Implosion: India’s Tryst with Reality

by John Elliott

  Little of significance happened in the following years because of opposition from the defence establishment. In 2005, a committee headed by Vijay Kelkar, a leading economist and government official and adviser, recommended, along with other reforms,44 that the best private sector firms be given the status of Raksha Udyog Ratnas (defence industry jewels or champions). These companies would be treated by the government on an equal footing with DPSUs when allocating projects. In 2007, the ministry examined 40 companies and found 15 eligible including Larsen & Toubro (L&T), Godrej & Boyce, Tata Power SED (Strategic Engineering Division), the Mahindra group, and Tata Motors, together with information technology companies such as Tata Consultancy Services (TCS), Wipro, Infosys and HCL, and various public sector corporations that do not come under the DPSU classification.45

  The private sector had been demonstrating its ability to produce the necessary sophisticated engineering as early as the 1950s and 1960s. That was when Godrej & Boyce, one of India’s oldest family groups, built aluminium shells and research equipment for India’s first nuclear reactor at Trombay. By the mid-1980s, it was making rocket parts for the country’s space programme, along with L&T, a leading engineering construction company. These two firms had skilled welders, fabricators and engineers who enabled them also to become competitive internationally on pressure vessels and process equipment for the oil and petrochemical industries, which led to work on rockets and similar projects. ‘We had skilled workmen who could do anything, fabricating sheet metal with precision machining and high-tech welding,’ Jamshyd Godrej, chairman of the family-controlled company told me in 2007.46 (Godrej’s metal bashing and welding skills have produced thousands of more mundane office safes, filing cabinets and other metal products, and even made the world’s last manual typewriters.)47

  These two companies, and others such as Tata Power SED, developed similar skills and could therefore have been the basis, decades ago, of a flourishing international defence manufacturing industry, along with shipbuilders and others. This was stymied however, primarily by the defence establishment’s opposition and its appetite for readily available imports. Significantly, India’s development and production have thrived in areas such as nuclear science and rockets – as the Mars launch showed – where imports were not possible because of international bans on high-technology co-operation that continued till the 2009 deal with the US.

  Indian companies had not been welcome in the West to participate in strategic programmes because of international worries over leakage of dual-use technologies, and America’s space agency, NASA, would not consider working with them, explained Godrej. That boycott was strengthened by bans imposed after India’s two nuclear tests in 1974 and 1998, and so ‘we were isolated’, he said. Illustrating the private sector’s potential, the company is now contributing to building the Indo-Russian Brahmos missiles and supplying space and defence customers in the US, Europe, UK and Israel, in addition to India.

  There was an early breakthrough for companies in 2006, when the army awarded two $20m contracts for rocket launchers to be used in its Pinaka missile system to Tata Power SED and L&T. This was the first time that private-sector Indian companies had been appointed as prime contractors on a defence project, however small, with overall responsibility for system integration. Tata and L&T had begun design work on the launchers for the DRDO 17 years earlier, in 1989, but had to wait till policy changes began to catch up with the army’s needs for rapidly advancing technology. ‘Like Israel, India has the right skills and low-cost design and testing capabilities to compete internationally,’ Rahul Chaudhry, chief executive of the Tata company told me at the time.48

  These and other companies, however, needed assurance of a flow of orders before they would commit investment and resources to product development, and they also needed help with research costs, none of which was forthcoming till recently. Government officials sometimes suggest that the private sector should have bid for contracts abroad to offset uncertainty at home, but companies were loath to shoulder the risks in highly competitive and complex export markets when they had not already developed expertise and sales in India. Some now admit that they should probably have acquired foreign defence manufacturers to gain access to technology and new markets, as the Indian auto industry has done, for example, most notably with Tata Motors buying Britain’s Jaguar-Land Rover business from Ford of the US, but these groups had other priorities.

  The Raksha Udyog Ratnas proposal would have given the companies the confidence to build capability in India and maybe abroad but, faced with strident opposition, A.K. Antony shelved the proposal in 2010 after he took over from Mukherjee, who had appeared to be in favour. Antony did so partly in response to complaints from the DPSUs, but there was also pressure from smaller private sector defence equipment companies, which argued that they would lose out. The crucial opposition, however, came from three trade union federations linked to Congress, the BJP and the CPI(M), which most unusually united to argue against the Kelkar proposals and especially the one on Raksha Udyog Ratnas.49 Antony found these complaints irresistible, thus halting the most quickly implementable of reforms. The only proposal that went ahead was to introduce ‘offset clauses’ in projects that require foreign suppliers to buy 30 per cent of a contract in India, but Antony bowed to foreign pressure and watered down the plans that could have forced foreign suppliers to transfer significant technology.

  Private sector progress has also been hampered by a lack of lobbying pressure in Delhi, where the heads of groups such as Tata, L&T and Mahindra have other, higher priority battles to fight. That could change if Mukesh Ambani, who runs Reliance Industries and has more influential muscle than the current private sector line up, succeeds in his ambitions to enter defence and become India’s biggest private sector aerospace manufacturer. As a former defence ministry official said at a private meeting attended by a Reliance executive, ‘We do expect things to change now you are here!’

