Defence Industry

Corporatisation of OFB and Bolstering Military Industry Capability
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Issue Vol. 36.4, Oct-Dec 2021 | Date : 28 Jan , 2022

F404 Engine


Atmanirbhar Bharat has been touted as an umbrella concept (2014) for promoting efficiency, competition and resilience in the Indian industry, providing level playing field to the private sector, improving value addition and pre-empting imports in areas where domestic industries can fulfil the requirement. The Prime Minister used this phrase in relation to defence manufacturing by boosting our self-reliance in national security. With nine defence PSUs and 41 Ordnance Factories (OFs) producing bulk of the requirements for the Defence Services that are captive users, concerns like inordinate delays, poor quality, high price and low accountability have dominated the discussion space between users as stakeholders and DPSUs and OFs as producers. The general thinking has been that the corporate structure has more autonomy to drive the production mandates; a government department such as the Ordnance Factory Board (OFB) is less efficient and sloppy in its delivery mechanism and accountability.

Corporatisation of OFB

Corporatisation of OFB was listed as one of the 167 transformational ideas to be implemented in the first 100 days of NDA manifesto (2019), which has now been put to effect on October 01, 2021. The delay in corporatisation of 41 Ordnance Factories which have a hoary history of 246 years, with a credible record in providing requisite firepower to the defence services during the three wars and the Kargil spat, is understandable, given the powerful and entrenched unions that they have with 81,500 employees. They have enormous core competence in production of ammunition, explosives and propellants, armoured vehicles, military vehicles, parachutes, optical devices, troops comfort and general stores.

From a gun powder factory at Ishapore in 1787 to the Nalanda Ordnance Factory to produce bi-modular charges for 155 mm gun, sanctioned in 2001, but is still not fully operational. Hence, several committees have recommended a company approach to Ordnance Factories. The ostensible objective of the NDA government is to improve autonomy, accountability and efficiency in the Ordnance Factories. There have been three committees which have been drumming up corporatisation. While the TKA Nair Committee (2000) had suggested converting OFB created in 1979 to OF Corporation Ltd., Vijay Kelkar who is the father of Public Private Partnership (PPP) and Offset Policy in Defence manufacturing, had recommended that the new OFB Corporation should be given Navaratna status like the HAL, which will help them to enter into JV arrangement with original equipment manufacturers (OEMs), co-develop products with reputed design houses and get into Transfer of Technology (ToT) arrangement.

Admiral Raman Puri in 2014, while chiming in corporatisation recommendation of the past, recommended splitting the OF corporation in to three clusters viz., weapons, ammunition and combat vehicles. Furthermore, Admiral Puri had suggested that Weapons, Ammunition and Explosives should be under the exclusive control of the proposed PSU; Combat Vehicles be produced in a PPP mode, low tech items such as clothing, uniforms, shoes and tents should be privatised.

The Corporatisation Model of OFB

The present arrangement of the government is significantly different in the sense that out of the proposed seven Ordnance PSUs, four PSUs will continue to produce gliders, parachutes, optics, components, ancillaries and products designed for troop comfort. The core three PSUs viz. Munition India, AV Nigam and Advanced Weapons and Explosives would provide 80 percent of the firepower, small arms, guns and tanks to the Army. Creation of four PSUs and not opening them up for privatisation and competition would only perpetuate poor quality and high price of products like shoes, uniforms and parachutes. While it made sense during the world wars when private sector capability was inadequate and India needed a captive and committed base of production in the hands of the government, with the ushering of economic liberalisation in India in 1991 with its thrust on Liberalisation, Privatisation and Globalisation (LPG), perpetuating production of low tech, non-strategic items in captive Ordnance Factories does not make economic sense. The government is persisting with these items, possibly due to bellicose unions based in factories located at Kanpur, Jabalpur and Cassipore.

Policy Evolution in Defence Manufacturing

The defence manufacturing sector was late in embracing economic liberalisation by a decade. In 2001, it allowed private sector to participate 100 percent in defence manufacturing and 26 percent in Foreign Direct Investment (FDI). While level playing field doctrine as advocated by Professor Kelkar to give equal opportunity to private sector players, has encouraged companies such as L&T, Mahindra & Mahindra, Godrej & Boyce, Tatas and a number of IT companies, the paltry 26 percent FDI has hardly enthused any major OEM to set up base in India. The government then announced an offset policy in 2014 to leverage India’s big ticket acquisition with promise of outsourcing, boosting exports and bringing in critical technology. The experience so far has been dismal, except for a trickle of outsourcing order for low tech items.

