The Covid-19 pandemic will push the Government to balance between economic stability, health care and geopolitical risk, and in the given environment, conservative spending in Defence is expected. The MoD needs to focus on realignment of needs and enhance in-house production capabilities.
The Global Defence & Aerospace Industry was expected to grow between 3 and 4 percent in 2020; however, due to the impact of COVID-19 Pandemic, it is seeing a major downfall of growth owing to restrictions arising in global trade. Consequently Indian defence industry will also be adversely affected due to disruptions in the global supply chain. The onset of COVID-19 lockdown has its economic toll which halted the production/service cycle, disrupted the supply chain, and impacted inventories, thus, creating a situation of uncertainty and apprehension, due to disruptions in cash flows, wage bills and payments, and inventory management, among others. Bulk of Indian industry with almost 80% about 86,000 SMEs and 24,000 members are micro units are likely to get into financial trouble without Government help. In defence PSUs, work on most of the projects was stopped after the lockdown was imposed and they shifted their focus to keeping essential operations and helping the administration in fighting COVID-19. Nearly 90 percent of the work of the small private manufacturers that supply components is stopped. The lockdown has hit the defence manufacturing sector like many other industries. It will have around 10-15 percent impact in terms of delays in delivering products or services.
The Indian economy has seen consumer confidence dip in the last few quarters. The pandemic and the lockdowns’ have further exacerbated the drop in consumer sentiment thereby pushing the Government towards conservative spending. The Government’s financial stimulus and its impact on fiscal deficit will leave India economy vulnerable despite the healthy FE reserves. The recovery of the economy is likely to be slow, and it may take around 2 years for new normal to come back across sectors. Since the economic pain may prolong and as foreign investors become more cautious, India will need to adopt a strategy that the country is open for investment in manufacturing.
To balance between economic stability and geopolitical risk, we can expect contraction in real defence spending. Due to monopolistic model of Government spends there can be delay in defence spends/program commitments on defence as other segments of economy take precedence. The defence expenditure will have to be re-sized and savings channelized for strategic acquisition for improving the efficiency in resources and their operational use. Issues relating to defence procurement processes, offset policies, indigenization of spares, and transfer of technology need to be addressed. MoD need to restructure spends by re-allocation. The combined impact of the budgetary contraction on defence leading to fewer allocations for new capital equipment coupled with tendency to withhold spending by delayed existing orders or cancelled will lead to a situation of order book slippages. Focus on realignment of spends on speeding up of automation, unmanned systems and countering unconventional warfare.
The disruption will affect both the dedicated A&D Industry and others as well. Reduced availability of manpower and materials will lead to need for tweaking of the manufacturing process and switching to discrete manufacturing opportunities. The contraction of demand could lead to evolution of new A&D ecosystem wherein the Cash constrained OEMs safeguard their supply chain through vertically integrating into Tier-1 and Tier-2 suppliers. Cash rich OEMs and their Tier-I may drive the Tier-I suppliers to consolidate and integrate vertically and horizontally leading to stronger; more diversified and vertically integrated Tier-1 suppliers, able to take on more complex/integrated work packages.
OEMs will need to realign their campaigns to focus on local job creation in addition to price competitiveness. The bulk of the exports in defence business are destined for developing countries/emerging markets. Emerging markets like India is expected to be a lightening of local job/local value add requirements. The OEMs will need to revise their strategic approach and shift to more in-country JVs for market JV led manufacturing orientation. OEMs will need to revisit and refine their strategy around local-JV-for-Production right and global protection of IP.
