Defense offsets in India

In a recent conversation I was introduced to Defense offsets in India when I met a person who was organizing a conference on the subject. Within 15 minutes I made a suggestion based on a number of reasons that I - who knew nothing about defense offsets - believed were wrong with Defense Offsets and needed to be fixed.

Defense Offsets require all firms bidding for Indian Defense contracts to either source a certain percentage (30%) of the product from manufacturers in India and/or set aside a certain amount of money to make a investment of not more than 26% share of an Indian firm. The expected Defense Offset through 2020 is considered to be up to USD 30 billion!

Broadly speaking my view was that with its Defense Procurement policy, the government is back to its “Be Indian, Buy Indian” stance albeit with the major difference that they are trying to encourage private enterprise. Their fundamental notion itself can be questioned since we all know where the “be Indian / Buy Indian” stance took us. I should also add that the planned conference is to discuss how the policy can be improved.

Opinions I shared (questions I asked) within minutes of hearing about Defense Offsets (and one I did not) were as follows.

1)      What I did not say, but feel, is that in stipulating the offset, there is a good chance that the contracts will be priced somewhere between a 100 and a 130 rupees. Rather than question the practice, my interest is to see if the practice can be made more palatable to all sides. Opinions I did state were as follows (there may be mechanisms built into the Defense process that address the concerns – I do not know).

2)      Stipulating certain sectors narrows the choice. Further, within those sectors there may only be limited opportunities that are attractive.

3)      Those limited investment targets are likely to know their position and use it to their advantage given the acquirer’s choices are limited.

4)      It is not inconceivable that target firms may also try to influence the selection process to increase the chances of receiving equity funding.

5)      It is possible that the Defense Department makes a choice of supplier because they agree with that particular bidder’s  investment choice.

6)      The government is using its buyer power to force FDI to occur – and does not get any benefit (other than hopefully the best product their money can buy!). The benefit goes directly to the private enterprise. A good thing with the above caveat that only select sectors get the benefit.

7)      The bidding firms presumably do not have the wherewithal to evaluate all opportunities in all sectors.

The next morning I read up about defense offsets. What struck me forcefully is that many of the negatives I had raised turn out to be the very points being made against the program. How is it that a person with average intelligence can so quickly see so many negatives and the people who run the program cannot?

While the solution I proposed did not appear to have been suggested earlier (cannot be sure since my internet search was just for a couple of hours) it does seem to address the concerns raised by others. This is not to say that the suggestion is palatable – just different to the ones that essentially call for a lifting or broadening of the range of FDI (foreign direct investment) equity ownership. Some concerns I had raised have tried to be mitigated by the Defense Dept broadening the scope of offsets (increases the investment choice) to include internal security and civil aerospace and training.

It also appears to me that there a whole range of interests arrayed for and against – a lot of vested interests that stand to gain from policies being maintained and those on the other side.

Insofar as the increased efficiency of the related value chain, attempts have been made: a few clusters already exist; there are groups whose stated interest is to foster innovation and commercialization of technology etc.; and there are think tanks set up (at least one of) whose major interests is to look at issues related to Defense Finance and Defense Budgeting.

In my limited search I could find no mention of studies or suggestions regarding the improved financing of the firms in the above noted value chain. 

Part of my goals once I have a better grasp and better network is to apply my mind to such work. The basic notion here is to use a pool of capital that is hidden in plain sight and to leverage capital for greater effect. The two areas we ought to study and find solutions in are: the financial efficiency of the Defense procurement value chain and the creation of a pool of investment capital sourced from Defense Offsets but investible in any type of industry that FDI is currently allowed in. It would be split into a defined number of smaller pools and each would be managed by experienced investors and cover specific groups of industries. 

Advantages of I can think of (of creating an investment pool) are as follows.

1)      If bidders had a specific target investment in mind they could still pursue that – all that would have done is outsource the due diligence

2)      It opens up the opportunity to all sectors and leverages the available capital in the sense that the funds are now more likely to be directed to the best opportunities.

3)      The bidders do not have the hassle of negotiating the stake, accounting for it, managing the relationship etc. They could simply state the sector they want to be invested in or leave it open.

