Private warship builders live on scraps
The defence ministry claims public and private shipyards compete on equal terms, but the figures tell a different story, writes Ajai Shukla
The defence ministry claims public and private shipyards compete on equal terms, but the figures tell a different tale. AJAI SHUKLA writes
An hour’s drive north of Chennai, Larsen & Toubro’s shipyard at Kathupalli sprawls over 900 acres, a spacious, modern facility vastly different from the cramped precincts of defence public sector undertaking (DPSU) shipyards like Mazagon Dock Ltd (MDL) and Garden Reach Shipbuilders & Engineers (GRSE).
A fortnight ago, Kathupalli delivered to the navy a ~4.68 billion floating dry dock, which is now operationally deployed, repairing naval warships in the Andaman & Nicobar Islands.
Meanwhile, the first of seven offshore patrol vessels that L&T (Larsen & Toubro) is building for the Coast Guard has concluded successful sea trials. The new vessel is getting a lick of paint before being handed over on March 31.
Vice Admiral B Kannan, who headed the navy’s nuclear submarine project before he retired and now oversees L&T’s shipbuilding business, points out that both vessels were completed before the contracted time and within budget — a rarity in defence shipyards. Further, both were constructed entirely in-house, and designed in L&T’s Warship Design Centre at Manapakkam, Chennai.
Yet, despite conforming fully to the Make-in-India initiative, Kathupalli is struggling to win defence orders. In three navy tenders opened in September, public sector shipyards outbid L&T, leaving its order book worryingly depleted.
In the tender for building 16 antisubmarine warfare shallow water craft, L&T put in a bid of ~12.34 billion. Public sector rival Goa Shipyard Ltd (GSL) quoted ~7.97 billion and Kerala state PSU, Cochin Shipyard Ltd (CSL), won the order with a bid of ~6.74 billion — a whopping 45 per cent lower than L&T’s.
In the simultaneous tender for building five survey vessels, L&T quoted ~7.42 billion. Public sector shipyards — CSL, GSL and GRSE — bettered that with intriguingly similar bids. GRSE won the contract with a ~5.2 billion quote — 30 per cent lower than L&T’s.
Finally, in the tender for building two diving support vessels, L&T quoted ~7.92 billion. Beating it comprehensively were three public sector shipyards, CSL, GSL and Hindustan Shipyard Ltd (HSL), with the latter’s winning bid of ~5.05 billion being 36 per cent lower than L&T’s bid.
Why did L&T bid so high?
Amongst defence industry analysts, the first question this raised was: Is L&T running Kathupalli so inefficiently that public sector yards can build warships 30-45 per cent cheaper than them? How did PSU shipyards win so conclusively?
Confronted with that question, Jayant Patil, L&T vice-president who oversees its defence vertical, explained how his company structured their bids. Working off a “basic material price”, L&T added to that labour cost and services, escalation, yard recovery, working capital costs, contingencies and a provision for warranty.
“Our final quote was about 1.7 times the basic material price, to cover the other costs. But our public sector competitors’ quotes were just 1.1 or 1.2 times the basic material price. Clearly, they did not need to factor the costs that we did,” said Patil.
What Patil left unsaid was what everyone in the industry knows: that public sector shipyards, which get most of their income from “nominated” orders from the defence ministry, enjoy enormous financial advantages in bidding against private shipyards.
DPSUs have financial buffers that accumulate from being able to cost “nominated” project lavishly, in a singlevendor environment, and obtain advance payments from the defence ministry that pile up into large cash reserves. Consequently, PSU shipyards incur no working capital costs and, in fact, earn billions in interest on their cash reserves. Last year, MDL’s cash reserves of ~83.63 billion generated ~7.65 billion under “other income”, turning an operating loss into a net profit. Meanwhile, GRSE’s “other income” of ~2.27 billion enabled the shipyard to squeak out of the red and show a profit of ~120 million last year.
Nor are PSU shipyards burdened with infrastructure costs, since those have been built up over decades with taxpayers’ money. In contrast, private shipyards like Kathupalli and Reliance Defence’s shipyard must service debt of ~50-100 billion, which drives up their bids. The cost of commercial borrowings, which exceeds 15 per cent per annum, amounts to over 40 per cent of the cost of multi-year shipbuilding contracts.
Also, allowing public sector shipyards to get away with quoting low is the permissive oversight of the defence ministry, which has never penalised them for time and cost overruns. Parliament’s Standing Committee for Defence reports show CSL’s budget to build an indigenous aircraft carrier swelled from the originally sanctioned ~32.6 billion to ~193.4 billion, while the build time rose by six-nine years. Similarly, in Project 15A to build three destroyers, MDL’s cost burgeoned to ~116.6 billion, 325 per cent higher than the originally sanctioned ~35.8 billion. In many such cases the defence ministry justified, and quietly paid, the excess.
Private shipyard executives are confident that, with adequate orders, they can stabilise their finances and compete on equal terms with the DPSUs. But the high-value contracts for capital warships — corvettes, frigates, destroyers, aircraft carriers and submarine, with their advanced sensors and weaponry — are “nominated” to DPSUs. The defence ministry says this is because private shipyards have no experience of building capital warships.
A top navy admiral told Business Standardthat “it would be too risky” to entrust a private shipyard with the impending ~100 billion contract to build two Russian-designed Krivak III frigates for the navy because “the Krivaks are too complex and weapons-intensive.”
Arguing that private yards should “build their skills in a graduated and calibrated way”, he said private shipyards would be allowed to compete for building the eponymous Next Generation Missile Vessels, for which the tender is soon expected.
Meanwhile, GSL is being entrusted with building the Krivak III frigates, even though it has never built a frigate before. “Different logic for the public and private sector”, rues a private shipyard executive.
This is not the first time GSL has benefited from ministry largesse. Manohar Parrikar, as defence minister in 2015, did his home state shipyard a favour by “nominating” it for a ~320 billion order to build 12 minesweepers — a contract worth 30 times GSL’s turnover. Since then, GSL has made little progress in discharging the order.
While the combined turnover of five public sector shipyards for the year ending March 31, 2017, was ~81.85 billion, their order book adds up to ~1,800 billion — that is 22 years of production.
Defence ministry officials, in public interactions with industry, claim the days of “nomination” are over, and that public and private shipyards now compete on equal terms. But the figures tell a different tale, in which public shipyards feast at the high table with the defence ministry, with only scraps being tossed to private shipbuilders.
A Business Standard analysis of shipbuilding orders in the last 20 years indicates that 90 per cent by value, worth ~2,231 billion, were “nominated” to PSUs, while private players were allowed to compete for contracts worth only ~256 billion. Even for that tiny slice of the shipbuilding pie, private shipyards had to compete with the DPSUs, eventually winning contracts worth only ~103.5 billion.
“We don’t need orders for ~1-2 billion vessels. We have invested ~50-100 billion into state-of-the-art shipyards. We need commensurate orders,” private shipbuilders have repeatedly told the ministry, to no avail.
In December, navy chief, Admiral Sunil Lanba, said: “We have also identified ~400 billion worth of [shipbuilding] projects for private shipyards”. But the wait continues.