Tuesday, 20 April 2010

India’s next big scam…

by Ajai Shukla
Business Standard, 20th Apr 10

Move over artillery gun deals… stamp paper… fodder and other scams! India’s pinnacle of subterfuge will soon belong to a new hustle called offsets through which pliant Indian defence manufacturers are set to ride to riches. Setting the stage for this shakedown is a disinterested Ministry of Defence, which has artlessly authored a scamster’s delight called the Defence Offset Procedure.

To recapitulate, the MoD’s procurement regulations (currently the Defence Procurement Procedure of 2008, or DPP-2008) impose a minimum offset of 30% in all contracts worth Rs 300 crores or more. Foreign arms vendors must discharge this liability through the purchase of products or services from Indian defence companies; or through investments into the infrastructure of JVs they set up in India; or through investment into Indian R&D organisations. In all cases, the essential first step is for foreign vendors to identify an Indian partner through which offset obligations will be discharged.

Viewing this through a more cynical and realistic prism, unscrupulous foreign vendors (most of whom regard offsets as state-legitimised extortion) are starting by identifying pliable Indian partners that will happily partner them in neutering the offset requirement. The DIPP confirms that rafts of small companies, many without a track record in defence, are applying for licenses.

To get an idea of the money at stake here, a recently released CII-KPMG report estimates that India will buy foreign weaponry worth some US $100 billion (Rs 4,50,000 crores) over the next 12 years. Going by this extremely conservative estimate (actual figures could be 50% higher), Indian defence companies will have to anchor at least US $30 billion (Rs 1,35,000 crores) in offsets business by 2022. That averages out to about Rs 11,000 crores every year.

So how will the skulduggery be structured? Let’s look at a hypothetical offsets tie-up between a hypothetical foreign company --- let’s call it Shipping, Communications and Munitions International, or SCAM International --- and an equally hypothetical small Indian company called 15% Partners. Each year, SCAM International will hand the MoD an offsets compliance certificate, along with a copy of an invoice from 15% Partners, as proof that goods worth US $100 million were manufactured and shipped by the Indian company. Actually, the goods were worth only US $35 million, but both companies had quietly agreed that 15% Partners would hold the excess amount on behalf of SCAM International. The Indian company is entitled to a fee of --- you guessed it --- 15% for its services. That means 15% Partners now has effective custody of US $50 million on behalf of SCAM International.

“The implications of this are frightening”, a senior defence ministry official apprehends. “A few years down the line, all defence kickbacks will be coming through the route of offsets. Currently, there is tight control over the money that foreign companies can bring in. Now Indian offset partners will become the agents that pay out bribes. That is why so many offset deals are being tied up with small and medium companies.”

Other ingenious stings are being fashioned out of offset partnerships. One foreign company has already asked its Indian offsets partner to start paying all the expenses for its executives visiting India. The costs of tickets, hotels, meals and entertainment will all be adjusted through over-invoicing offset supplies.

Making all this feasible is the MoD’s inertia in setting up the systems needed for tightly monitoring offset transactions. Currently a small, undermanned section --- the Defence Offsets Facilitation Agency (DOFA) --- handles everything relating to offsets. A section of the MoD argues for setting up an expanded, high-power, multi-agency Defence Offsets Management Agency (DOMA) that is equipped to minutely evaluate the impending flood of offsets proposals; keep a running account of banked offsets; and interpret and clarify offsets policy. But South Block continues to shy away from framing a holistic offsets policy.

“Are you surprised that they are leaving open loopholes?” asks a senior executive from a global arms corporation. “Who do you think will benefit from the kickbacks when they pick up momentum?”

Keeping a track of offsets is even more difficult when they are executed in Information Technology and services. But the MoD has not set up any specialist organisation, or even obtained specialist advice, for monitoring these fields.

Four years after offsets were announced their purpose remains a matter of speculation. The MoD has never declared whether offsets are meant to generate employment in the defence sector through mass manufacture; or to encourage high-tech R&D through collaborative ventures; or to bring in foreign direct investment (FDI) into the defence sector. South Block will probably avow that it wants all three. In this policy vacuum, vendors will naturally structure offsets to suit themselves rather than Indian defence industry.

Within the MoD there is disquiet; many bureaucrats fear that offset scams will have the potential to end promising careers. But there is little expectation that Defence Minister Antony, with his unblemished record of policy paralysis, will allow clarity to creep in unnoticed. And so bureaucrats are passing the buck. The Department of Defence and the Department of Defence Production are each trying to make the other responsible for offsets, hoping that, when the music stops, they will not be holding the parcel.


Tushar said...

