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Monday, 11 August 2014 00:00
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Some glitches removed, but 49% is not enough

Given the completely restrictive policy on defence FDI in the past, the government’s decision to hike FDI levels to 49% is a welcome one. Not only is this more liberal than the earlier 26%, it does away with the pointless restrictions of the past. One such, for instance, was that no FII holdings were to be allowed in even an indirect manner. As a result, in the case of Reliance Aerospace which wanted to produce rocket launchers, this got held up since the parent Reliance Industries Ltd had a 17% FII stake in it; Tata Advanced Materials, similarly, had its proposal to bullet-proof vehicles as well as developing aircraft frames held up as it had a small FII stake. Now that the 49% cap is a composite one, such restrictions will no longer apply. Similarly, the previous policy insisted, for unclear reasons, that the largest Indian partner have at least a 51% stake in the joint venture—this ensured several proposals of, for instance, Punj Lloyd for drones and torpedoes were put off since, while the JVs met the FDI and FII criterion, they did not pass the 51% single-holder criterion. Given the size of the defence procurement industry—$16 billion right now, projected to grow to around $80 billion annually by 2025—liberalising rules represents a great opportunity for local manufacturing and could well be the next big driver of industrial growth. Indeed, given the government’s stated objective of meeting 70% of India’s defence needs locally, the size of this industry is set to spiral, which is why a CII-BCG study had projected 1 million jobs getting created in it over the next five years.

Getting there, of course, requires the defence forces to be ready as well, since so far most local producers complain the preference seems to be to either import equipment or to try and source it from defence PSUs. Buying more from private sector firms will, for instance, require they be an integral part of defence planning, so they can gear up to produce equipment likely to be required a decade from now.

It also has to be kept in mind that while the current hiking of defence FDI levels is a good step, it changes little in terms of the power a foreign owner has over the joint venture. While a 26% stake gives the investor a veto right over special resolutions, the next big move takes place at 51% which is when control changes hands—so hiking FDI levels from 26% to 49% only allows the foreign partner to bring in more FDI, it does little to give control, sometimes a pre-requisite for technology transfer. It is a good thing more than 49% FDI is to be allowed in certain cases, subject to clearance by the Cabinet Committee on Security, since this could encourage global biggies to set up facilities here for cutting-edge equipment.


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