4)      In return for their role in sourcing capital for the funds they can charge say half a percent (USD 150 MM over 8 years) and use the proceeds to encourage technology commercialization, R&D etc. (though not through the same stodgy mechanisms/vehicles that have proven they do not work).

Needless to say framing the intermediary role and appointment criteria will be key. 

I look forward to your views and suggestions.

With my best wishes, Vishnu.

Driving Enterprise Growth Part 3

I have received more private comments on the notion that changing road use behavior can lead to changed attitudes that translate to better behavior in general and better work place behavior. Behavior, I feel, is necessary if we want to make quality products and provide world class service. Behavior, I think, that is necessary for us to have pride in our handiwork and a belief that we can make our future bright. The past, however glorious, (this is not heritage I am talking of, which is also important - but rather a finger pointed at our habit of extolling past achievements that we do not truly value but only speak of) is past. We can no longer depend on that. We must make our future.

A key thread in those comments I received is that; for good behavior there must be an expectation and a threat. This is logical since as a friend pointed out, the same person that for example, drives badly behaves better in the work place. Reason is that he/she is expected to and knows that there will be consequences of considerable magnitude.
Whilst this is correct, it cannot explain the poor work attitude that is commonplace (think not only of the starched shirt that relies on sycophancy to get ahead; but also of the carpenter who leaves a mess because cleaning up is not his job; and everything in between). In most firms it should be possible to reinforce and flood peoples minds with what is expected. This seems to work better if the leadership practices what it preaches. Also, as pointed out by a person that handles training in the work place, changed behavior lasts longer if it is properly introduced and reinforced early in the career.


So should the argument be turned on its head - reinforce better practices at work and expect them to become better road users? Perhaps, and I would like to hear your views.

For one, the solutions that can address better road use are deeper (should address more than what a company addresses). Two, they can be broader (in terms of range of people impacted - unemployed and employed). Three, they are more universal (they are transferable across job and "extra-curricular" functions and processes).

As an aside, this seems to work well even before a career starts. Get school kids to pick up rubbish as a mandatory course requirement and they are unlikely to throw their rubbish around. This experiment was tried in a small way at the University of Hyderabad and seems to work. One solution therefore is a mandatory course on good use of roads that is taught in every grade from kindergarten to the end of school with the course covering every aspect of road use - from behavior specifics to attitude to the environment and most importantly why each aspect is so important and it should include practical work as well.

This in turn raises a new argument. Should we simply focus most of the effort on school children and those that have not been able to go to school but are at the age where they use roads? Perhaps.

There is yet another argument. This has to do with my view that people in cities behave more badly than people in villages because in a city (or any crowded environment) one has to compete for resources (from bus seats to movie tickets to pavements and jobs). So if we were to provide more resources would the behavior change. For example, if we had more and better busses and roads?

An academic suggested that the problem may be because we are a collectivistic society. If I understood him right, we are expected to be responsible for not just ourselves but our families, servants etc. This could make us more aggressive in our behavior especially when it comes to "being first" for resources - be those resources movie tickets or blood banks!

For this theory, while one cannot ask people to not look after the people they are responsible for, over time we could make it easier for people to not HAVE to look after all those people. If they WANT to, fine.

My learning from the above is what I had suspected at first. There is no one solution. We should identify as many reasons / arguments as possible and then craft solutions for each. They need not be coordinated but they must be wide and sustained. Flood and flood repeatedly. There must however be only one objective: of getting us to naturally take pride in what we do and how we do it.

Look forward to your ideas. Am glad more folks are reading this and would be most appreciative if you got the message out and the comments in.

My best wishes to all, Vishnu.

Driving Enterprise Growth Part 2

Wonder if Sunil's point (see message from him to the Part 1 post) was the same as (similar to) the one made by Gurcharan Das in his book India Unbound. I qiote from the bottom of page 312.

"The answer (to the question as to why there is no appetite for education reform in India) may well lie in the liberal fallacy - that is, the naive assumption that reasoning will prevail over interests."

Mr. Das goes on to point out that the opposite often happens and that the road to power is through satisfying interests.

If so, I definitely do not disagree. This point is actually at the very heart of my suggestion. That the value of behaviour modification via better road sense is to our economy and employability (if there is such a word). It is meant to address the interests of employers and employees.

My sister in Canada who seems to hesitate about posting her views on the internet, realized this when she suggested that I go to a couple of large Corporates and get them interested in the idea.

