New Defence Procurement Procedure: A Stimulating Preview

In the first meeting of 2016 held on January 11, the Defence Acquisition Council (DAC) took some policy decisions that will eventually get incorporated, along with other policy and procedural changes, in the much-awaited Defence Procurement Procedure (DPP), now expected to be released in the next two months. The following picture emerges in this regard from what has been reported in the media.

New Procurement Category

While the Experts’ Committee, set up by the Ministry of Defence (MoD) to review the existing procurement policy and procedure, had not recommended any change in the existing acquisition categories,1 the DAC has decided to introduce a new category of Indian Designed, Developed and Manufactured (IDDM) equipment. This will be the most preferred category, ahead of ‘Buy (Indian)’, which presently occupies the pride of place.

The equipment procured under the new category will be required to have 40 per cent indigenous content if it is designed indigenously. If the design is not indigenous, it should have 60 per cent indigenous content.

At present, the equipment procured under the ‘Buy (Indian)’ category is required to have a minimum of 30 per cent indigenous content. A note released by the MoD, however, says that this category requires a minimum of 40 per cent indigenous content. It is not clear whether this is a typographical error or the requirement even under the ‘Buy (Indian)’ category is being increased from the existing 30 per cent to 40 per cent. In either case, this will blur the distinction between the new category and the existing ‘Buy (Indian)’ category.

The existing ‘Buy (Indian)’ route is adopted for procurement of equipment that can be sourced straightaway from Indian companies. Since the new ‘IDDM’ category is being introduced as the most preferred category of procurement, it would be fair to assume that it is meant to be different from the ‘Buy (Indian)’ category on the one hand and the ‘Make’ category on the other.

Unless this difference is clearly brought out in the forthcoming DPP, the categorization of procurement proposals will become more challenging. The lack of clarity on this count would add a new dimension to the complexity of determining the extent of indigenous content in the equipment.

It may be recalled that ‘Buy (Indian)’ category was made the most preferred category in 2013. Apparently, this has not led to the increased sourcing of defence equipment from Indian vendors, in spite of the modest requirement as regards indigenous content. With the requirement of a higher percentage of indigenous content, it is difficult to visualise a spurt in procurement under the new IDDM category.

Presently, under the existing ‘Buy and Make (Indian)’ category, the indigenous content is required to be 50 per cent. This requirement is being extended to the ‘Buy and Make’ category as well.

Splitting of the ‘Make’ category

It is distressing to note that not a single project has taken off so far under the ‘Make’ category, introduced in 2006 to promote indigenous research, design and development of prototypes of complex high technology systems. To galvanise indigenous projects, this category is being split into three: ‘Make I’ category would be for government funded projects, ‘Make II’ category would be for industry funded projects, and ‘Make III’ category projects would be reserved for Micro, Small and Medium Enterprises (MSMEs).

The extent of funding under the first category will be increased from the existing 80 per cent to 90 per cent and the remaining 10 per cent will also be reimbursed if the Request for Proposal (RFP) is not issued within 24 months from the date of successful development of the prototype. There will be a provision for paying mobilization advance of 20 per cent. (All these percentages are reckoned with reference to the cost of development.)

The cost of development will have to be borne by the developer under Make II category. However, if the RFP is not issued within two years of the successful development of the prototype, the MoD will reimburse the full cost of development to the developer. This is good news for developers as they will at least be able to recover their investment in full even if the specifications of the equipment they develop are not congruent with the specifications spelt out in the RFP issued after the development of the prototype.

There are, however, some issues with regard to the Make II category. Having reimbursed the cost of development, it will be odd if the MoD lays down different specifications in the RFP for the same equipment. It will take some doing on the MoD’s part to implement this idea. Further, a system will also need to be instituted to audit the development cost.

Projects with an estimated development cost of less than INR 3 crore, to be self-funded by the developer, would fall in the Make III category. This category is reserved for the MSMEs. But the MoD’s note also says that Make I sub-category projects, with an estimated development cost of less than INR 10 crore, will be reserved for the MSMEs and that these projects will be opened up for the non-MSMEs only if it is not feasible for the MSMEs to develop the required prototype.

