Wednesday, May 29, 2024

Indian Aerospace & Defence Manufacturing Takes Off: Government Initiates Key Reforms To ‘Make-In-India’

In an effort to transform India into a preferred global manufacturing hub for foreign original equipment manufacturers and tier vendors, several regulatory measures have been implemented in response to the government’s initiative to “Make in India,” particularly within the defence sector. These measures signify a shift away from a reliance on imports and aim to establish India as a competitive force in the aerospace and defence manufacturing industry.

Reforming For Success: India’s Aerospace & Defence Manufacturing Gets A Lift With Government Actions

Over the past two years, the Indian government has implemented a number of significant reforms to stimulate growth in the aerospace and defence manufacturing sector. These include the introduction of the updated Defence Acquisition Procedure 2020 (DAP 2020), which includes substantial changes to the defence policy framework and introduces new categories such as “Buy (Global-Manufacture in India).” The DAP 2020 also raises the levels of Indigenous Content (IC) to at least 50% across various categories. Approximately 68% of the estimated capital expenditure in the Defence budget for 2022-23 has been allocated for domestic defence acquisitions. Three positive indigenization lists featuring 310 items designated for Indian industry, as well as three Defense Public Sector Undertaking (DPSU) lists to minimise imports by DPSUs, have been created. These lists outline defence equipment that will be produced domestically in the near future and can only be purchased from the Indian industry after the specified dates.

The innovations for Defence Excellence (iDEX) program has been established for Micro, Small, and Medium Enterprises (MSMEs) and start-ups. The Government Purchasing (Preference to Make in India) Order 2017 has been implemented, along with the establishment of SRIJAN, an indigenization portal designed to support the indigenization of the Indian defence sector, particularly for MSMEs. Reforms to the offset policy aim to encourage investment and technology through larger multipliers and FDI relaxations. Two Defence Industrial Corridors have been established in the states of Uttar Pradesh and Tamil Nadu, which offer investors a range of fiscal and other benefits. In addition, several state governments have implemented exclusive policies for aerospace parks.

While the policy reforms appear flawless on paper, their effectiveness will primarily depend on their execution in practice and the industry’s reaction to the same.

Landscape Of Aerospace & Defence Manufacturing In India

The Indian defence sector is one of the world’s largest and most profitable industries, with a 10-year pipeline of over USD 223 Bn in aerospace and defence capital expenditure and a projected medium-term investment of USD 130 Bn. Attention is currently focused on developing advanced, cost-effective products and technologies that meet both domestic and international needs. In the past four to five years, Indian defence imports have decreased by approximately 21%, while exports have increased sevenfold over the past eight years. Last year, Indian defence exports totaled INR 13,000 crores (USD 1.62 billion).

In 2018, 70% of Indian military equipment was considered obsolete. The four existing squadrons of MiG-21s with a single engine are also expected to be retired by 2025. Given current global geopolitical unrest, there is a pressing need to bolster the strength of India’s defence forces. In response, the Indian Ministry of Defense (MoD) has contracted for the in-country production of 123 Light Combat Aircraft (LCA) that will be used by the Indian armed forces. This decision was made in response to domestic demand and a renewed emphasis on self-reliance.

The Draft Defence Production and Export Promotion Policy (DPEPP) was published in 2020, with the ambitious goal of increasing defence turnover from approximately INR 80,000 Crore (USD 10 Bn) in 2019-20 to approximately INR 1,75,000 Crore (USD 21.87 Bn) by 2025, including the export of INR 35,000 Crore (USD 4.37 Bn). The success of this objective is expected to hinge on the implementation of a well-defined mechanism. However, the sector is currently awaiting the final text of the policy and its actual implementation.

Over the past five years, indigenous production has expanded to include complex equipment, systems, and platforms, with the INS Vikrant and the Prachand LCH being the most recent additions. The Defence Acquisition Council (DAC) has approved the cancellation/closure of Acceptance of Necessity (AoN) for nine Buy (Global) category bids totaling INR 46,695 crores (approximately USD 5.8 Bn) in order to prioritize domestic production. Among the large defence programs expected to be shifted to “Buy Global – Manufacture in India” are 114 multirole fighter aircraft (MRFA), with a gradual increase in domestic production.