Let us all build the argument and the methods.

Look forward to your opinions and views.

Vishnu.

Testimony of Kauffman Foundation Senior Scholar before the U.S. Subcommittee on Technology and Innovation

http://www.kauffman.org/newsroom/testimony-of-brink-lindsey-before-the-subcommittee-on-technology-and-innovation-house-committee-on-science-space-and-technology.aspx

While this has to do with the U.S., and while Entrepreneurship has been growing in India, the solutions presented by Brian Lindsey would not be out of place in India. India has in my opinion, benefited from a latency (pent up demand for entrepreneurship caused by regulation) that has encouraged entrepreneurs despite obstacles thrown at them. If this latency is viewed as sufficiency of reform, that would be complacency and lead to a situation that the U.S. is in now.

Vishnu.

Driving enterprise growth

In what follows, I could give numerous examples but the post would not end and the main purpose not served. Arguments noted are meant to support the notion that "bad behaviour is representative of bad attitude, it can be changed, it must be changed if we are to drive enterprise growth." I may add more to this post later. This is just a streaming thought kind of post.

Almost every day, and definitely every day that I am on the road, I see drivers and pedestrians that make me want to hurt them. Badly.
My reaction is not atypical of many others. Some of whom also drive badly.
My reaction is also not typical of many others.

1) People on our (indian) roads take their life into their hands. They are not even seeking divine intervention when they do that. They just seem to think they can get away with it.

Those who talk of that much-lauded Indian quality of creating something with meager resources or of achieving something in the face of daunting obstacles (often red-tape) may even view this risk-taking on the road as a positive thing. The dead or maimed person on the road being merely the object of speculation as to how they might have got hurt or died - a symbol of failed risk. After all, is not the natural order of things? Take a risk and not always succeed.

There is another dimension. The sense that "I can get away with it". Like many who indulge in a forbidden activity, getting away with a misdemeanor is a thrill. One gets a high from it. A thrill. Natural then to try one more. Pretty soon its standard practice. This is not specific to any particular socio-economic strata. This attitude is widely-accepted in India. Perhaps not when it is at one's expense but generally so.

This is the only one of the 4 aspects that can have some remotely possible positive quality - if one can call it that.

2) People on our roads are very quick to blame the other person even when the mistake was obviously theirs.

3) People on our roads are selfish. Give way to someone even when it makes perfect sense to do so and at zero cost? Of course not. Enter a road aggressively and then slow down in the middle of it so no once can safely overtake? Why of course!

4) People on our roads are slovenly. They meander, talk on their phones, think nothing of spoiling it.

There are more aspects but many fall broadly into the above categories.

Lately I have got to thinking that this is a reflection of the general attitude of the person. I cannot imagine such a person going into work and giving his/her best. Of being a good team player. Of being interested in really serving the customer. Of doing their job because it is needed to be done and done well as opposed to doing their job simply to impress someone higher up so they can move up in life. Of paying attention to detail - even when no when is watching!

Cannot resist one example. A person (not saying at which of the organizations I am/have been associated with since it is not important for this purpose) said that Google gave their staff dried fruits, fresh fruits, etc. and added that some staff misused this practice by stuffing their bags with fruit to take home to family and friends. A "senior" member of the group stated to this more "junior" person that there was nothing wrong with that. "When I give my maid left-over food I do not mind whether she eats it right then or takes it home". "Moreover, one person may eat ten apples. So why cannot one person take home 10 apples?". I was gobsmacked by what I had heard to say the least. That the "senior" could not see what was wrong with the argument was chilling. I can only hope that such logic is rare but I am afraid I am wrong.

Here is my recommendation and my challenge to people. Question my recommendation below, but also  be honest, and if you agree then rather than say "its been tried and failed" or "good theory, won't work"; apply your mind to the solution - be bold, be creative. Its far less risky than driving on our roads!! Lets start somewhere!