What the MoD probably implies is that while projects below INR 3 crore would be reserved exclusively for MSMEs, projects with an estimated development cost of between INR 3 to 10 crore would first be offered to MSMEs and opened up to non-MSMEs only if the former does not find it feasible to undertake such projects. The position will become clearer when the new DPP is released.

Tweaking of the existing ‘Make’ procedure is obviously intended not just to galvanise defence production but also to involve the MSMEs. But the apparent absence of any provision for funding/reimbursing the cost of development incurred by them under Make III category could prove to be a bit of a dampener.

It also remains to be seen whether the funds for ‘Make’ projects would come from the defence budget, seen by many as grossly inadequate, or from the Defence Technology Fund promised by the Finance Minister in his first budget speech of 10 July 2014,2 but not activated as yet. It will be interesting to see how the scheme plays out.

Offset and Technical Oversight threshold

The threshold at which offsets kick in has been raised from the existing INR 300 crore to 2,000 crore. Apart from giving relief to foreign vendors who had long been complaining of difficulties in discharging offset obligations, this means there will be lesser offset proposals to be examined and negotiated by the MoD. It will, therefore, take lesser time to conclude contracts of less than INR 2,000 crore. But at the same time the raising of the threshold will restrict opportunities for Indian entities to become offset partners as there will be fewer offset contracts. The threshold for carrying out technical oversight will also go up from the existing INR 300 crore to 2,000 crore.

Splitting of the Essential Parameters and Weightage for Enhanced Parameters

The essential performance parameters of the Services Qualitative Requirement (SQR) would be split into two categories: A and B. Contracts would be signed if the equipment meets category A essential parameters, leaving it to the vendor to modify the equipment to incorporate category B essential parameters so that, when delivered, the equipment is fully compliant with the SQRs specified in the RFP. The existing DPP says that there will be no desirable parameters; this remains unchanged.

The MoD is obviously prepared to take the risk of the vendor failing to develop category B essential parameters or the delivery schedule getting upset if the vendor takes longer than expected to incorporate category B essential parameters.

Vendors meeting the Enhanced Performance Parameters specified in the RFP will now be given additional weightage of 10 per cent while evaluating their commercial bid for the purpose of determining the lowest bidder. It is a departure from the existing, and arguably much maligned, system of the contract being awarded to the lowest bidder (L1). The details of this system would need to be worked out carefully to obviate glitches at the tender evaluation stage, as it may not always be possible to apply objective yardsticks to determine superiority of performance parameters of one system over the other.

Validity of Acceptance of Necessity (AoN) and Single Vendor cases

As per the existing provisions, the AoN lapses if the RFP is not issued within a year of the date on which it is accorded. The validity period is being reduced to six months, which is still a good 16 weeks more than the time the existing DPP envisages for issuing the RFPs after the AoN is accorded.

Retraction of RFPs in single vendor cases will not be the norm anymore. Such cases will continue to be processed whether the single vendor situation is encountered at the stage of bid submission, technical evaluation or staff evaluation, ‘with due justification’. This leaves room for subjectivity, and consequent delay, in determining acceptability of the justification, unless what would constitute ‘due justification’ is defined in the DPP.

What next?

One will have to wait for the fine print of the new DPP to emerge to make out what all these changes will eventually add up to. The immediate challenge before the MoD is not just to take bold policy decisions and release the new DPP within the next two months, as indicated by the minister, but also to ensure that there are no devils in the details.

Views expressed are of the author and do not necessarily reflect the views of the IDSA or of the Government of India.

• 1. The existing categories are ‘Buy (Indian)’, ‘Buy and Make (Indian)’, ‘Make’, ‘Buy and Make’, and Buy (Global).
• 2. See paragraph 143 of the budget speech, accessible at http://finmin.nic.in/fmspeech/fm_budgetspeech_july2014.pdf