India’s response to the Royal Malaysian Air Force’s (RMAF) Request for Proposal (RFP) for the procurement of 18 Light Combat Aircraft illustrates the increasing confidence in India’s defence production capabilities worldwide. Argentina, Australia, Egypt, the United States, Indonesia, and the Philippines have also expressed interest in the indigenously developed LCA Aircraft. There is a growing focus on public-private partnerships to develop the necessary manufacturing capabilities in India, with the creation of the fifth-generation Advanced Medium Combat Aircraft serving as a notable example of this type of collaboration.

While large foreign original equipment manufacturers (OEMs) remain cautious in India due to concerns about the policy framework, irregular order granting, lack of demand and commercial viability of small orders, absence of resources and skilled labour, and lack of economies of scale in production, smaller global firms and SMEs are expected to establish manufacturing capabilities in India. Some Indian conglomerates are also entering the defence industry. India’s aerospace and defence manufacturing sector is expected to expand significantly in the future.

India’s aerospace and defence manufacturing sector is expected to undergo significant expansion in the coming years. In an effort to secure the necessary funding and technology to support this growth, the government has instituted reforms to its foreign direct investment (FDI) policy. The FDI maximum in defence manufacturing under the automatic route has been raised from 49% to 74% (for new investments requiring an industrial licence), allowing foreign firms to establish manufacturing units with a greater degree of ownership and control. Foreign original equipment manufacturers (OEMs) are also now permitted to exert ownership and control in Indian operations, including in terms of intellectual property protection. 100% FDI is permitted for any activity that does not require a defence industrial licence, including engineering, design, technological research, and dual-use and pure aerospace manufacturing. The offset policy has also been revised to offer greater multipliers to attract investment and transfer of technology for defence production.

In addition to these reforms, the defence corridor projects in Uttar Pradesh and Tamil Nadu have attracted foreign investment. However, investors have expressed concern about the need for greater transparency in certain aspects of contracts and intellectual property rights. If the government successfully addresses these issues, it is likely that the sector will see a significant influx of investment. The government’s “Make in India” defence deals, which are expected to be a major catalyst for the sector, are currently being negotiated.

Collaboration Key To Success In India’s Thriving Aerospace & Defence Industry

While the Indian government has taken several steps towards its goal of becoming a self-reliant “Atma-nirbhar Bharat” (i.e., Make in India), much work remains to be done before the country can claim the title of a defence manufacturer. The draft Defence Production and Export Promotion Policy (DPEPP) has not yet been finalised, and there are practical barriers to the implementation of newly crafted legislative reforms. To fully establish itself as a defence manufacturer, India must also build an ecosystem that includes the production of smaller components and subsystems, the development of necessary technologies in-house, and an increase in in-house research and development skills. This ecosystem can only thrive with adequate public financing.

It is expected that the Indian government will address the practical challenges faced by the aerospace and defence manufacturing industry in order to facilitate growth. These challenges include the lack of design support and skill development in the concept of Indigenous Content (IC), the need for a transparent monitoring procedure to track IC progress, the requirement for assistance in meeting high IC percentage requirements during the initial years of operation, the need for flexible IC regulations that take into account the unique scope, timeline, and quality needs of each program, the importance of Production-Linked Incentives (PLI) in promoting growth, the issue of wholly-owned subsidiaries being ineligible to serve as Indian offset partners for the same foreign vendors, the need for additional tax exemptions for defence Maintenance, Repair, and Overhaul (MRO) operations, and the importance of effective implementation of procedures for expediting procurement for the Armed Forces’ urgent operational needs. It is suggested that the government consider expanding the definition of IC to include engineering support, design support, after-market support, skill development and training, and technology insertion and development for global products produced in India, regardless of the program (military or commercial). It may also be beneficial to develop an OEM dashboard to monitor IC progress and introduce IC in stages, with initial goals of meeting lower percentages and ultimate goals of meeting higher percentages.

In today’s climate, which places a strong emphasis on Indigenous Content (IC), collaboration will be crucial for success in India’s aerospace and defence manufacturing industry. While the policy infrastructure is in place to facilitate increased foreign engagement, the key to successful execution will be the government’s ability to remove practical policy obstacles, the availability of public funding to support ecosystem growth, and the participation of major global players.

Girish Linganna is the Director at ADD Engineering Components India Pvt Ltd and an Aerospace & Defence analyst

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