Senin, 01 April 2013

The mandate for procurement adjustment


The mandate for procurement adjustment
Yusuf Setiaji and Curie Maharani  Yusuf Setiaji holds a master’s degree in defense management from the Indonesian Defense University, Jakarta;
Curie Maharani is a PhD candidate at Cranfield University, UK
JAKARTA POST, 25 Maret 2013

  
The enactment of the Law on the Defense Industry (LoDI) is seen as a significant breakthrough since it mandates the government to prioritize the domestic industry in arms procurement. The law implies that the government is willing to take advantage of defense procurement as a tool of industrial policy, that is to create, maintain and protect necessary industrial capability at a certain cost premium (costs incurred due to local content requirements).

A cautious approach is crucial in translating this spirit into practical guidelines, however.

The Indonesian Military’s (TNI) Minimum Essential Forces (MEF), under which the procurement program is listed, is set to conclude within 15 years (2010-2024). The first-three years have passed, and yet the value of local procurement remains small: 13 percent of total arms in 2011. The figure is expected to rise significantly from Rp 1.3 trillion (US$134 million) in 2012 to Rp 11 trillion in 2013.

Optimization of local procurement necessitates adjustments in procurement procedures. Arms procurement has been regulated separately from other public procurement, but is not sufficiently tailored to the unique characteristics of defense such as higher technology standards, longer life cycles and security considerations. Debate remains as to whether arms procurement should be spared from the competition that is the basis of any public procurement under good governance principles. Here, confidentiality seems to take precedence over value-for-money. Thus, only two mechanisms are used: limited bid and direct appointment (in the case of urgent requirement).

Defense Ministry Regulation No. 34/2011 on procurement of weapons systems divides the procurement into five sequential stages as shown in the diagram.
This procedure contains several weaknesses. First, it does not regulate procurement of developmental items, which entail longer life cycles and R&D spending. Second, the pre-preparation stage is crammed with activities that determine the succeeding stages. Most importantly, the technology assessment procedure required to translate operational requirements (OR) into technical specifications (TS) is often criticized as the gateway for the intervention of brokers. Since defense technology is highly specialized, it is difficult to expect competition once the tech specs are hard-wired to the benefit of a certain provider. This explains why the preference for off-the-shelf (OTS), especially foreign OTS, is still prevalent.

At the same time, the procedure also creates obstacles to national industrial participation. First, it expects industrial participation to begin only after the requirement planning is hard-wired, which means the defense industry is not involved in technology assessment and pricing (therefore economic scales for industry are not considered). Second, procurement contracts must be concluded within the same budget year, which risks penalties for late delivery. Third, in many cases the bulk of procurement is not synchronized with industrial capacity. Industry is either choked with too many orders in a short period of time, or starved of them.

The most problematic issues with local procurement are underperformance, overpricing and late delivery. As much as it is the defense industry’s fault, the administrative complexity of multiple sources of funding (there are three different sources of funding for national industry) and slow procurement (sometimes it takes eight months just to issue a contract) must also bear partial blame. A High Level Committee is to be created at the Defense Ministry/TNI, Finance Ministry and the House of Representatives to speed up the procurement process from 31 months to eight months.

The absence of R&D support and economies of scale in procurement ordering means industry struggles to run production competitively. This implies higher cost premiums for the state, higher unit production prices for the user and greater barriers for the defense industry to enter the international market. To support defense industry development, the government created a defense technology and industry development fund last year. Its impact, however, remains to be seen.

It is amid the scattered efforts to accommodate local procurement that LoDI’s significance stands out: It (indirectly) mandates substantial changes in the procurement procedure to ensure that optimization of local procurement is feasible. Paragraph 21, 25 and 27 of the law commands synchronization of arms requirement planning with domestic industry’s production master plans.

Central to ensuring the implementation of LoDI is the Committee for Defense Industrial Policy (KKIP), whose role falls somewhere between coordinator and enabler. The law envisions a new structure with permanent support staff, without which it would be impossible for the KKIP to undertake a huge expansion of roles.

A limited form of life-cycle approach is adopted in Paragraph 61 and 62 that stipulates the application of multi-year contracts across various activities like R&D, engineering, technology transfer, financing, purchasing, production capacity improvement and marketing. Paragraph 43 creates a safety net in the case of foreign procurement, by regulating domestic industry participation through the mechanism of offset or collaboration. It is expected that kickbacks and the like will be transformed into industrial participation benefits.

In a nutshell, LoDI wants to address problems that have hampered previous attempts at optimizing local procurement in a comprehensive way.

There are two recommendations to foster arms procurement improvements. First, more attention should be given to the pre-preparation stage. If necessary, technological assessment should be put into a separate stage in which experts from various backgrounds will be involved in calculating the most cost-efficient solution — that is “effective” for the military and “economic” for the defense industry.

Second, partnership with industry is imperative and this means involvement at an earlier stage, intensive communication, as well as a shared understanding of the risks, costs and difficulties in weapon systems production compared to the commercial market.

For a small defense economy like Indonesia, the existence of a defense industrial base rests on the willingness of the national government to buy locally. Industry is expected to meet up with TNI’s requirements, but the TNI/Defense Ministry is also required to adjust its procurement procedures to accommodate industrial sustainability. It takes two to tango. 

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