It will not be incorrect to state that the Indian offset policy is designed to obtain export orders for the public sector at the cost of the defence budget.
- Undoubtedly, the services have been taken for a ride. Offsets have added to their disquiet and anxieties without any boost to indigenous defence industry. A look at the following major concerns of the services will reveal the intensity and magnitude of the dilemma faced by them:-
- Offsets impose a cost penalty on all procurements that carry offset obligation clauses. This implies that the outflow from the defence budget gets proportionately increased. For example, for a deal that mandates 50 percent offsets, the defence budget will have to pay up to 10 percent extra in costs.
- Simultaneous signing of offset contract can result in a loss of focus, away from the main contract. DPP-2008 lays down that at every stage of evaluation, offset proposals would be examined along with the main technical and commercial proposals to confirm compliance. A competent vendor may get eliminated by default if his offset proposal is found unsatisfactory.
- Offset obligations have to be fulfilled co-terminus with the main contract. The policy allows imposition of penalty and its recovery by way of deduction from the bank guarantee of the main contract or the amount payable to the vendor under the main contract. Further, failure to implement full offset obligations during the period of the main contract makes the vendor liable to be disqualified for participation in future defence contracts. With such punitive provisions in place, any default in offset programmes can delay the main contract and even jeopardise it.
- Offsets are notorious for corruption as they are often formulated in broad and imprecise terms, leaving enough leeway for multiple interpretations and manipulations. Furthermore, offset contracts are never monitored as closely as the main contract. Allegations of malpractice in offsets can put a foreign vendor under cloud and affect his commitment to timely completion of the main contract. Additionally, MoD may be forced to debar the vendor to exhibit its zero tolerance for dishonest activities, thereby endangering the main contract as well.
Indian Services are the Net Losers
As per the figures released by Defence Offset Facilitation Agency (DOFA), offset agreements worth Rs 8125 crores had been signed by the end of 2009. The share of aero systems is 94 percent at Rs 7645 crores and that of naval systems 6 percent at Rs 480 crores. While bulk of the export orders have gone to the public sector (mostly HAL Ltd), some orders have been placed on the private sector companies for the supply of goods and services.
Take the case of 126 fighter aircraft that India proposes to buy at an indicative cost of 11 billion dollars. The proposal carries an offset liability of 50 percent, resulting in a likely cost penalty of 10 percent. It implies that India could save one billion dollars if no offset obligations are imposed or buy up to 15 additional aircraft with the same budget.
To generate offset contracts worth Rs 8125 crores, the value of main contracts would be close to Rs 17000 crores (assuming offset percentage to be mere 30 percent). Again, considering the standard cost penalty of 10 percent, the Indian defence budget has already suffered an extra outflow of close to Rs 1550 crores on account of offsets – only to facilitate export orders of sundry items for some select Indian companies.
It will not be incorrect to state that the Indian offset policy is designed to obtain export orders for the public sector at the cost of the defence budget. Take the case of 126 fighter aircraft that India proposes to buy at an indicative cost of 11 billion dollars. The proposal carries an offset liability of 50 percent, resulting in a likely cost penalty of 10 percent. It implies that India could save one billion dollars if no offset obligations are imposed or buy up to 15 additional aircraft with the same budget. It is certain that extra outflow of one billion dollars will finance export orders for HAL. Worse, HAL would manufacture and supply low-tech items like doors and windows of aircraft and not systems/sub-systems that may boost its technological prowess.
On the whole, offsets are not contributing to the upgradation of indigenous technological base but adding to the woes of the services and taxing the defence budget. Indian policy makers have failed to appreciate the full potential of offsets and trivialised a powerful instrument of industrial growth for transitory gains for DPSU and other entities.
The Way Forward
As seen above, offsets cost a country considerable extra expenditure. The question therefore arises whether they are desirable. It is universally accepted that offsets make sound business sense only if the trade-off results in extraordinary economic or technological gains. Technologies that industrially-advanced countries are reluctant to sell can only be obtained through the leverage of offsets. Over 130 nations are demanding offsets in defence purchases today. Despite knowing that the seller is bound to amortise the offset expenditure by suitably factoring it in his price quote, the countries find the proposition appealing.
Normally, DRDO should seek technologies in which it has made considerable headway but not mastered”¦
India has an unusual knack of inserting provisions in a policy that are totally contrary to the stated objectives of the policy itself. Self reliance is a stated aim of DPP-2008. Yet, India does not accept technology under offsets. It is a dichotomy that the services fail to understand. The common reason given by the Government functionaries is that they are unable to price technology. It is a totally specious and hollow excuse. India purchases technology as a part of ‘Buy and Make’ deals – either contracted as a part of the main deal itself or negotiated separately at a later stage. Apparently, no ToT contract can be entered into without pricing the technology involved.
There is no standard price of technology in the world market. It is purely need-based and determined by the degree of desperation of the technology seeker. DRDO can be asked to identify technologies that it needs. Normally, DRDO should seek technologies in which it has made considerable headway but not mastered – commonly referred to as lacking ‘last mile connectivity’. Thereafter, DRDO can work out the anticipated expenditure on indigenous effort to master the said technology as also urgency of its application. These two factors help decide fair, reasonable and acceptable price of technology.
Many knowledgeable observers are of the opinion that MoD has been pressurised by the public sector to disallow ToT against offsets as the public sector wants to perpetuate its monopoly on receipted technology through the current system of ‘Buy and Make’ deals. The public sector fears that acceptance of ToT against offsets would make the private sector preferred partner of foreign vendors. Therefore, opposition of the public sector is purely to safeguard its exclusive turf. It is time MoD rises above extraneous considerations to ensure that the benefits accruing from offsets do not get outweighed by the cost penalty. Transfer of technology should be made the preferred form of offsets. Through a well-evolved system of application of multipliers, irresistible incentives should be provided to foreign vendors to offer technologies that India needs the most.
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