FDI in Indian Defence Needs Clarity
On 16 July 2013, the UPA government decided in principle to open up as many as 13 sectors for foreign direct investment—ranging from 49 per cent to 100 per cent—with different caveats. Some needed approval through automatic routes, some through the Foreign Investment Promotion Board (FIPB), and others with distinct riders.
While the timing and other related aspects of this decision have already received much attention, there is enough confusion among stakeholders regarding increased FDI from the existing 26 per cent to the conditional 49 per cent in the Indian defence production sector. When the decision went viral, stakeholders in the Indian defence sector (foreign arms manufacturers, Indian private companies that intend to produce defence items and services, state-owned defence public sector units, DRDO and other relevant agencies) became clueless for obvious reasons.
A set of interrelated questions was asked: a) what is the status of FDI in the defence sector after this announcement? b) has it been increased from 26 to 49 per cent across the board as per media reports? c) if so, whether through automatic route or clearance from FIPB or any other method; and d) how should stakeholders devise their actions further.
In the absence of any meaningful clarification from the MoD or similar government quarters thus far, interpretations of the decision can likely lead to different (often erroneous) conclusions. It is thus important to put the announcement in perspective and strive to draw reasonable conclusions.
For immediate reasons, I will attempt to analyse this decision in a larger framework that has three dimensions: contextual, operational, and factual. I will start with the last—facts.
Facts say the following: a) Subject to any addendum/clarification from the MoD (which had not happened at the time of writing this piece), the FDI cap remains at 26 per cent in the Indian defence sector, which means that there is no change; b) any business proposal beyond 26 per cent where it brings in substantive state-of-the-art knowledge in defence science and technologies could get a look-in by the MoD, which need clarifications on terms used in the announcement; and c) eventual consideration of a proposal considered by the MoD is subject to approval by the Cabinet Committee on Security (CCS), which is a routine procedure.
In sum, the policy related to FDI in the defence sector has not changed, except for investors who want to invest in the Indian defence sector by offering next-generation products suitable for Indian purposes.
Now, let's examine the operational dimension. This is crystal clear: if a defence contractor (variously defined as an original equipment manufacturer (OEM), system integrator or a prime or sub-prime contractor specialising on critical aspects of defence and dual-use technologies) wants to invest in India, it has to share a substantive portion of its knowledge and abide by applicable national legal frameworks.
Simplistic contextual dimensions suggest an attempt by the Indian political leadership to thrust upon and impress the Defence Minister to open up the defence sector for foreign investment, which smacks of two types of desperation: a) to appease foreign stakeholders and b) to give a further boost to the ailing Indian economy by opening up a hitherto closed sector which has a vast economic/commercial potential. Pragmatic or otherwise, the minister and the ministry have not succumbed to this pressure from their peers. A little more pragmatism should have been shown by the highest level of political leadership.
On the surface, the indirect influence exerted by foreign prime defence contractors to raise their stakes in the Indian defence sector has fallen flat. The MoD still restricts the FDI cap to 26 per cent only, subject to selective approval. This entails implications not only in the FDI domain but also in offset obligations.
The bulk of foreign prime contractors is likely to set different conditions for offset partnerships while discharging their overall contractual obligations in defence contracts. Such an apprehension suggests that while foreign primes would be reluctant to invest in financial or technical domains, the Indian state-owned public sector units and private companies would have to demonstrate their capabilities to attract large defence orders. In sum, both Indian and foreign companies will have to jostle for space in the lucrative Indian defence market.
Most importantly, the MoD must clarify its position on FDI, preferably through an official notification or a press release. Even that may not suffice! It must clarify and define, where applicable, terms like ‘state-of-the-art', ‘next-generation technologies', ‘conditional approval', and the like. Inadvertently or otherwise, the Minister of Commerce Anand Sharma said that the Defence minister would define the term ‘state-of-the-art' in due course of time. So, it is advisable that we wait till we hear from him or his ministry clarifying such terms.
In any case, we know that FDI in the defence sector is 26 per cent; we also know that a foreign company can place a proposal before the MoD suggesting an investment beyond 26 per cent with difficult riders. Such proposals are likely to be rejected unless they conform to sharing ‘state-of-the-art technologies'. This is what the MoD must clarify: what is a ‘state-of-the-art technology'? An official notification in this regard would be highly appreciated.