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April 16, 2015

What’s at stake in the govt’s deal for Rafale jets?


India’s decision to buy 36 Rafale fighter jets off-the-shelf from French manufacturer Dassault Aviation SA has left in limbo a nearly decade-old tender for 126 planes for which the French company was shortlisted.
Scrapping the tender would mean the loss to India of a business opportunity potentially worth Rs.27,000 crore under the defence offsets policy. The policy requires any foreign company winning a deal worth at least Rs.300 crore through a competitive bidding process to source components worth 30% of the value of the order from Indian suppliers or manufacture them locally.
Prime Minister Narendra Modi, during his visit to France last week, struck a government-to-government (G2G) deal to purchase the 36 jets, cutting through the red tape of a prolonged arms acquisition process to boost India’s air defence capabilities. The value of the deal wasn’t disclosed.
The offsets policy is not necessarily applicable to G2G deals.
“There was an urgent strategic and operational need for aircraft to meet the immediate requirements of the Indian Air Force (IAF). So, it is a sensible decision to go the G2G route,” said Dhiraj Mathur, partner and leader (national aerospace and defence practice) at consulting firm PricewaterhouseCoopers Pvt. Ltd.
“In any case, we have been buying equipment on a G2G basis from a number of countries in the past and the defence procurement procedure has a provision for these. So nothing (is) really new or extraordinary,” Mathur said.
“However, there is no clarity on the pricing though there are various reports suggesting that prices could be lower compared to the 126-plane tender bid. It would be expected that they would be lower since there is no transfer of technology or local manufacture,” Mathur said.
On Tuesday, defence minister Manohar Parrikar told television news channels that the Rafale is a costly fighter plane and 126 of the planes will cost around Rs.90,000 crore.
So, a business opportunity possibly worth Rs.27,000 crore for India’s defence and aerospace sector will be lost if the original tender is eventually scrapped.
Signalling that G2G deals could be the template for more deals with the French company in the future, a defence ministry spokesperson posted on Twitter that such deals are better than going through the competitive bidding route for “acquisition of strategic platforms”, citing Parrikar.
On the Rafale deal, here are the questions that the government needs to answer.
Deal size
Parrikar has told television channels that the price negotiations are yet to be completed for the 36 Rafale planes. The minister said both governments will work out the details.
Does it make sense for India to announce a deal before the price is agreed on, considering that the French are known to be tough negotiators?
Dassault, shortlisted in the 126 plane tender, was negotiating hard with the Indian government to change the RFP (request for proposal) rules.
It wanted no ownership for 108 planes to be built by state-run Hindustan Aeronautics Ltd (HAL), even though the mandate in the tender clearly mentioned that HAL would be the prime partner. HAL declined to comment for this story, saying “it is too premature”.
Offsets
What happens to various Indian companies that were keenly looking at work orders from the fighter deal?
On Monday, Parrikar said “one car cannot run on two different roads” when asked whether the original tender had been scrapped. But the defence ministry spokesperson said the tender had not been officially cancelled and that one could not jump to conclusions about the fate of the offsets.
The offsets opportunity is expected to be worth $15 billion within the next 10-15 years, assuming that several proposed purchases are completed on time, consultancy firm KPMG said in a recent report.
“There is no clarity in the Rafale deal and the offset opportunities. Even in G2G negotiations, there could be an offset clause that could be built in. But these offsets will largely favour defence public sector undertakings (PSUs), not private sector companies,” said a senior executive at Larsen and Toubro Ltd (L&T) on condition of anonymity.
Bharat Forge Ltd, Anil Ambani’s Reliance Group, Tata Group, Mukesh Ambani’s Reliance Industries Ltd (RIL), L&T, Godrej Group, Mahindra Group, Astra Microwave Products Ltd, Dynamatic Technologies Ltd, Centum Electronics Ltd, Precision Electronics Ltd and Zen Technologies Ltd are among the private companies that are keen on the defence business, including the offsets opportunity.
“It is true that there is no clarity on offset opportunities. However, G2G sales are not automatically exempt from offsets and a decision to this effect has to be taken by the defence acquisition council and most of the G2G contracts in the past have had offset clauses, though the government has the discretion to waive it,” Mathur of PricewaterhouseCoopers said.
“While a large amount of offset work packages had indeed gone to defence PSUs, there are instances of private companies also getting a share of the work. A clear picture on pricing, impact on ‘Make In India’ and offsets will only emerge once the government makes a detailed statement...,” Mathur added.
RIL recently signed an agreement with Dassault. RIL declined to comment for this story. Dassault declined any immediate comment.
“Indeed, this is the single largest defence tender. If it is getting scrapped, it is bad news for private companies,” said an executive with a private defence company. He requested anonymity.
On 14 April, PTI reported that the deal for 36 Rafale jets is likely to have a 30% offset clause valued at nearly $2 billion that the Indian private-sector defence industry will be eyeing, without citing any officials.
Make in India
Another big question relates to the ambitious Make in India policy under which the government is encouraging foreign manufacturers to invest in India and make products in the country both for the local and export markets. Parrikar said the Make in India part would be decided later after G2G discussions.
“The decision to buy the 36 planes off-the-shelf defies the logic of Make in India,” said a defence consultant on condition of anonymity. The consultant said Parrikar had not also clarified the government’s stand on manufacturing indigenous light combat aircraft for the IAF.
“For that, the IAF needs to place firm orders with HAL and the engine maker General Electric Co. so that the infrastructure is built to cater to the growing demand,” he added.
 
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