NEW CONSOLIDATED INDIAN FOREIGN DIRECT INVESTMENT POLICY

NEW CONSOLIDATED INDIAN FOREIGN DIRECT INVESTMENT POLICY

A new circular, Circular 1 of 2010 is issued by Department of Industrial Policy and Promotion (“DIPP”), Ministry of Commerce & Industry and Government of India in April 2010 consolidating all the prior policies/regulations on Foreign Direct Investment (“FDI”) issued by Foreign Exchange Management Act, 1999 (“FEMA”), Reserve Bank of India (“RBI”) Regulations under FEMA and Press Notes issued by DIPP. The consolidated policy is issued with an objective to provide a policy framework which is transparent and predictable.

Since the liberalization of foreign investment regime in India, the government has issued approximately 175 press notes on foreign investments and collaborations. Additionally various circulars and guidelines were issued by FEMA and RBI independent of the government press notes. Often it has been a painful exercise to harmonize the government press notes and guidelines of RBI and FEMA. Only the specialized experts were able to understand the norms associated with investments. Due to the lack of a single platform on FDI norms there were inconsistencies and vagueness in the governing laws leaving investors into confusions at times. In order to reduce the regulatory burden, all the guidelines are consolidated into one document. The disharmony that existed in the some pieces comes out starkly now as one goes through the consolidated document.

The new policy framework supersedes all the previous guidelines and press notes issued by various government authorities relating FDI as it is a compilation of all the previous guidelines issued relating FDI. The consolidated Circular will be updated every six months with the help of the Federation of Indian Chambers of Commerce & Industry (“FICCI”). The present Circular issued will be superseded by a circular to be issued on 30^th September 2010.

The consolidated policy includes all the issues like types of instruments available for foreign investments, entry routes and conditions on investments, provisions regarding indirect foreign investments and downstream investments, policy on routes, caps and entry conditions of investment, remittance and repatriation and reporting of FDI are covered under the new policy in one document. Also several issues are clarified and various terms are precisely defined on which FDI policy was silent prior to the issue of this consolidated document.

The issues which are addressed and the terms which are defined in the consolidated document are as follows:-

1. A precise definition has been given to the term Capital. As stated in the policy, Capital means “equity shares; fully, compulsorily & mandatorily convertible preference shares; fully, compulsorily & mandatorily convertible debentures”.

2. Under the present policy, Indian companies can issue equity shares, fully and compulsorily convertible debentures, fully & compulsorily convertible preference shares to non-residents subject to pricing guidelines/valuation norms prescribed under FEMA. The pricing of the capital instruments should be decided / determined upfront at the time of issue of the instruments.

The pricing issue may be controversial sometimes as no specific mean to determine the price is given under this provision.

3. The inward remittance received via issuance of Foreign Currency Convertible Bonds (“FCCBs”) and Depositary Receipts (“DRs”) would be treated as FDI.

4. FDI policy was silent on the issuance of convertible warrants and partly paid-up shares by Indian companies to foreign investors. It only contemplated issuances of shares and debentures. Investors sought the approval of FIPB for the issuance of warrants and partly paid up shares. Now the issue has been clarified in the current policy. The circular clearly says that “any other type of instruments like warrants, partly paid shares etc are not considered as capital and cannot be issued to persons resident outside India”. It signifies that now FIPB does not have the power to issue convertible warrants and partly paid up shares to person resident outside India.

5. Another major change which can be noticed in the new policy is regarding investment in Venture Capital Fund (“VCF”) by Foreign Venture Capital Investor (“FVCI”). Earlier a registered FVCI may through SEBI, apply to RBI for permission to invest in VCF and permission may be granted by RBI subject to such terms and conditions as may be considered necessary. Now FVCI may contribute upto 100% capital in VCF and may also set up a domestic asset management company to manage the fund. However, now all such investments can be done through Government route subject to SEBI and RBI regulations. Also the investment in unregistered trust is totally restricted.

This move may help to curb money laundering through trusts that are not regulated as companies. However this may also dampen foreign investment through FVCI.

The Circular also provides additional information with respect to few sectors.

Cash and Carry Wholesale Trading

The operational guidelines are issued under sectoral policy for wholesale trading. FDI upto 100% is allowed in this sector through automatic route. The term ‘Cash and Carry Wholesale Trading’ was not defined earlier. The circular defines the term as to mean sale of goods/merchandise to retailers, industrial, commercial, institutional or other professional business users or to other wholesalers and related subordinated service providers. Wholesale trading would, accordingly, be sales for the purpose of trade, business and profession, as opposed to sales for the purpose of personal consumption. The yardstick to determine whether the sale is wholesale or not would be the type of customers to whom the sale is made and not the size and volume of sales. Wholesale trading would include resale, processing and thereafter sale, bulk imports with ex-port/exbonded warehouse business sales and B2B e-Commerce. These guidelines were not present in any of the earlier government press notes or FEMA regulations.

An additional guideline is also issued regarding wholesale trading. Wholesale Trading of goods would be permitted among companies of the same group. However, such WT to group companies taken together should not exceed 25% of the total turnover of the wholesale venture and the wholesale made to the group companies should be for their internal use only.

It seems that an attempt is made to stop foreign traders from grabbing a huge share of front-end retail pie, in the name of wholesale trading. It poses a big threat to the participation of international wholesale retailers in the country’s retail development. However, apprehension and confusion have gripped the wholesale trading fraternity.

Construction development activities

The guidelines governing FDI prior to the consolidated policy prescribed the obligations related to restriction on sale of undeveloped plots and obtaining all the statutory approvals including those of the building/layout plans, developing internal and peripheral areas and other infrastructure facilities, payment of development, external development and other charges and complying with all other requirements as prescribed under applicable rules/bye-laws/regulations of the State Government/ Municipal/Local Body concerned only for the investor company. Now the circular has imposed these obligations on the investor/investee company. It means approval may be obtained by any of them. 

The powers given to investee company to obtain the necessary approvals may give more flexibility in the investments in construction development activities.

Security agencies in private sector

There were no guidelines prior to the consolidated policy regarding investment in security agencies. The circular quotes that majority shareholder cannot be a foreigner i.e foreign shareholding would be restricted to a maximum of 49% under the Government route.

The consolidated policy compiles all the statutory provisions governing FDI in one document giving more transparency and less regulatory burden to the investors. Also the clarification of several issues which were never addressed before removes ambiguity regarding those issues. However few of the new provisions may shrink foreign investments in few sectors.  The effects of these provisions may be seen after the practical implementation of the provisions.