  He was referring to Reliance being chosen by Dassault of France as its Indian manufacturing partner on a $10–15bn contract for the 126 medium multi-role combat aircraft that Boeing and Lockheed lost.50 Reliance’s ambition to become a leader in a market where it has no experience by manufacturing Dassault’s Rafale jets took the industry by surprise in 2012, but it was typical of the Ambani style and it could be a success because Reliance has ample cash reserves for investment. Mukesh Ambani also has proven strengths in government lobbying, though they are not as all-enveloping as they used to be. The group is strong in engineering, albeit in building oil refineries and petrochemical plants, not advanced mechanical engineering products like aircraft. The proposed deal inevitably upset Hindustan Aeronautics, which had assumed it would automatically be the main manufacturing partner, as it has always been in the past for foreign aircraft. That Dassault thought otherwise – the company said it was not prepared to be responsible for the quality of HAL’s work – was an indication of HAL’s declining reputation and of problems that other foreign manufacturers have had with its poor performance.

  Foreign Equity

  It became evident during these years that big foreign defence companies were not willing to commit advanced designs, management time and money in joint ventures when they could only have a 26 per cent equity stake. There have been many link-ups between major international companies from the US, UK, Israel and elsewhere with Indian defence, engineering and software companies, but these are more concerned with meeting requirements on the ‘offset clauses’, and laying the foundations for later possible developments, than for any significant current technology and manufacturing transfers.

  In June 2010 and again in 2013, the commerce ministry proposed a much higher foreign equity level of up to 100 per cent. Many Indian companies and industry federations wanted 49 per cent so that they could attract foreign investors and know-how, while maintaining control of their companies and avoiding the risk of new partners dominating boardrooms and changing management styles and cultures. Agai
nst this, there were understandable concerns that, even with the high equity levels, foreign governments could block technology transfers on an item-by-item basis. That would have meant that foreign companies had the benefit of higher equity stakes without having to hand over technology. On balance, the industry mood was for the 26 per cent to be raised to 49 per cent on a case-by-case basis, with safeguards against some countries, presumably China, together with other security-related restrictions including an ability to block takeovers.51 This was resisted by Antony and the defence establishment, but the government eventually announced in July 2013 that the existing case-by-case rule for more than 26 per cent limit would be relaxed up to 49 per cent for what was called ‘state-of-the-art’ technology.52 This looked significant at first glance, but it was so unspecific that it gave the defence establishment ample opportunity to block most applications and was unlikely to attract any significant foreign response.

  Another whiff of reforms had come in 2011 with a revised defence purchasing procedure (known as DPP-2011). This picked up an idea broached in 2006 for a range of ‘buy and make’ categories that would enable the Indian private sector to become more involved, transferring technology from abroad that would then be used and developed in India with the help of government finance. Uncharacteristically, Antony implemented this in July 2012 when, after long delays, the Indian Army invited the private sector to compete against DPSUs for the design and development of a $2bn (Rs10,000 crore) internet-based project called the tactical battlefield communication system. The government would cover 80 per cent of development costs and the remaining 20 per cent would come from the private and public sector companies.53 The US and other countries use the same sort of ‘make’ procedure, but the Indian defence establishment had lobbied strenuously against it, especially on this project. Bharat Electronics, a DPSU, wanted exclusive rights so that it could prove itself on advanced internet technology, though it would have almost certainly merely imported a massive amount of technology and components without India gaining any real knowhow. The companies involved were L&T, Tata Power SED and HCL, competing against Bharat Electronics. The battle was far from over, however. Progress on awarding the contract has been slow, as have similar plans for a ‘futuristic infantry combat vehicle’ (FICV).

  Antony began to acknowledge that the private sector should have a greater role from February 2013, when he came under pressure over the latest of a string of corruption cases on foreign defence contracts that eventually upset a planned $750m order with Finmeccanica of Italy for 12 British-made Augusta-Westland ‘VVIP’ helicopters. This case, which began with corruption investigations in Italy, drew Indian media attention to the 70 per cent import figure and led Antony to promise changes.54

  The outlines of what might happen were announced in April 2013,55 when the defence ministry admitted at last that ‘the only way forward for the country is rapid indigenization of defence products, with both the public and the private sectors playing pivotal roles in this endeavour’. Preference would be given ‘for indigenous procurement’ with ‘global cases being a choice of last resort’. It was not clear how much change this would generate, mainly because Indian-made aircraft, ships, tanks and guns would not be available unless foreign defence manufacturers and technology were attracted into the country with relaxed equity investment regulations. That was followed by a new defence purchasing procedure (DPP-2013) that aimed to boost private sector involvement by sharpening the definition of ‘indigenous content’ so that foreign components were not used by the DPSUs in supposedly Indian-made equipment.56 There were also proposals for the defence establishment to share advance information on armed forces’ requirement with industry, and to identify procedural entry points where companies could be involved in purchasing decisions.

