Rafale Deal: More Questions that Beg for Answers

The welter of information on the Rafale deal already available in the public domain – including very pertinent points by several defence and political commentators – still leaves relevant and important aspects unanswered or unexplained. We need to analyse these issues in an objective and dispassionate manner.

Categorisation

There is the issue of categorisation. Day One of the present procurement is April 10, 2015 when PM Modi announced in Paris, in a joint statement with French President Hollande, that 36 aircraft would be purchased. How was this magic number of 36 arrived at?

Since the defence minister was not in the know, it can safely be inferred that the Ministry of Defence (MoD) was not consulted either. And the Indian Air Force obviously couldn’t have agreed to this number, down from 126 aircraft.

This is obvious because the Request for Proposal or RFP of 2007 was still alive. It hadn’t been withdrawn or cancelled yet. Agreeing to another proposal from the same company, for the same item, would subvert the spirit of the MoD’s very own Defence Procurement Policy in effect since 2013.

Aside from the moral issue raised by two concurrent procurement proposals, the processes laid down in DPP 2013 for obtaining the Acceptance of Necessity for an RFP were not followed.

The new RFP – in sharp contrast to the RFP 2007 for Global “Buy and Make” – was merely a Global “Buy”. It is hard to understand how the SCAPCHC (Services Capital Acquisition Plan Categorisation Higher Committee) could have approved the new RFP, and importantly, recommended only the Global “Buy” – and not Global “Buy and Make” – as in the RFP 2007.

Further, how could the SCAPHC accept the reduced number of aircraft, 36 vis-à-vis the earlier RFP for 126 aircraft which it had accepted?

There is also the question of why the government junked the earlier proposal when it had reached a near finality.

Another Contract in the Works?

Another niggling question remains: how does the IAF’s recent Request for Information (of April 6, 2018) for 110 fighter aircraft jell with this decision?

Let me explain the disquiet.

Para 48 of DPP 2013 says that:

“It would be desirable to negotiate the licence production contract along with the contract for the finished product. In cases where this is not feasible, the purchase contract should include a clause wherein the vendor agrees to negotiate the licence contract at a subsequent date, thus obtaining a commitment from the vendor to part with the ToT [transfer of technology]. In cases where ToT for Maintenance Infrastructure is being sought, the maintenance contract involving the OEM [original equipment manufacturer] and the industry receiving the technology would also be negotiated along with the main contract.”

So, was a transfer of technology included in RFP 2015, as it was in RFP 2007? If it wasn’t, what were the reasons?

If ToT was not recommended by the SCAPCHC, and was not negotiated in RFP 2015 because it wasn’t feasible to negotiate the ToT at the time, did the new RFP, as per Para 48 and Para 30 of DPP 2013 which cater for such contingencies, “clearly indicate that Government reserves the right to negotiate ToT terms subsequently and that the availability of ToT would be a pre-condition for any further procurements”, and that the “terms and conditions of obtaining ToT would be included in subsequent RFP”?

If it did not, how will this impact the fresh RFP that will likely come up for 110 fighter aircraft, as can be inferred from the RFI issued in April 2018?

Benchmarking

Another troubling issue is of benchmarking, where Para 52 of DPP 2013 is relevant. It says:

“Cases for which contracts have earlier been signed and benchmark prices are available, the CNC [contract negotiation committee] would arrive at the reasonable price, taking into consideration the escalation/ foreign exchange variation factor.” (emphasis supplied)

Since there were no contracts on the item signed earlier and hence no benchmark price was available, going by media information one wonders how the benchmark price was revised upwardly, by use of an “aligned cost table”.

Para 47 of DPP 2013 stipulates that “the CNC would carry out all processes from opening of commercial bids till conclusion of contract”.

Many people have asked me if in such a logjam of disparate views the majority views should hold. I have demurred at the suggestion and responded in a copybook way, that anyone familiar with the DPP would profess that the CNC decisions are carried out in a collegiate manner/ vetting/ discussions and on logic/ merit of issues to protect government interest, and nothing else matters.

If there were differences of opinion on benchmarking among members of the CNC, with three crucial members – Joint Secretary & Acquisition Manager, Finance Manager, and Advisor (Cost) – who had the relevant domain expertise on benchmarking, plumping for €5.2 billion while others sought enhancement to €8.2 billion based on an “aligned cost table”, the details doubtless merit scrutiny.

Several defence commentators have opined that if the case of the 36 Rafale jet purchase had followed the original benchmarking cost of €5.2 billion based on the price benchmarked for 18 fly-away aircraft in RFP 2007, there wouldn’t have been much brouhaha.

It appears that it was this conundrum of upward revision, by taking the price of 126 Rafale aircraft (18 flyaways and 108 manufactured in India) that makes it far from credible.

The manufacturing of 108 aircraft which were proposed to be made in India included the ToT and licence production cost, plus the cost of setting up the facility in India. This expenditure was to be amortised over the entire spectrum of 108 aircraft to be produced. Thereafter even the depreciated value of the facility upon closure of this production line would have a residual value.

Amortisation in its classical sense is applied to intangible assets. When funds need to be invested for setting up a particular facility that is quantity-neutral, it is natural that the greater the number the better it is for the investor.

With the cost of such investment deemed as inexorable because it is the irreducible minima, the higher the number, the lesser is the cost per unit, since the investment spreads across a wider spectrum, thereby whittling down the individual price.

So, apportioning this expenditure over 36 units isn’t the best way to arrive at the reasonable price to benchmark. It’s much too simplistic a calculation – and it doesn’t work that way!

Passing the Parcel

Going by media reports, the Defence Acquisition Council/ MoD did not recommend the case as authorised by the Allocation and Business Rules of the Government of India, and instead referred it to the Cabinet Committee on Security (CCS) for taking a decision that falls within its power (which it has exercised in other cases).

But for the Ministry of Finance to have agreed to refer it to the CCS for decision-making is truly a puzzle. This is because the CAG in its audit report on the AgustaWestland case – the Report of the Comptroller and Auditor General of India on Acquisition of Helicopters for VVIPs; Union Government Defence Services (Air Force) No. 10 of 2013, tabled before Parliament on August 13, 2013 – had observed that:

“the MoF should have either recommended, not recommended or recommended with conditions the proposal as MoF provides financial advice to CCS and Government” (emphasis supplied). Para 10 of the audit report states, “On 20 July 2009, MoF stated that they were unable to support the proposal in light of certain concerns raised by MoF, which were to be addressed in the final Note to CCS.”

The Cost of Comfort

Further, how could the finance ministry have agreed to a proposal involving advance and stage payments of huge sums without a Bank Guarantee or Sovereign Guarantee, which would have meant a lower quoted amount, since BG comes with a cost that banks charge, and long-term BG coverage can tot up to a tidy sum? This violates the defence ministry’s DPP and the finance ministry’s General Financial Rules’ prescriptions to protect public funds.

Or was it done on the presumption that the Inter-Governmental Agreement would be twined with a Sovereign Guarantee? Was the Letter of Comfort also made part of such conditional concurrence of the proposal?

What then was the difference in price between the IGA-Sovereign Guarantee backed RFP and the one backed by BG?

Sadly, no details are forthcoming.

Maybe we will have to wait for the CAG’s audit report to learn the truth.

(Sudhanshu Mohanty is a former Controller General of Defence Accounts and also a former Financial Adviser (Defence Services) in the Ministry of Defence who retired on May 31, 2016. He is the author of several books including Babudom: Catacombs of Indian Bureaucracy and Anatomy of a Tumour: A Patient's Intimate Dialogue with the Scourge (Hay House).