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PURCHASE PREFERENCE TO LOCAL SUPPLIERS IN PUBLIC PROCUREMENT

Ministry of Commerce, Department of Industrial Policy and Promotion (DIPP), as a recent  measure to energise manufacturing in India, has notified provisions  for mandatory procurement of any category of goods and services from the local sources. The author analyses the implications for defence industry.

 

Notification of Public Procurement (Preference to Make in India) Order, 2017 by the Ministry of Commerce, Department of Industrial Policy and Promotion (DIPP) on 15June 2017 is the latest, in a series of measures, being taken by the government to energise manufacturing in India. It is significant that this notification has been issued under the newly introduced Rule 153 (iii) of the General Financial Rules (GFR) 2017 which enables the government to provide for mandatory procurement of any category of goods and services from the local sources. To put it in perspective, GFR is the fundamental treatise of the central government on matters related to public procurement of goods and services, execution of works and other subjects related to financial management. This makes the regulations, orders and instructions issued under its provisions binding on all procuring entities of the central government.

The term 'procuring entity' has been defined in the order as 'a Ministry or department or attached or subordinate office or autonomous body controlled by the Government of India and includes Government companies as defined in the Companies Act.' The order requires, the administrative ministries to issue suitable instructions to the government companies under their control to comply with the order. All department-specific manuals on procurement procedures, such as the Defence Procurement Procedure (DPP) and the Defence Procurement Manual (DPM), derive their authority from the rule in the earlier editions of GFR, corresponding to Rule 142 of GFR 2017, which permits the procuring entities to issue detailed instructions relating to procurement of goods broadly in conformity with the general rules set out in the GFR.  The 15 June order will impact all such department-specific manuals.

Purchase and Price Preference to local suppliers

While procurement up to Rs 5 lakh is exempted from the operation of the order, for cases with estimated value of procurement falling between Rs 5 lakh to Rs 50 lakh, the following provision has been made:

“In procurement of goods in respect of which the Nodal Ministry has communicated that there is sufficient local competition, and where the estimated value of procurement is Rs 50 lakhs or less, only local suppliers shall be eligible.”

[The 'Nodal Ministry' is defined in the order as the 'Ministry or Department identified pursuant to this Order in respect of a particular item of goods or services'. The 'Local Supplier', on the other hand, is defined as 'a supplier or service provider whose product or service offered for procurement meets the minimum local content as prescribed under this Order or as prescribed by the competent Ministry/Department in pursuance of this Order'. The minimum local content prescribed in the Order is 50 per cent in general.]

            The intention of this provision is clear: the procuring entities will have to necessarily procure from the local suppliers if the estimated value of procurement falls within the prescribed band but the way it is worded raises at least three issues:

  1. Is it applicable only to procurement of 'goods' and not to 'services'? Incidentally, this question is also relevant in the context of procurements exceeding Rs 50 lakh.
  2. What is meant by the stipulation that only the local suppliers will be eligible to participate in tenders for procurement of goods in respect of which the 'Nodal Ministry had communicated that there is sufficient local competition'? Who is the nodal ministry to communicate this?
  3. What will constitute 'sufficient local competition'?

            Procurement of goods exceeding Rs 50 lakh falls into two sub-categories: those where the quantity intended to be procured is divisible and those where it is not. The procedure to be followed for procurement falling in these sub-categories will be as follows:

  1. If the lowest bid (L1) is from the local supplier, the contract for the full quantity will be awarded to that supplier.
  2. If the lowest bid is from a non-local supplier, the local supplier whose bid is the lowest among the category of local suppliers will be given an opportunity to match the price offered by the non-local lowest bidder provided the local supplier's bid is within the 'margin of price preference'. Subject to such a local supplier agreeing to match the L1 price, contract for 50 per cent of the order quantity will be awarded to him/her. This method will naturally be possible only if the order quantity is divisible.
  3. If the quantity is not divisible, contract for the entire quantity will be awarded to the local supplier is subject to his/her offer being within the 'margin of price preference' and his/her matching the lowest price quoted by the non-local bidder.
  4. (d) If the local supplier does not agree to match the lowest price quoted by the non-local bidder, or accepts less than the offered quantity in those cases where the order quantity is divisible, then the opportunity to match the lowest price quoted by the non-local supplier will pass on to the next higher local bidders, one by one.

