"India 2nd largest importer of conventional weapons," Business Standard, February 14, 2008.

Mumbai, 14 February 2008: "United States to remain World's largest Defence market till 2040, China emerges as Asia's largest military spender and Israel set to be India's largest military vendor," says a report titled Indian Defence Industry - Reaching New Frontiers, on the Defence Industry by leading professional services provider Ernst & Young. The report studies the industry trends across the globe, issues & challenges facing the Defence Industry as well as how mergers and acquisitions are changing the world dynamics.

As per the Ernst & Young report, World military expenditure in 2006, estimated at USD1204 billion, saw a real increase of 3.5% over the previous year, largely due to the continuing US led war on terror, including Iraq and Afghanistan. Military expenditures amounting to 2.5% of World GDP have significantly escalated after the September 11 attacks, says the report.

Commenting on the findings of the report, Mr. Kuljit Singh, Partner, Ernst & Young said, "With developing countries assuming greater importance in the Global Defence Industry, the world dynamics are constantly evolving. Defence Expenditure across the globe is showing a northward trend and the increasing use of technology in the Defence Industry is bringing in an era of growing self-reliance. The increasing focus on private partnership and indigenisation will drive the growth of Domestic Industries, however, in today's globalised world the importance of arms imports cannot be underestimated by nations."


Trends in Global Defence Industry

· US, the largest defence market - estimated at $1.01 trillion in 2040, with 36% of global demand

· China, the emerging force - As per Goldman Sachs report, Chinese demand for military hardware will reach $295 billion, up from $120 billion today—a 2.63% CAGR by 2040

· Demand from other Asian countries (including Australia, Japan, and India) will double to $504 billion, a 2.3% CAGR over next 35 years

· Growth rates in the US and Europe will be an estimated 1.2%.


A region wise analysis on defence expenditures across the globe indicates that:

North America, including USA tops the list with 47%, followed by Europe which accounts for 27% of the total world military expenditure

Over 1997-2006, Central Asia, Eastern Europe, the Middle East, South Asia, North America and sub-Saharan Africa increased their military spending by more than 50 %

As per Stockholm International Peace Research Institute (SIPRI), China's defence spending surpassed that of Japan, making it the leading military spender in Asia for the first time since 1970.


THE INDIA STORY

This report also offers an overview of the Indian Defence Industry, putting India as the world's largest importer of military hardware. The report also emphasizes on India's quest to attain self-reliance in defence production and developing capabilities for indigenous manufacturing.


Speaking on the Indian Defence Industry, Mr Singh further added, "With India becoming the second largest importer of conventional weapons in the world, second only to China, the country is emerging as an extremely important market with high business potential."


Other key points highlighted in the report:

India's defence expenditure growth pegged at a CAGR of 8% for the period 2004-05 to 2007-08.

Indian defence budget for 2007-08 was Rs 960 bn of which 44% was towards acquisitions of new weapons, systems and equipment.

India, with purchases over USD 6 billion in 2005-06, was the world's largest importer of military hardware

As compared to India, Saudi Arabia and China; the next two large armament buyers in the developing world, notched up Defence deals valued between USD 2–3 billion each during the year.

Russia's sales to India are worth $1.5 billion every year, Israel not too far behind with an annual tally of around $1 billion.


INDIGENISATION VS IMPORT: INDIAN DEFENCE INDUSTRY

According to the report, currently about 70% of the procurement in value terms, is from foreign sources and only about 30% of the orders placed in India (or 9% of the total) goes to the private sector. With government setting a 70% target for procuring its defence requirements from indigenous sources by 2010, the importance of private players in the defence sector is fast increasing. The current defence market for private sector firms in India, which includes outsourcing from Defence Public Sector Units and Ordnance Factories, is estimated to be USD700 million. This spend will further increase since the Indian Defence Industry is determined to increase the participation of private players.

The various advantages of increasing public private participation and the resultant indigenisation show that it is definitely one of the favourable measures of defence production. One of the most distinguished advantages of indigenisation of defence production was witnessed in the case of Germany wherein more than 50% of money spent on equipment inside Germany came back to the state in one form of tax or another.


THE DEFENCE OFFSET POLICY: RESULTS & RAMIFICATIONS

The report anticipates that participation of private Indian companies in defence equipment production will unfold a new horizon in terms of potential business opportunities, creating an extremely favourable investment climate in the sector. Defence allocation, which was Rs. 960billion in 2007-08, is expected to grow at a rate of 7% annually between 2008 and 2013. For example HAL has also embarked on a long term programme to outsource low and medium tech items and services from private companies in the future.

As per the report, offsets policy is expected to bring in USD10 billion during the 11th five-year plan period as every foreign company must spend 30% of the value on offsets goods or services purchased from Indian defence companies. Offsets will further develop technical and manufacturing potential and they will also help to increase investments in domestic research and development. The offset policy is expected to generate market-entry opportunities for private companies, to invest in research and development and manufacturing of defence goods.

In March 2007, under the new provisions the first offset contract was signed for USD15 m purchase of medium power ground radars manufactured by Elta (a division of Israel aerospace Industries-IAI). The Israeli firm has decided to buy components for USD5 m from private Indian companies Larsen and Tourbo and Astra Microwave of Hyderabad.


OUTLOOK

The report establishes India as the potential global hub for engineering maintenance of aircrafts. In this regard international aviation companies are also examining the possible opportunities in partnering with Indian companies.

"The new Defence Offset Policy along with the increasing defence expenditures and private investment in the defence industry will create an extremely favourable investment climate in the sector. With the Blackstone Group making an investment in Indian Hyderabad-based private company MTAR Technologies, India is poised to play a significant role in the Global Defence Industry," said Mr. Singh.

India is also looking to focus on the overseas market by engaging in export of military hardware, (such as rifles, rockets, and radars) including Russian—Indian Cruise Missiles. The targets will include neighbouring countries, and the Third World nations. However, India plans to remain selective on the choice of target countries for export of arms.

About Ernst & Young

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