India in order to emerge as self-reliant in defence manufacturing should put impetus on creating domestic capabilities for designing, developing and manufacturing state-of-the-art defence equipment to reduce dependence on imports. India has bright chances to enter the defence exports market in a big way by entering the defence product value chain. An environment that encourages Indian R&D and intellectual property (IP) rights ownership will encourage ‘Make in India’. Direct imports to be placed at the very bottom of the priority of procurement and Indian designed developed and manufactured products to be given the highest importance. To economize the defence expenditure, accelerate projects under Strategic Partnership (SP) model for naval helicopters, submarines and fighter jets in India in collaboration with foreign OEMs. The projects have barely taken off under the route and the plan now is to focus on how Indian companies with intellectual property rights could be given a pricing advantage as well. In view of the anticipated budget cut in capital procurement, the renewed emphasis on exports could make up a slowdown in domestic demand. Adequate measures need to be put in place to attract foreign investments, increase exports in collaboration with OEMs that may want to bring down production costs as much as 10% reduction in costs by shifting base in India.
India in order to emerge as self-reliant in defence manufacturing should focus on creating domestic capabilities for designing, developing and manufacturing state-of-the-art defence equipment/systems/platforms to reduce dependence on imports
Indian Defence Production Sector
There is significant insecurity in the industry as budget priority, policies and strategy focus will change for at least next two years and many on-going capital acquisition plans will be deferred indefinitely. In the light of the likely impact of crisis the Indian Defence Industry need to revise their focus and manufacturing orientation.
The crisis can be an opportunity to improve business by overcoming many challenges through steps to be taken by Industries and Governments to mitigate the impact with focus on areas such as technology adaption, knowledge collaboration and environmental aspects.
Accelerated collaboration, partnership, and the cross-pollination of ideas is crucial in times of crisis to ramp up their growth. In the changing business environment, the business leaders are turning to the technology innovation to provide solutions to complex challenges. New technologies have created new markets that drive continuous evolution to deal with uncertainty and respond quickly to change. Digital transformation is enabled by technology, taking on business-wide change to modify an organization’s structures and processes. Technology ecosystem components such as research universities, modern infrastructure, a pipeline of skilled young talent, available investment funding, and a supporting business environment should be adopted.
Given the increasingly worrying economic uncertainty, the Government has moved to reassure both global and local investor community with focus on encouraging infrastructure and manufacturing sector investments. India is also looking at initiatives to give a boost to the economy by quickly ramping up local defence production. DPSUs and the private defence industry could `play a major role in the economic revival’ of the nation. In one such unique move BHEL, a Public Sector Unit, has invited Expression of Interest (EoI) from global Original Equipment Manufacturing (OEM) firms to leverage its facilities and capabilities and to shift their production base to India amid the pandemic.
Production Agencies need to Shift Focus
DPSUs currently enjoy sizeable order book; realignment expected to only impact in medium term. Also, disruption in supply chain is seen to be limited. Manufacturing process would have negligible impact due to very limited export exposure. Functioning of the DPSUs and Ordnance Factories, streamlining their procurement procedures, focused resource allocation, encouraging R&D/innovation, attracting investment in critical defence technologies and promotion of exports should be prioritized by the Government.
These production agencies need to invest in automation and technology for long term competiveness due to emerging competition from Private sector. They should focus on JV and partnership to build capability/capacity to go in for higher level of Indigenization.
The program commitments and resources realignment are expected to only impact in medium term, as the private sector especially the SMEs/MSMEs majorly supply to DPSUs. Direct programmes with MoD may slip a bit. Disruption in supply chain will result in worsening cash positions will impact substantially including MSME industry as large parts are self-financed. Disruption in manufacturing process as most of the Private sector has grown around large urban centers. The Private sector need to enhance A&D value chains in export business partnership with OEMs and push for fair competitiveness on MoD orders for higher level of indigenization.
The potential reforms need to ensure a robust and self-reliant defence industry that caters to short and long term needs of the Armed Forces. Issues relating to defence procurement processes, offset policies, indigenisation of spares, transfer of technology on urgent basis as they will be vital in attracting global OEMs to establish manufacturing facilities in India, industry participation in global defence product value chain and to create an environment that encourages R&D, rewards innovation, creating Indian IP ownership supply chains, etc. India should reduce dependence on imports and take forward "Make in India" to build its domestic capabilities for designing, developing and manufacturing state-of-the-art defence equipment. Development of dual use technologies for defence use should also be considered as these could reduces pressure on development cycles for defence companies.