RECOMMENDATION
We should change peoples attitudes and behaviour at work by getting them to drive better. Get vehicle dealerships to require that every customer must see a well-made video on road etiquette; graphic images of the horrors of poor use of our roads; heavily punitive fines for over-loading, driving on the wrong side of the road etc.; mandatory inspection of vehicles more than 5 years old; muezzin, priests, god-men to sermonize on the importance of proper road usage and etiquette; frequent radio and TV shows (will beat some of the inane debates we see hosted in the name of intelligent activity). Get the picture. Flood the minds with good road use and etiquette.
My suspicion is that bad behaviour will be unlearnt, good behaviour will be practiced, people's attitudes will change (see how much they have changed towards caste or towards being rich in just the past 2 decades - so yes, beliefs and attitudes can change); they will start taking more pride in their work; and they will get to work faster and in a better mood.

If you believe this, +1 it, add to it, twitter it - go and spread the word. India will then truly be both incredible and rising! We would have, together literally driven better enterprise.

Best wishes, Vishnu.

One group’s effort to bridge the Invention Innovation Continuum

The National Academy of Agriculture Research Management (NAARM) in Hyderabad kicked off a 3 day “Mega Meet on Technology Commercialization” today (September 29th, 2011). I was invited to the Inaugural Session and came away impressed by the enthusiasm and belief that was expressed by the speakers. It is not as if the Agriculture Sector has the buzz of a high powered VC convention but I went along because I have a view that it is a sector that is very important to this (and other) country(ies) and wanted to get a first hand impression of what some of those who very much believe in developing the sector think. That they were expected to discuss the commercialization of technology with its implications for all sectors was an added incentive. While there was no mention of financing issues except in a tangential sense;  I came away from the meeting further motivated and incentivized to – once I have developed a broader understanding of financing issues in India - apply my mind to financial solutions in this sector and in the area of technology commercialization. Not so much because there is a need, there is no doubt there is. More so because I got the sense that the people in that room were committed. They did not appear to be there for a 3 day vacation but to roll up their sleeves and try and structure ways and means of commercializing technology in the agriculture space. Scientists, inventors, farmers (and farmers that were inventors), Intellectual Property experts, business managers, academics and others were going to sit down together, work shop-style and evaluate some inventions (and innovations) and discuss as to how best to commercialize them. Their intention is to then take some of the best ideas forward (bridge that continuum) by forming a council that would over time, after the work shop, guide the commercialization of the technology and products. I wish them well and will attempt to follow their progress.

What follows are some salient points made by the speakers and a couple of websites well worth noting. Please do Google some of the speakers as it will give you a better sense of their motivations and abilities.

The central message in the speech by DSK Rao, Director, Agribusiness Knowledge Center, NAARM, was that customers were the key. A very well-made point and one that has to be the key. Does not every Angel Investor or Venture Capitalist feel comfortable knowing their business prospect actually has customers? The point DSK Rao was making therefore was that the group that was gathered had to come up with intelligent ways to get the products successfully commercialized and to realize the importance of positioning the product in the market. He also gave some examples of seemingly good products not getting traction: one was when he compared a multi-protein chappathi that found no buyers while people paid a lot to eat pizza; another was the hard time a person who bottled coconut water had in competing with the aerated drinks available in the market.

Dr. A.S. Rao, Director of Innovations at the Center for Innovation, Incubation, and Entrepreneurship at IIM Ahmedabad spoke about how the invention and innovation landscape has changed. He noted that “in the early days” an innovative product would be show-cased at an “extension center” and those who wanted to or could replicate it, would. He contrasted that with the current world of intellectual property (neither good nor bad – but different). He spoke of the various sources of invention: from inventions that were not for the general domain (example atomic power) that one arm of government would invent and another arm of government use; to the DRDO India (Defence Research and Development Organization) that develops products that can also be produced by private industry and used commercially (or lead to that); to the Universities that develop inventions (Dr. Rao noted that many leading western universities had Knowledge Transfer / Commercialization Centers); to “garage-based” scientists (which would include farmer-inventors).
Dr. Rao spoke about the NRDC (National Research Development Council) that intended to help commercialize technology by buying the technology, selling the license to the technology, and sharing the proceeds with the developer of the technology. Dr. Rao noted that the model did not work well and suggested that the cause was a flawed model. He then spoke of Intellectual Ventures (www.Intellectualventures.com) which has a similar purpose but which is more successful (and which has invested in India as well). According to their website, “ we invest both expertise and capital in the development of inventions. We collaborate with leading inventors and partner with pioneering companies. By providing access to our portfolio of patents, we help our customers innovate and reduce their risk by Bridging the Invention Gap™ between the invention rights they currently have and the invention rights they need.”.