Dispirited by OEM’s lukewarm response to 26 percent FDI, the government increased the limit to 49 percent in 2014 and to 74 percent in 2020 for getting technology in niche areas. This is where India’s military industry capability presents a sorry picture, with weapons, propulsion and sensors predominantly imported. The highly hyped indigenous light combat aircraft (LCA) is powered by a GE 404 engine from the United States (US), while radar is sourced from ELTA, Israel. The Kaveri engine development by GTRE has been an unmitigated disaster. MBT, the showpiece indigenous tank is powered by a German MTU engines. Despite the significant hike in FDI, the inflow has been only $300 million during April to September 2020. This is largely due to the caveats put for allowing 74 percent FDI.

Latest Atmanirbhar Initiative in Defence Manufacturing

In August 2020, the Defence Minister indicated that as part of Atmanirbhar Bharat Policy in defence manufacturing, an aero engine complex with MRO facility will be built up as well with an export target of 25 percent. This will generate a production of 1.7 lakh core during the next five years. He has also stated that 101 defence items will not be imported which will ensure that the services will buy stores worth 1.4 lakh crore from indigenous sources during the next five years. A new category of sourcing viz. Indigenously Designed, Developed & Manufactured (IDDM) has also been included. Finance Minister Nirmala Sitharamam as part of fiscal stimulus had amended the General Financial Regulation (GFR) to discontinue global tender up to Rs 200 crore. Economists like Jagdish Bhagwati believe that such protection policies to bolster indigenous manufacturing will be against the spirit of free trade and globalisation which put a premium on competition, quality and cost. There is a suggestion for MSMEs to ramp up their R&D efforts and shore up manufacturing capability. Development of defence corridors in UP and Tamil Nadu are part of the strategic partnership model. In this backdrop, it will be important to see the production and profitability of our nine DPSUs and OFs.

Trends in Defence Manufacturing

India has the dubious reputation of being the second largest importer of conventional arms (9.5 percent) as per SIPRI 2021 report. The position of value of production and profit after tax of DPSUs and VOP of Ordnance Factories is given below. The OFs issue their products at a cost to the three services.

Table 1: Trend of Production and Profit after Tax of DPSUs and OFs (Rs. Crore)

Name of PSU 2015-16 PAT 2018-19 PAT
HAL 17273 1654 18100 2100
BEL 7782 1358 11900 1825
BEML 12740 52.6 3450 100
BDL 4299 563.2 3235 422
GRSE 1706 160 1375 105
GSL 728.9 61.8 906 132
MDL 4121 637 6625 524
MIDHANI 678 118 815 131
HSL 593.2 19 605 44
Sub Total 39921 4625 45011 5383
OFB 13047 12790
Grand Total 52968 4625 57801 5383

 Source: MoD Annual Reports

It would be seen from the above that out of a turnover of around $7 billion the defence PSUs earn a profit after tax of 12 percent, which is healthy. HSL which was taken over by Department of Defence Production in 2010, is now making profit as against its earlier loss making trend. The OFB, on other hand, does not show profit as it does not charge services any mark up on cost.

India’s Record in Self Reliance

India’s Self Reliance Index was assessed by the Kalam Committee in 1993 as 30 percent, with a roadmap to increase it to 70 percent in a decade. The Committee had identified a number of critical subsystems such as Focal Plane Array, Passive Seekers, Stealth, AESA radar, RLG where India’s Design & Development quality needs to be significantly ramped up. Even material like carbon fibres, required by ALH is not indigenously produced. India’s defence PSUs like HAL has been producing SU 30 on technology transfer from Russia. Similar is the story of the T90 produced at the Avadi tank factory based on technology transferred from Russia. It is making to foreign design rather than making from indigenous design. We are stuck with ‘Know How’ rather than ‘Know Why’, which is the sine qua non of a knowledge society which excels in design. The general diatribe against Defence PSUS is that they are good integrators of imported sub-parts rather than manufacturers in the true sense. No wonder the value addition of HAL in SU-30 production is less than 20 percent.

Pricing in Ordnance Factories and Indigenisation

There is a general criticism that OF products are highly priced. The following table will reflect the cost break up and profits which are charged for trading products like rifles to civil market.