            It implies that where the order quantity is divisible, the actual non-local lowest bidder will get the order for only 50 per cent of the order quantity but if the total order quantity is not divisible entities will not get the contract at all. The non-local suppliers will need to keep this in mind while finalising their price bid. The beneficiary in both the cases will be the local suppliers but it is critical that their price bid be within the 'margin of price preference' for them to avail of the opportunity of matching the price bid of the lowest non-local supplier.

            The 'margin of price preference' is defined as 'the maximum extent to which the price quoted by a local supplier may be above the L1 for the purpose of purchase preference'. This margin has been fixed at 20 per cent in the 15 June order. It means that, for example, if the lowest bid of the overall non-local supplier is Rs 100, the local suppliers will get an opportunity to match that price only if the price quoted by them is Rs 120 or less.

Power to Grant Exemption and vary the Percentages

The procuring entities have been empowered to (a) reduce the minimum local content below the level of 50 per cent prescribed in the order, (b) reduce the margin of purchase preference below 20 per cent, and (c) exempt any particular item or procuring or supplying entities, or class or classes of items from the operation of the order or any part thereof.  This will require a written order to be issued by the procuring entity concerned and a copy of the order will need to be sent to the Standing Committee constituted under the provisions of the order.

            This gives a lot of discretion to the procuring entities but exercise of discretion is a double-edged sword. Those vested with the power to exercise discretion often refrain from doing so not only because of the inherent risks but also because it is not common for the decisions taken in exercise of the discretion being challenged by those who stand to lose from such decisions. And then, there is always a possibility of misutilisation of the discretionary powers. A mechanism will need to be created by the procuring entities to prevent such transgressions.

            On the flip side, the procuring entity could actually increase the minimum 'local content' requirement after annual reviews, subject to 'availability of sufficient local competition with adequate quality'. It remains to be seen how such reviews will be carried out and with what result.

Issue with the 'Local Content'

To qualify as a 'local supplier' or 'service provider', the product or service offered for procurement by such a supplier has to meet the requirement of the minimum 'local content' which, as mentioned earlier, has been fixed at 50 per cent in the order, though it is subject to being varied by the procuring entities.

The 'local content' is defined as 'the amount of value added in India' which will be 'the total value of the item procured (excluding the net domestic indirect taxes) minus the value of imported content in the item (excluding all customs duties) as a proportion of the total value' in percentage terms. Past experience shows that in sectors, such as aerospace and defence, it is extremely difficult to achieve high levels of value addition in India.

It may be recalled that under the 'Buy (Indian)' category, which was placed at the top of the hierarchy of preferred procurement categories in DPP 2013, the requirement of indigenous content, which is almost synonymous with the concept of 'value addition' incorporated in the 15 June order, was just 30 per cent but procurement under that category did not pick up largely because of the difficulty in ensuring the requisite extent of indigenous content in the product.

The requirement of 50 per cent 'local content' could, therefore, pose a challenge in defence unless the Ministry of Defence (MoD) did not really know for taking pragmatic and quick decisions  breaks with its past risk-aversion proclivities and stipulates realistic levels of value addition. While on the subject, it requires consideration whether a policy of graded price preference, linked with say every 10 point increase in the 'local content', starting with a base level of 30 per cent, would work better.

On the positive side, a provision has been made in the order for accepting claims of 'local content' based on 'self-certification'. The claim will require to be backed by a certificate given by the statutory auditor or the cost accountant where the estimated cost of procurement is more than Rs 10 crore. The order also provides for verification of such claims by a committee of internal/external experts and debarment in the event a declaration is found to be false.

Standing Committee

The 15 June order envisages constitution of a Standing Committee under the chairmanship of Secretary, DIPP for overseeing implementation of the order. This committee will have Secretaries of the Ministry of Commerce and Electronics & IT as well as Joint Secretary (Public Procurement) in the Department of Expenditure as members and the Joint Secretary (DIPP) as the member secretary.

The secretary of the department, concerned with a particular item, will serve as a member of this committee in respect of issues relating to such items. The committee has also been empowered to co-opt technical experts. This could be of a great help, depending on how proactive the committee is in discharging the responsibility entrusted to it.

Government E-marketplace (GeM)

As far as feasible, the GeM portal will 'specifically mark the items which meet the minimum local content while registering the item for display' and make a 'provision for automated comparison with purchase preference and without purchase preference and for obtaining consent of the local supplier in those cases where purchase preference is to be exercised'.  This should pave the way for a smooth implementation of the policy in respect of procurements made through GeM.