PVA Rama Rao, the ex-Managing Director of NABARD (National Bank of Agriculture and Rural Development) spoke of the failed government institutions and policies. He noted for example that Extension Centers (which appear to be “field” Knowledge Centers) often do not have personnel, equipment or both! He also noted that in his view government policy appeared to be based on convenience when it should be based on compulsion.
Rama Rao’s central view was that Food Security was a key issue for the country. He noted that barring an aberration last year, food production in India was about 200 million metric tons while we needed a further 25% in a few years time to have Food Security. He was therefore keen that issues be tackled with a sense of urgency; and that the PPP model be made into the PPPP (the fourth P being Panchayat) model to better ensure adoption of solutions to the sector’s issues.

Ms. C.S. Ramalakshmi, IFS, Commissioner of Sericulture, Andhra Pradesh spoke quite forcefully about a few issues.
1)      She made the point that when technologies or sectors are scheme and subsidy driven they often fail when those crutches are removed. (She did not offer a solution but I think that this is a point worth thinking about – how does one give the support but ensure success when the crutches are removed?).
2)      She spoke about the failure of a government-led scheme (cannot remember the name) for composting that was a failure because it proved costly to farmers and the government wanted their process to be followed without any amendments by the farmers. She noted that consequently “thousands of units were sanctioned but not installed”. Comes back to the point about customer need and involvement DSK Rao also made.
3)      She spoke about NREGA being something that we have to live with even though it resulted in increased labor cost. She noted that sericulture was a labor intensive industry and that therefore it was even more imperative that productivity be increased through innovation. She gave the example of a farmer in Chitoor who designed an elevator cum trolley to transport mulberry leaves to feeding silk worms and noted that the invention reduced that farmer’s need for labor. Her point was that machinery could (and in her mind, should) be locally produced and customized at the farmer level (“if individuals can design their own sarees and handbags today why cannot farmers customize their machinery?”) since different farmers have different needs and a given farmer’s needs are not static over time.
4)      She noted that China exported a lot of silk and produced a lot of bivoltine silk (from the internet I was able to learn that this strain of silk worm, as opposed to multivoltine, has less quality issues) and that India had issues with the production of bivoltine silk due to cooler temperatures and lower humidity (the mulberry leaves dry faster and that is a problem). Yet farmers were finding indigenous localized solutions to increase their ability to produce bivoltine silk. She also pointed out that Japan made the best silk but technology transfer from there was too costly so the Indian silk industry developed solutions locally. Her point was that innovation was not the problem, replication was.
5)      She said that to ensure replication, customization of machinery (increase in productivity) etc. entrepreneurship was needed. She stressed though that the technology must be validated by the farmer. The point was that the end-user need to test the idea and rate its usefulness. She then closed by saying that it was therefore good to see actual farmers in the room and pleased that they were a part of the workshop on the commercialization of technology.

Another point well noting is the website www.academicventures.in. This organization aims t “take Indian inventions from the lab to the market”. Its founder, Arpit Agarwal was a part of the workshop.

Overall, my impression is that the problems in the sector will not be solved soon but that if well thought through, this group has the potential to start finding solutions to the commercialization of technology in the agriculture sector. I  wish them the very best.

Vishnu.

Comments on SEBI's concept paper on Alternative Investment Funds

This is my first ever blog. My apologies in advance for mistakes made as I learn to use this tool

AUGUST 11, 2011

SEBI recently released their “Concept paper on proposed alternative investment funds regulation for public comments” (http://www.sebi.gov.in/commreport/alternativeinvestment.pdf).

Directionally SEBI appears to be proposing some very positive steps. Even though costs may increase as a result of increased regulation, proper regulation and properly regulated market mechanisms are valuable. That said, I have some comments and suggestions that I feel: could be considered by SEBI and; are in line with SEBI’s original purpose of fostering the funding of entrepreneurs’ early stage investments.

Disclaimer:  these are my views and not necessarily the views of the institution I work for; and my inputs are biased given my interest in making more funds available to a broader range of entrepreneurs.