Table 2: Cost analysis of Ordnance Factories

Parameter 2010-11 2014-15
Cost issues indenters 14253 16380
Values of issues to indenters 15425 16664
Profit 1172 284
Capital expenditure 544 746
Overhead as % of COP 27 30
Cost of stores 62 56
Cost of labour 9.4 12
Inventory as % of cost of production 67 75

 Source: Annual Report of Ordnance factories

Quite clearly the OH percent is very high (30 percent) compared to private companies for similar products which is 7 to 10 percent. Also, many factories show abnormal rejections which become part of Cost of Production (COP). Many of the old factories are bedevilled by old and outdated production machines. Induction of new machines happens mostly with new green-field projects like Nalanda and Korwa.

On the other hand, tank factories at Avadi have a record of 87 percent indigenisation of the T-90. The major problems afflicting OFB are not lack of autonomy or accountability but the wherewithal to improve capability. The R&D spending in OFB is as low as 0.7 percent to 0.8 percent of their turnover, while HAL spends around seven to eight percent. The other big drag has been expenditure on New Capital which is less than one percent of their revenue expenditure. The capital expenditure is also measly at three to five percent of total expenditure. While the OFs have a well-run Renewal and Replacement budget to replace obsolete machines, they invest very little in new capital and machinery. In the corporatised environment, they will have better access to funding New Capital and R&D. The Defence PSUS do not have a significantly better record in terms of price, quality and delivery. ALH, SU 30, Patrol Vessels are testimony to the persistent criticism from the user services. As an instance, when there was competition with GSL for IPVs, L&T bagged the order at 30 percent less cost than GSL and delivered much faster than previous record of GSL. Besides, discerning analysts believe that once the OFs become corporatised, they will go for market borrowing and would not have the benefit of interest free capital. For their modernisation also they will need to borrow from the market. This has the potential of increasing cost of OF products by at least 7.5 percent.

Concluding Thoughts

The corporatisation of OFB has to be seen in the overall context of improving India’s Military Industry Capability, improvement in Self Reliance Quotient, design capability in critical systems and quality, time and cost effectiveness. The shift from MMRCA ToT contract with HAL (Buy& Make) to Buy from Rafale directly is a clear demonstration how HAL has not been meeting user expectation and also of ToT partner. Assigning bulk of offset commitments from HAL to Reliance Company further buttresses the trend to prefer private companies over Defence PSUs. From captive producers, the Government is clearly opening out to the private sector. Another major development has been the ToT contract with Tatas rather than HAL for building 40 C295 transport aircraft. This is the first time that a major ToT is being availed of by a private company. L&T has also edifying record in the ATV programme and designing a stabilisation platform for the ship-based launching of the Prithvi missile Dhanush.

Click to Buy

HAL had signed a Design & Development Contract with Russia for Co-Production of the Fifth Generation Fighter Aircraft. The contract is as good as closed after initial hype. This clearly shows that efficiency of the DPSUs and OFs has become a matter of serious concern, apart from quality, cost and timely delivery aspects. On the other hand, a JV with Russia for manufacturing Brahmos missiles has been a success. MR SAM is another success story where a Co Design & Development with a design house of Israel has been a success. Instead of gloating over corporatisation of OFB, the government must do sober thinking on how to increase parcel out of many items from DPSUs and OFs like ALH (HAL), Surveillance Vessels (GSL) and low tech items produced by OFB to private sector and only concentrate on strategic items like fighter aircraft, frigates and submarines.

Besides, increased allocation to research, design capability is required. The present soft option of import must be replaced with a JV with reputed OEMs; Joint D&D with design houses must be attempted. Research must not be the prerogative of DRDO, who have a poor record in designing and developing aero engines, seekers, FPA, Air to Air Missiles and material like carbon fibres. The proposed aero engine complex must look into DRDO’s dismal record in designing a gas turbine engine for LCA. The Subramaniam Committee in 1964 had rightly pointed out that India does not have the expertise of designing an aerospace engine and must have a JV with major engine houses globally for producing one and profit in having good designers. The private sector, academia and design houses must be part of the mission towards higher self reliance. The rhetoric of Atmanirbhar Bharat must involve a sober stocktaking of these concerns and no unnecessary gloating over the fact that corporatisation will make OFs more efficient.

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The views expressed are of the author and do not necessarily represent the opinions or policies of the Indian Defence Review.

About the Author

Prof (Dr) SN Misra

was previously Joint Secretary (Aerospace), Ministry of Defence, Government of India.

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