I understand your logic when you state that the offset policies is filled with loopholes with reagrds to the JV's which will take place and Indian companies will inevitably be paying bribes to the investor companies, but when it is stated that D.O.F.A is undermanned, I get confused. If it is so, that the defence ministry is purposely setting up a regulation agency which will ultimately fail to stop corruption, then this nation is in severe need of reform, especially in defence.

But so far, Anthonys rubbish policies have kept home grown industries busy, and it has ultimately benifitted the process of modernization. Though I'm a lamen on this topic with regards to his other policies, but nothing can be as it seems.

Prime example is Shashi Tharoor and the IPL commis, never in a 100 years would I have doubted their credebility, but looks like I was wrong.

Anonymous said...

That is why you need to create RUR(Raksha Udyog Ratnas)to identify only serious business groups which have technical, financial and management capability to become a capable defence partner in a JV with a foreign vendor. Any partnership other than with RURs should not be recognized for offsets. Make a large list of major ratnas and semi-ratnas and depending on type of tech and product make it a requirement to venture with them specifically so that absorbed knowledge and experience is concentrated into specific raksha industries and not dispersed throughout various Tom Dick & Harry Pvt Ltds.

Daanish said...

The piece is excellent as usual, the only solution is to basically fund r&d in the country through research grants and giving them to institutions with a track record of delivering results. Local manufacturing of locally designed weapons is the only way, getting these weapons to compete on the open market will naturally force an increase in vendor/product quality.

Anonymous said...

Ajai Ji,
This article exposes you in many chinks you would not imagine. Think carefully about what you are saying. I do not think you have an argument.
Also, the culture of scamming people on pure hearsay when obvious criminals escape is not good for a nation. A fertile imagination is good, a wild one is not.

AK said...

It is high time that Shri Antony and his poodles are examined for corruption ala Shashi Tharoor. He has cost us billions of dollars and thousands of soldiers lives.

devasis said...

Offset policy is not bad per se but its implementation is dependent on the willingness of the MOD to forge a policy which results in a win win situation for both the vendor and indigenous industry.Otherwise the MOD will end up paying for the extra cost totted up by the foreign supplier in his charade of complying with the DPP.
The present practice of leaving all implementation to short tenure bureaucrats who have no interest in furthering the nation's quest but in their careers will only fuel ingenious methods of a local party cosying up to a foreign partner. You scratch my back I shall scratch yours.

Broadsword said...

Anonymous 14:05:

Do you have a counter-argument, or only dire warnings and sage advice?

Anonymous said...

This is a very small part of the tip of the iceberg. Psephologist GVL Narasimha Rao has recently written an excellent book on hacking of EVMs. See http://www.indianevm.com/book_democracy_at_risk_2010.pdf

Anonymous said...

Hi Ajai,

Why can't we have JVs between the DPSUs and large private enterprises like the TATAs, L&T etc.? It could be a 51:49 model with the private partner getting the majority stake so that these JVs can be professionally managed in corporate style. Then these companies can be registered as Pvt. Ltd. and hopefully can be granted the RUR status too. Essentially, such a mechanism will augment the capabilities of the DPSUs and make them more efficient and profitable and at the same time allow the private players to enter the defence market in a big way without treading on the feet of the MoD/DPSUs combined.

Just for example, imagine if HAL joins hands with the TATAs to build a JV and name it as TATA-Hindustan Pvt. Ltd. This entity can take up production related activities of helicopters, assembling and producing MMRCA aircrafts, trainers etc. so that HAL can concentrate on cutting edge R&D and more important projects like LCA, FGFA etc. This way all the projects can be fast tracked and capacity can be dramatically enhanced and everyone will be happy in the end.

Anonymous said...

Ajay has done an incisive analysis of what the future holds for the defence procurements. I don't think South Block babus are unduly worried, pretensions not-withstanding, as they will know where the anonymous farm houses will come from. It is shameful and pitiable to see various defence ministers being hoisted on the MOD, who has no clue of what India's interests or strategic thinking is. Some of us still remember a RM asking PPTs to be translated into Hindi!!! Sparkling white lungis can not be the hallmark of a clean image. Other day I was sitting in a CII session where a joint secretary (earlier in MOD Prod) led NDC delegation was welcomed. The joint secretary was imploring all CII members to take advantage of the offset policy...now whatever it may mean. Result is evident - the hollowness will become further pronounced, even Gen VK may shout from the rooftop. Can veterans take up the cudgels of exposing the government's inertia? Ajay or Bharat are better positioned for that than the Oberois, Maliks etc, since they are not looking for governorship...defence forces need to raise their voice on the urgency to modernise and remove decision paralysis from MOD - KK

Anonymous said...

