Preventive Vigilance in Military Procurement

Deba R Mohanty

Scams in defence procurement are as old as the country itself. In 1948, allegations had been
levied on the then High Commissioner of India to UK, V.K. Krishna Menon, about lapses in
following procurement rules when purchasing 200 jeeps for Indian army. Allegations of
kickback have been a regular feature in military procurement ever since.
A common thread in the allegations levied in military procurements is the involvement of a
middleman. Middlemen allegedly ‘manage’ political actors and officials in securing high-value
military contracts.
Investigations by premier agencies have revealed that the middlemen are paid kickbacks in
the form of commission and consultancy charges. The kickbacks go to opaque bank accounts
maintained in name of shell companies in tax havens. For instance, in the AugustaWestland
VVIP chopper deal case, it was found that AugustaWestland CEO Bruno Spagnolini was
paying kickbacks to British middleman Christian Michel in the form of consultancy charges.
Michel received Euro 30 Million in bank accounts of M/s. Global Services FZE, his shell
company in Dubai. From here, he transferred part of the funds to a media company he had
started in Delhi. Enforcement Directorate (ED) found during investigations that this Delhi-
based media company was also a shell company engaged in laundering.
The pattern is similar in almost all defence deals that have turned murky. And yet, no attempt
has been made by the defence ministry to conduct preventive vigilance and red flag such
suspicious transactions. It appears as if the defence ministry has not learnt from its mistakes.
A new book by Smarak Swain titled Loophole Games: A Treatise on Tax Avoidance Strategies
discusses the anatomy of tax havens and shell companies in detail. His primary argument, in
brief, is that shell companies can be identified on the basis of certain feature unique to shell
companies. They usually have phony directors, non-existent addresses, and business only on
paper. Transaction of a regular vendor or supplier with shell companies can be identified
during a preventive audit itself. The defence ministry can insist upon any defence contractor
wishing to do business with India to open up its books for preventive audit by defence ministry
officials. This can help raise red flags.
A second point raised by Swain in the book Loophole Games is that corporates do not directly
make questionable payments to the target shell company. Rather, they layer bogus payments
(including kickbacks) through multiple bank accounts in tax havens and then deliver the funds
to the target shell company. This process is called ‘smurfing’. Due to stringent secrecy norms
of tax havens, it takes inordinately long time for investigators to get information through issue
of Letter Rogatory or Tax Exchange of Information (EOI) reference.
To address this problem, the defence ministry can insist on all defence contractors to declare
(in good faith) all payments made by them or their subsidiaries in tax havens. No harm in
maintaining utmost transparency.
If preventive audit of the declared documents raises any red flag, the Ministry will have an
option of rejecting the vendor and assessing the next competitor in line. Preventive audit will
save the Defence Ministry from uncalled for controversies, intrusive investigations, and
cancellations after going ahead with a deal. It will save time for the ministry, and the ministry
could do military procurement with greater confidence. Greater transparency will also increase
confidence of people on the government’s high-value procurements.