Offsets Versus the Lure of Make In India

A global Request for Proposal (RFP) for 126 Medium Multi Role Combat Aircraft (MMRCA) for Indian Air Force was floated in 2007. An offset clause of 50 percent was built into this RFP. However, on 10 April 2015, owing to the critical holding of Fighter Squadrons in the Indian Air Force, Prime Minister Narendra Modi announced direct purchase of 36 Rafale Fighter Jets in a fly-away condition as a Government to Government (G2G) deal with France bypassing the laid down RFP route. The announcement by the Prime Minister was a general direction for the way forward and the fine print of the agreement was to be worked out at the appropriate level by both sides.

The above announcement was followed up by negotiations between the two governments to reach mutually acceptable terms and conditions for the final agreement. In one such recent negotiation, the French Government has reportedly rejected India’s insistence for a 50 percent offset clause citing sharp cost escalation, and instead offered to participate in ‘Make in India’ projects to carry forward the talks for 36 Rafale fighters. There are indications that France has offered to manufacture Falcon business jets or Rafale Fighter Jets in India as part of this proposal.

‘Make in India’ being its signature campaign, the Indian Government may be lured into accepting the French offer and dropping the offset clause by citing gains that may accrue by accepting the ‘Make in India’ offer. However, before going further in accepting the offer of the French, it would be prudent to understand the relevance of offsets in the Indian context and as to why there should no compromise on the offsets clause.

‘Make in India’ holds more relevance in sectors other than defence; the imperatives for ‘Make in India’ insofar as defence production is concerned, has a connotation at complete variance to the economic advantage of this campaign. While in non-defence sectors the objective of ‘Make in India’ will be purely economic, the prime objective in defence is self-reliance; economic advantage and job creation come only as related benefits. What also needs to be understood is that niche technologies, like designs and source codes of defence equipment, are very closely guarded secrets and no original equipment manufacturer (OEM) will part with these secrets. Thus the ‘Make in India’ offer by Dassault for Rafale fighters is likely to be a low-end technology venture involving assembly of the main component kits supplied by Dassault from France.

The relevance of India’s Defence Offset Program is evident from the objectives of Defence Offsets Guidelines (DOGs) revised in August 2012, spelt out as under:-

• To leverage capital acquisitions to develop Indian defence industry by, fostering development of internationally competitive enterprises.
• Augmenting capacity for research, design and development related to defence products and services.
• Encouraging development of synergistic sectors like civil aerospace and internal security.

At present, India imports about 70 percent of its defence requirements. The present Government has set a goal to reverse the trend by 2020 and achieve indigenisation of all defence requirements to the extent of 70 percent. The prime aim of MoD’s revised DOGs was to leverage capital acquisitions to develop India’s defence industrial base (DIB) and in turn promote research and development in the defence sector.

The ‘Make in India’ initiative is at a nascent stage and the rules of its implementation are still to be laid out. The Indian offset programme, on the other hand, has been through a number of iterations since 2005 and has matured to quite an extent, evident in the provisions of the 2012 DOGs. The most important issue in offsets is the provisions of safeguards against the OEM offering low-end technology in the form of either multipliers in offering transfer of technology or the buyback clause. Accepting an adhoc proposal of ‘Make in India’ by the French Government in lieu of a well thought of clause for seeking 50 percent offsets may end up with no enhancement to India’s defence production capability as the French OEM are unlikely to offer any niche technology.  The best of brains in the Defence Procurement business need to sit down together to work out the agreement that we need to propose to the French Government.

To sum up, these are the reasons why India should not fall to the lure of accepting the ‘Make in India’ programme in lieu of offsets:-

• Strengthening of the DIB is a structured approach which involves a clear understanding of the kind of capabilities to be built up, the technologies required for the same, seeking transfer of technology from foreign OEMs as part of acquisition contracts or offsets and simultaneous setting up of infrastructure and the training of the work force. Such an elaborate process has to finally make an economic sense in terms of generating the required business to offset the high cost involved. The Indian Offsets Programme has catered for all the above tenets, matured over the years and focuses at promoting self-reliance in defence production.

• The ‘Make in India’ initiative, on the other hand, is an economic venture designed to facilitate investment, foster innovation, enhance skill-development, protect intellectual property and build best-in-class manufacturing infrastructure with an aim to promote India as an investment destination. Specific guidelines for its implementation in each sector are still under formulation and require a great deal of deliberation to ensure best results. Hence, the French offer of ‘Make in India’ will leave the entire project open-ended and not lend any momentum to self-reliance in defence production.

• The current agreement of procurement of 36 Rafale Jets including the support infrastructure is likely to be priced at approx US $7.5 Billion. At 50 percent the offsets value works out to US $3.75 Billion. This is a substantial amount and is ideally suited to test the efficacy of the recently revised DOGs. The opportunity to lend impetus to the Indian Offset Programme with an offset value of this size must not be lost to an unplanned offer for ‘Make in India’.

• The French Government’s insistence of not accepting the offsets clause needs to be countered by arguing of advantages that they may accrue by offering cutting edge technologies to DRDO (which has a provision of a multiplier of upto three). By doing so Dassault would receive additional credits towards their offsets in effect reducing the effect of cost escalation claimed. 

• The contract offers substantial business to M/s Dassault and will keep their production lines busy for nearly three years. The OEM always meets the offset obligation although the deal might be a G2G venture. Since the offset clause was very much the part of the initial RFP in which the OEM had participated and submitted a commercial offer, it is fair to assume that the price quoted by M/s Dassault would have catered for the fulfillment of offset obligation. Hence, citing cost escalations at this stage does not appear a credible argument.

However, it is also important to understand the urgent operational requirement of the Indian Air Force and the imperative that the main procurement should not be jeopardized by the outcome of the offset proposal. Negotiations with the French Government should thus be supported by diplomatic effort by the Indian Government and the economic clout of the MMRCA deal, often called a ‘mother-of-all’ defence deals, should be leveraged to Indian interests.

The author is a Senior Fellow at CLAWS. Views expressed are personal.