Participation of Non-Local Suppliers on the Basis of Reciprocity

At the discretion of the procuring entities, suppliers from the countries where the Indian suppliers are not permitted to compete could be declared as ineligible to bid. A supplier will be considered to be from such a country if '(i) the entity is incorporated in that country or (ii) a majority of its shareholding or effective control of the entity is exercised from that country, or (iii) more than 50% of the value of the item being supplied has been added in that country'.

Disclosures in the Request for Proposal (RFP)/Notice Inviting Tenders (NIT)

Needless to say, the order provides for disclosure of all conditions and percentages related to the purchase and price preference in the RFP/NIT or any other form of solicitation and adherence to it throughout the tendering process.

Why it may still be work-in-progress?

There are at least four reasons why the 15 June order, while undoubtedly laying a firm ground for implementation of a policy that jibes well with the government's Make in India aspirations, may still be a work-in-progress.

One, there are issues arising from the text of the order that need to be clarified. The primary issue, of course, concerns its applicability to procurement of services and whether the services are to be viewed as divisible or non-divisible for the purpose of providing an opportunity to the local lowest bidders to match the overall bid of the non-local bidder.

Two, ministries like defence and railways  not to mention individual public sector undertakings and autonomous bodies  will need to amend their procurement manuals to align them with the preference policy. The MoD alone has at least four manuals, one each for revenue and capital procurement for the armed forces and one each for the ordnance factories and the Defence Research & Development Organisation (DRDO). Amending them could be a mammoth task, especially if, as stipulated in the order, all procuring entities are required to review all eligibility norms and conditions for prospective suppliers.

            Among other things, the procuring entities are required to ensure that the eligibility conditions related to turnover, production capability and financial strength 'do not result in unreasonable exclusion of local suppliers, who would otherwise be eligible, beyond what is essential for ensuring quality or creditworthiness of the supplier'. Translating this into measurable norms will be a challenge. On the brighter side, proof of supply to other countries or exports may no more find place in the eligibility conditions.

Three, the Standing Committee will need to identify the 'nodal ministries' and allocate specific items to them so that they could determine and notify the minimum local content required for each product. The idea of creating nodal ministries is good as it will save the effort put in by individual procuring entities at present and bring in economies of scale. For example, it may be a good idea to make MoD the nodal ministry for procurements related to the paramilitary forces also. But it will take some doing to implement this idea.

Four, procurement of goods up to Rs 50 lakhs is contingent upon, among other things, there being sufficient local capacity to generate competition. The order goes on to specifically mandate that the nodal ministries will keep in view 'the domestic manufacturing/supply base and assess the available capacity and the extent of local competition while identifying items and prescribing minimum local content or the manner of its calculation, with a view to avoid cost increase from the operation of this Order'. Evolving the methodology to assess the extent of supply base and ensuring that there is no increase in cost because of the operation of the order is a challenge not every procuring agency may be geared to meet.

Onus also on the Local Suppliers

Notification of the broad policy framework places a heavy burden on the local suppliers and their associations to provide inputs to the government for filling in the gaps not only in regard to the issues arising from the 15 June order  some of which are highlighted above  but also on a host of other issues which may impact its implementation. At least two such issues come to mind instantaneously.

One, pro-active advance disclosure by the nodal ministries about their recurring and one-time requirements will help the suppliers in meeting all the eligibility conditions to be able to take advantage of the policy. The local suppliers will need to sensitise the procuring entities of the kind of information they should disclose so that it is of help in gearing up for meeting the requirement as and when the bids are solicited.

Two, the local suppliers and their associations also need to make the procuring entities aware of the sector-specific measures that require to be taken to create an eco-system that is conducive in improving the ease of doing business in the sector concerned. There are a large number of issues in the defence sector alone, ranging from lack of systematic disclosure about revenue procurements to frequent retraction of the RFPs. But there are also a large number of mundane issues such as inordinate delays in getting the payment against their invoices and unresponsiveness of the procuring entities which cut across various sectors. In fact, it is these mundane issues that pinch the suppliers more than the broader policy issues.

The writer is former Financial Advisor (Acquisition) and Additional Secretary and Member of Defence Procurement Board, MoD.

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