Defence R&D activity in India is primarily driven by Government establishments like Defence Research & Development Organization (DRDO) labs, Hindustan Aeronautics Limited (HAL) and Bharat Electronics Limited (BEL). Private domestic investment in defence R&D is very low, primarily for three reasons: the private domestic industry is at a nascent stage; till recently, it was not allowed to participate in defence production and, when it was, the policy and procedure was not supportive. Even though the policies have now been liberalised, it has yet to get any large, long term orders that would justify the huge long term investments and risk.
While domestic private R&D is yet to pick up, India has become an attractive destination for foreign defence companies for R&D due to its inherent advantages of a large number of highly qualified low cost engineers and scientists. Thus, many foreign companies like Airbus, Boeing, Snecma, Textron, Honeywell, Rockwell and GE Aviation have established their global R&D centers in India. Most of these are in Bangalore which is slowly building a reputation as an R&D hub.
India imports almost 70% of its defence equipment. We have a large defence budget to modernise our armed forces. Aerospace and defence are among the most important sectors in the “Make in India” campaign, not just for creating manufacturing jobs but also for enhancing our self-reliance in defence production. But this cannot be achieved without a strong R&D base in the private sector. The recently released Defence Procurement Procedure-2016 (DPP 2016) has focused on indigenization and encouraging private sector participation. It has introduced a new acquisition category called Indigenous Design Development and Manufacturing (IDDM) category in addition to the existing four categories and the Make programme.
All these acquisition categories mandate transfer of technology and increasing indigenization. This will be impossible without a strong and deep R&D eco-system whose key components are equipment and physical infrastructure, skilled technicians, qualified researchers (PhDs, engineers), a robust intellectual property (IP) regime, access to long term, low cost capital and comfort on getting orders.
Given that it is both buyer and regulator in this monopsony industry, the onus of creating the eco-system lies with the Government. It has taken some steps towards this end. The Make in India campaign will result in investments into manufacturing that would support and energise R&D. The new DPP has partially addressed the issue of funding projects under Make-I category in the new DPP. There are a number of industry-academia linkages e.g. IIT Bombay has tie ups with Boeing and Thales, DRDO works with IITs and other universities.
Under the ‘Skill India’ initiative, the National Skill Development Corporation has established two sector councils Strategic Manufacturing Sector Skill Council and Aerospace and Aviation Sector Skill Council for skill development and quality assurance of personnel in Aerospace and Defence sectors. These shall develop necessary frameworks for standards, curriculum and quality assurance at all levels in vocational / technical programs to meet the needs of the industry. The coordinated efforts of councils with various stakeholders viz industry, educational bodies, training institutes and HR function shall narrow the existing gap between demand and supply of skills.
There are a number of additional measures that can be undertaken. For many years now, Indian industry has complained about un-employable graduates from our academic institutions. The Government must create institutional mechanisms to strengthen the industry-academia linkage and improve the quality of education and training imparted in the colleges and universities. Given the high risk and long gestation periods associated with R&D, there is need to provide tax and fiscal incentives.
The Government has proposed phasing out of tax incentives for R&D from next year. Not only should these incentives remain, the Government must strengthen them. MSMEs are the backbone of any manufacturing supply chain and globally, engage substantially in R&D and design and development of products. In India, they have a huge challenge in accessing capital and when they do, it is at prohibitive rates. The technology fund proposed in the last budget should be operationalised without delay to facilitate access of MSMEs to non-collateralised funds at low interest cost. Finally, to encourage foreign investment in defence R&D, it should be made an eligible activity for discharging offset obligations. This will encourage foreign defence companies to bring best practices and technology to create domestic R&D partners and build an R&D eco-system.
The Government efforts to leverage our large defence spending to achieve self-reliance in defence production and simultaneously create a domestic defence industry will provide the platform for growth of R&D, which is a critical and high value part of the manufacturing supply chain. Presently, the Government and its undertakings dominate R&D activity in India. Given the complexities and level of investments required, this state of affairs is likely to continue in the near and possible medium term. But to build a truly robust defence production eco-system, the private sector will have to engage in R&D and the Government must reduce barriers and provide incentives to it.
The author is partner, PwC India