Regarding the comment that MOD not setting up tight regulation and monitoring, we had seen such tighter systems causing unwanted delays and killing many industries. This is a new policy and the monitoring and control will grow as the plan progresses. Antony's comment that DPP is an evolutionary one and not a revolutionary one is indicating this.

Anonymous said...

First of all, I would like to congratulate you for bringing out in the main foyer what many of us had in our minds regarding the so called offset policy of our defence procurement procedure. Although, offset policy is good for our defence industry but like many of the other government policies, it lacks the very inertia in its implementation. The perception that offsets in the longer run could well churn out top be a mechanism for kickbacks in defence deals or become a legitimate path for official bribes to Defence and MoD officials cannot be entirely negated. Your article also brings out about on 'DOFA'. Looking at the constitution of 'DOFA' members as per MoD website it is confusing to know what constitutes 'DOFA' in real terms. If one has dealt with the offsets, very often he is channelised towards the offices at Directorate of Planning and Coordination of Department of Defence Production of Ministry of Defence for queries related to offsets. I understand that this Directorate consists of civilian and defence officers on deputation from varied background who have either no knowledge or minimal knowledge on offsets to begin with. Now, with frequent changes in the guard, inconsistency and unpredictability becomes apparent with each officer at the helm having his own perception and yard stick to follow. As I understand offset is being dealt by multi facets department in MoD viz by officers of Directorate of Planning & Coordination in Department of Defence Production representing as 'DOFA', by another wing of Department of Defence Production for offset banking, by Acquisition wing under Department of Defence to monitor the offset after offset contract has been inked whist the main contract is being monitored by the respective service headquarters. I feel that the need of the hour is to strengthen 'DOFA' by allowing continuity and by bringing in all facets of the offset under one umbrella whether it is its review of policy, interpretation, implementation and offset banking. MoD needs to be more proactive specially since the offset policy has been in vogue since 2006!!

Maratha Mind said...

I kind of agree with the argument put forth in this article that this 'inaction' is as good as bad action on the part of Mr A K Antony.

Setting up a new DPP but not putting up a Monitoring system is tantamount to allowing corruption. Yes, he is a busy man but this should be one of his priorities rather than going around inaugarating new war ships commision,etc.

We definitely know the nature and quality fo our politicians,. I suggest that the services of Comptroller and auditor general can be used and shoudl be used to monitor the new DPP process execution.

I recently cam to know that th CAG is increasing its team drastically and i am sure they would love to form a team to exclusively monitors the 28000 crores being spent annually.

Sarang said...

Just a calrification, if they take pains to get the non entity to manufacture 35 million of goods and show 100 million, they have made the effort to give that manufacturing capability to the small firm. I guess any policy will always find loop holes, but will every company in business be dishonest

Anonymous said...

I have a story to tell.......

I work in a SME. We may be a small pvt. ltd. company, but we are "the only Indian manufacturer" of a key safety product (which we designed ourselves), which is fully "approved" by military certification authorities, and also proven extensively, as our products are carried onboard most fighters of the IAF, all transports, AN-32s/IL-76s, Dorniers, Sea Kings etc. we keep getting orders locally, so no complaints on this front.

The alternative to procuring from us......is to purchase from foreign companies.

We have a "good" and "clean" reputation within defence circles. I guess we are lucky. since we could "afford to be rigid on being clean", as their is no alternative to us (except buying from foreign manufacturers, invariably a much more expensive proposition).

But despite all this, we have still got no offset orders!!

Whenever we approached big foreign manufacturers who have won contracts for billions of dollars.....no one entertained us And I must clarify that it is not that our "marketing efforts" were lax.

We assumed that probably we are too small....meaning our products offer very little "offset value" to the foreign biggies. They probably prefer to have a few big offset contracts rather than several smaller contracts. This seemed logical to our "clean" leanings. And there was nothing wrong in it.

But this article by Ajai Shukla puts the whole issue in an entirely new perspective.

My company for one.....will not play this way. The result is that India will end up paying more (for equipment already available in India being manufacturerd by us). If they dont buy from us....you can bet they are buying this from abroad (who will invariably be more expensive).

But price apart....doesnt this defeat the objective of the whole offset policy?

This is a slight irony.

But we are not shedding tears. We are ramping our R&D efforts, and have a few "new products" in our roadmap. Stuff that will help make a difference.

Broadsword said...

Anonymous 19:37

Hmmm! That's a very interesting situation... and I have a couple of thoughts on it.

I would love to talk to you if you have the time. Do email me at broadswordbs@gmail.com


Ajai Shukla