The comments/suggestions below also assume, for reasons of brevity that the reader is familiar with the contents of the “Concept Paper”.  Finally, the comments and suggestions are not based on any intricate knowledge of all the regulations pertaining to funds investment in the country and are meant not as a criticism of SEBI. They are meant only as food for thought and while it is accepted that the “devil is in the details” it is also recognized that “where there is a will, there is a way”.

1)      While the concept paper is directly related to funds, perhaps there should be a section on what’s being done in the area of Alternative Investment Activity. For example, there may be entities outside India that do not want to create funds in India – but solely to invest in India. In such cases it is more their activities, rather than their fund-raising that becomes relevant. In such cases too, there ought to be regulations that will protect both investors and investees without hampering growth. In this aspect, I am excluding Private Equity Funds as I suspect that those would be covered more by FDI regulations. I am referring more to funds created abroad for the express purpose of say, SME investing or social investing.

2)      The concept paper suggests that the minimum floor for an investor in a given fund should be INR one crore ostensibly to prevent the subject funds from becoming retail based.  In the case of AIF’s constituted as Company or LLP the units would not exceed INR ten lakhs and the number of partners not exceed fifty.

Given the inherent risks in early stage investing, and SEBI’s goal is to encourage early stage investing, it may well be worthwhile developing ring fencing mechanisms that prevent the “retail-ization” of funds while allowing for smaller size investments.

3)      Directly tied with the idea above is the notion that the concept paper’s definition of Social Venture Funds be amended to also include very-early-stage SME funds. Doing so will encourage the aggregation of investment capital that is more concerned with social returns than absolute economic returns and which does not mind that their funds are being used to create entrepreneurs rather than to fund entrepreneurs who have already achieved a modicum of success.  If SEBI was also to require that the funds could only invest in registered entrepreneurs (i.e. registered firms) it would also help make a dent in the very large component of total funding for entrepreneurs – that of informal financing of entrepreneurs. For all of this to happen, it must be possible to invest smaller amounts as doing so allows the investor to lower his/her perceived risk or spread that risk by investing the same 25 crores in 2 or 3 funds as opposed to a single fund.

4)      It may also be useful for the concept paper to address the issue of governance of the fund managers more substantially. I believe that in the case of SME funds and SVF’s the funds must limit the number of investments that any one fund (or within a fund, a portfolio manager) manager can oversee. The managers must also be reasonably qualified and this qualification ought to be reviewed and all managers of portfolios approved by a regulatory body. After all, the stated advantage of having formal investors in early-stage funds is the industry focus and hand-holding that they bring to their investments.

5)      Similarly, to encourage a broad based investment approach and encourage more early stage funding, it may be worthwhile to limit the maximum investment in any one firm to 10% rather than 25%. It may be possible to have different limits for different kinds of funds.

6)      The concept paper notes that MFI (Micro Finance Institutions) could be funded by SVF’s (Social Venture Funds). In my view, the MFI’s are often an aggregator and distributor of funds and therefore present an additional layer or link – and therefore often additional cost – in the chain that flows from the source of the funds to the user of the funds. MFI’s should be judged by their ability to lower funding costs to entrepreneurs. So if SVF’s that expect lower returns are used to fund MFI’s, it should logically flow that the MFI’s must demonstrate that they are not costlier for consumers than at best, bank price of funds (assuming the unbanked got prices similar to the lower end of the banked segment – that is high spreads to cover risk) or at worst not costlier than prices arrived at after MFI’s are funded by alternate sources of equity.

7)      Equity funding appears to be the thrust of the paper despite the references to the possibility of investing in convertible debt. Based on the concept paper, my view is that Debt funding of early stage companies is largely ignored. For example the “Conditions for Debt Funds” are unlikely to ever cause the debt funding of early stage firms.  The creation of securitized debt assumes a revenue stream to allow the repayment of the debt (or in the case of collateralized debt the presence of assets that would cover the default). Early stage companies may not have that luxury as they could well be in a pre-revenue stage. On the other hand they may prefer to have debt rather than equity based on the nature of their business. In both cases, early debt and early equity, the investor could insist on close monitoring of the firm and involvement in the management of the firm and if needed convertible debt.

I would welcome feedback on these comments and suggestions and furthermore, on any ideas, suggestions and solutions related to how funds can be made more easily available to entrepreneurs.