rs 500 crore in each of the previous three years and capital assets of Rs 100 crore.
In both the cases, the company should have grown by at least 5 per cent in three of the previous five years and, among other things, not have any declared non-performing assets.
These figures are somewhat arbitrary and lend themselves to varying interpretations. The ministry would need to address many questions before these criteria could be adopted. For one thing, very few companies would qualify, which may well be the very idea underlying the proposed model – but MoD would need to make sure that it does not close the doors for the growth of companies that may be just below the threshold at the time of empanelment of strategic partners.
Several other issues will need to be addressed. Will a joint venture between an Indian company and an FOEM be eligible for being considered as a strategic partner? Will the turnover and assets of wholly-owned subsidiaries that may be operating outside India be included in the financials of the parent company when it is being evaluated for its eligibility as a strategic partner?
How will a project be managed over the remaining part of its life-cycle in the event of the bad performance of the chosen strategic partner during the course of execution of the project?
Unless the criteria are fine-tuned to near perfection and other possible glitches that may come up while applying this model, it would be risky to incorporate the ‘strategic partnership model’ in the DPP.
The success of the strategic partnership model would also depend on a robust system of audit (especially of the cost plus contracts), drawing up and monitoring of complex long term covenants, and management of legal relationship with the same strategic partner over the life cycle of a project.
All this requires institutional changes within MoD, without which the strategic partnership model may go the same way as the ‘Make’ procedure adopted a decade back.
Creation of parallel capacities in the public and private sectors could lead to the capacity of one of the two units remaining idle. It is virtually impossible to imagine a situation where the private sector will create parallel capacity only to keep it idle if a project gets awarded to a DPSU. In all likelihood the axe would fall on public sector units, exacerbating their financial difficulties. The government may have to pump in funds to sustain their idle capacities.
In any case, it is difficult to imagine how the proposed model would prevent cost and time overruns or emergence of monopolies in the private sector, as the committee of experts expects. Once a strategic partner bags a contract it would be virtually impossible to change the ship mid-way through the life cycle of the equipment and subsequently for its life-extension or upgradation.
One last question remains. The way the discourse on ‘strategic partnership model’ is shaping up, it seems to blur the distinction between ‘Buy and Make’ and ‘Buy and Make (Indian) categories. With the impending introduction of a new ‘Buy (Indian Designed, Developed and Manufactured)’ category to the existing five, it is going to be quite a task to categorise the procurement proposals.
The difficulties pointed out here are not intended to make out a case against adoption of the proposed model but to suggest that its efficacy would depend on anticipating all possible problems that may come up when it is implemented and addressing them while formulating the scheme.
Often there are simple solutions to complex problems. If the idea underlying the strategic partnership model is to involve the private sector in ‘Buy and Make’ projects by nominating the private companies as production agencies to work with FOEMs, government could consider adopting the ‘Avro-replacement’ model in which the FOEMs were permitted to select the IPAs on their own.
The ‘Avro-replacement’ model will, of course, require some tweaking to facilitate long term partnerships but, if nothing else, it will save MoD from any likely allegations of favouritism in selecting the strategic partners for specific projects.
This will not jeopardise the projects as FOEMs will inevitably choose an Indian entity based exclusively on sound technical and financial consideration. It would be virtually impossible for any losing competitor to challenge their decision – a possibility that cannot be ruled out if the IPAs are nominated by MoD.