  It seemed, therefore, that reforms were on the way that would begin to correct some of the failings that have seriously impeded India’s defence preparedness. But, once again, the momentum was swiftly dissipated and little more was done by Antony. The new defence minister appointed after the 2014 general election should make a difference, and Narendra Modi, the BJP’s prime ministerial candidate, has talked about strengthening India’s defences and opening up manufacturing to the private sector, especially in Gujarat. But whoever has the next stab at reforms will find that the defence establishment is adept at stymieing changes.

  Defence Graft

  Corruption on India’s defence deals is as old as the country’s independence. Historians point to the army jeep scandal in 1948 as the first example. It involved V.K. Krishna Menon, India’s high commissioner in London, who later became ambassador to the United Nations and Nehru’s powerful defence minister. While he was the high commissioner, he organised a Rs 80 lakh contract with a UK company for 2,000 reconditioned jeeps, but only 155 were delivered. Menon was also involved in similar failed contracts for rifles and American B25 Mitchell bombers.57 Official inquiries on the jeeps criticized the contract, which became highly controversial, but the government unilaterally closed the case in 1955 and Menon became a cabinet minister the following year.

  The payment of bribes was dramatically revealed in 2001 when Tehelka (then a news website) ran a sting that filmed Bangaru Laxman, who was the BJP president, accepting Rs 1 lakh in cash as a kickback.58 Others, including senior army officers, were also caught on film in the sting, which was called Operation West End after the name of a fictitious London-based company seeking sales for its thermal imaging binoculars. Laxman was jailed for four years in 2012 when he was 72, but was released on bail.59 This was a rare case of a conviction for defence corruption – it has been the only one successfully achieved by the CBI out of 22 defence cases in eight years.60

  Bribes and extortion are now an integral part of a self-serving and highly corrupt system where money is paid at all levels from a few hundred rupees to defence ministry clerks for moving files (or delaying those of competitors) to millions of dollars paid to politicians and officials responsible for placing large defence orders. There are various points in the purchasing procedure at which corruption kicks in. When specifications are being drawn up, companies try to influence the choice of technologies and the wording of requirements so as to better their prospects and eliminate competitors. The next points are when companies are being selected for inclusion in formal requests for information, proposals and tenders, and then the conduct and reporting on field trials. That is followed by final shortlists and examination of technical and financial bids and the eventual award of the contract.

  The largest, well-established companies do not usually have to pay bribes at the initial stages, though newcomers and smaller businesses do often need to persuade officers around the rank of a lieutenant colonel in the army to be included. Substantial payments are often needed for smaller and medium-size firms to be put on component-supplier lists by DPSUs and research organisations. This is especially significant if officials are to be persuaded not to go out to tender and only deal with a single supplier, which accounts for about 70–80 per cent of public sector orders.61

  This happens in many countries, of course, and is probably worse in some, not least in Russia where officials expect to be paid bribes for supplying products as well as placing contracts. In India, the system has become so embedded that it is dragging down both the ethos and the military effectiveness of the armed services.

  Bofors and Others

  When I first came to India in the early 1980s and Indira Gandhi was the prime minister, there was gossip over who might have been involved, in Paris as well as Delhi, during the handling of alleged large-scale bribes on a big contract with Dassault of France for Mirage fighters, and on a 1981 order for four $150m submarines with HDW of Germany. The assumption, which seemed to be acceptable publicly, was that bribes were collected for Congress party funds, but that Gandhi did not personally benefit. She was believed to have a very small group of three or four people including a top minister, an official in her office, and a businessman located abroad w
ho handled the money discretely and secretly in Delhi, London and maybe Switzerland. Sanjay Gandhi was also sometimes rumoured to be involved. In May 1987, I wrote in the Financial Times that Congress had ‘increasingly relied on large kick-backs from defence and other international contracts for party funds’, and that Sanjay Gandhi ‘was believed to have orchestrated this for his mother before he died in a light aircraft crash a few days before the submarine deal was finalised in 1981’.62

  Kickbacks ranging from 5 per cent to 10 per cent, I wrote, were assumed to have been paid to the Congress, irrespective of ‘whether they were paid in India, into Swiss bank accounts, or were laundered in some way’. Having gained specific information from defence companies, I added, ‘virtually every big contract was assumed to include such arrangements, and companies often knew whom to expect as the collector … often the middlemen were assumed to be creaming off some cash for themselves, while individual ministers and top bureaucrats also made their own demands’. On one deal I heard directly about, the London collector said to the company chairman, ‘do involve me from the beginning of your negotiations next time’.

  The Mirage and HDW deals were eclipsed in 1987 by India’s longest running and politically most significant defence scandal that arose while Rajiv Gandhi was prime minister, after India placed a $1.4bn contract in 1986 for 400 155mm howitzer guns with Bofors of Sweden.63 This led to allegations of Rs 64 crore (then about $50m) bribes, which was a tiny amount compared with today’s massive billion-dollar corruption, but the case has reverberated ever since through India’s political system and the courts. It contributed to the defeat of Gandhi’s government in 1989 because of suspicions (denied and unproven) that those close to him may have benefited, and it has embarrassed the Nehru-Gandhi dynasty for years.