Recent developments to India’s Consolidated Foreign Direct Investment Policy (FDI) bear good news for investors in India’s capital markets and other sectors. By contrast, little progress has been made in certain other sectors (insurance, multi-brand retail), which remain at a standstill. Below we highlight some of these updates.
The government also announced its decision to release new updates to its Consolidated FDI Policy on a yearly basis as opposed to semi-annually as had previously been the case. The next updated circular will be released on March 29, 2013. All future changes made to India’s FDI policy during the year will be notified via press notes.
FDI by Foreign Institutional Investors (FIIs)
Under the old FDI policy, FIIs were allowed to invest in the capital of an Indian company under the Portfolio Investment Scheme (PIS) with limits of 10 percent for individual investments by an FII and 24 percent for aggregate investments by all FIIs in a single company. Under the old FDI policy, the aggregate limit of 24 percent could be increased to the applicable sectoral cap/statutory ceiling by the Indian company concerned through a resolution of its board of directors, followed by a special shareholder resolution to that effect.
The new FDI policy now requires, in addition to these board and shareholder approvals, prior notice to the Reserve Bank of India (RBI) if investments are made exceeding the aggregate limit of 24 percent. To be clear, the new FDI policy only requires notice, and not approval of the RBI. This requirement is not expected to additionally burden the FII with approval requirements but at the same time is meant to keep the government informed of FII investments.
FDI by Foreign Venture Capital Investors (FVCIs)
Under the old FDI policy, FVCIs were not allowed to purchase existing shares from shareholders/investors of an Indian Venture Capital Undertaking (VCU) by virtue of an RBI Circular.1 Further, there was no explicit permission available to FVCIs to make investments in listed securities.2 However, the SEBI (FVCI) Regulations, 2000 allowed them to make investments in listed securities up to 33 percent. This created a lot of confusion as to the ability of FVCIs to invest in listed securities.
This position was resolved by the RBI Circular dated March 19, 2012, which allows SEBI-registered FVCIs to invest in securities listed on a recognized stock exchange subject to the provisions of the SEBI (FVCI) Regulations, 2000. In addition, FVCIs have been permitted to invest in certain eligible securities (equity, equity-linked instruments, debt, debt instruments, debentures of an IVCU or VCF, units of schemes/funds set up by a VCF) by way of private arrangement or by purchase from a third party, subject to specified terms and conditions. Both these changes have been incorporated in the new FDI policy.
FDI by Qualified Financial Investors (QFIs)
In a breakthrough for individual investors wanting to invest in India’s capital markets, a new category of investor, qualified foreign investors (QFIs), has been permitted to invest in primary as well as secondary investments of Indian-listed companies, subject to certain SEBI guidelines and to individual and aggregate limits of 5 percent for individual investments by a QFI and 10 percent for aggregate investments by all QFIs in a single company. QFIs are also permitted to acquire equity shares by way of right shares, bonus shares or equity shares, on account of stock split/consolidation or equity shares on account of amalgamation, demerger or such corporate actions. See our article entitled "Qualified Foreign Investors—India Sweetening the Pot" elsewhere in this issue for more details on this development.
Prohibition on the Conversion of Second-Hand Machinery to Equity
The Indian capital goods sector has long been suffering due to the import of cheaper secondhand machinery, often of substandard quality. In order to overcome this issue and incentivize machinery that employs state-of-the-art technology and is compliant with international standards, the new FDI policy prohibits the conversion of secondhand machinery to equity in the capital goods sector.
Liberalization of Restrictions on the Transfer of Shares of an Indian Company Between Residents and Non–Resident Indians
Previously, under Regulation 10(A)(c) of the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2000, the transfer of shares of an Indian company between a resident and a non-resident Indian required the prior approval of the RBI if (i) the transfer did not confirm with RBI’s pricing guidelines, (ii) the transfer required prior approval of the Foreign Investment Promotion Board (FIPB), (iii) the investee company was engaged in the financial services sector, or (iv) the transfer fell within the purview of SEBI’s Takeover Regulations, 1997.
Via a circular dated November 4, 2011, the RBI relaxed the requirement for prior RBI approval in the above-mentioned transfers. Even where pricing of the transfer is not in accordance with RBI regulations, the transfer will nevertheless be permitted if the pricing is in line with the existing FEMA and SEBI policies. In cases that require prior FIPB approval and that come under the SEBI Takeover Regulations, 2007, no RBI approval will be required provided that the transfer is in accordance with the pricing guidelines and documentation requirements as specified by the RBI. Lastly, as regards investments in companies engaged in the financial services sector, no prior approval of the RBI will be required if no-objection certificates are obtained from the sector regulators.
These changes have now been incorporated into India’s new FDI policy thereby not only reducing the hassles of multiple regulatory compliances, but more importantly, avoiding a conflict between the RBI and SEBI and increasing the regulatory power of the SEBI.
FDI in the Retail Sector
Single-Brand Retail. The provisions of Press Note No.1 (2012 Series) have been incorporated into the consolidated FDI policy for 2012, increasing the FDI cap in the single-brand retail sector from 51 percent to 100 percent under the government approval route, subject to the following conditions:
the products sold should be of a "single brand" only and should be sold by the same brand in one or more countries other than India
the products must be branded during manufacturing and owned by a foreign investor
for proposals involving FDI above 51 percent, at least 30 percent of the value of the products must be sourced from Indian "small industries/village industries, artisan and craftsmen" – A "small industry" is defined as one which has a total investment in plant and machinery not exceeding US$1 million at the time of its installation (excluding depreciation). If at any point in time this valuation is exceeded, the industry will not qualify as a "small industry" for this purpose. The compliance of this condition will be ensured through self-certification by the company, to be subsequently checked by statutory auditors from the duly certified accounts, which the companies will be required to maintain.
Multi-Brand Retail. The situation in this regard is mostly unchanged. Despite the Union Cabinet approving 51 percent FDI in the multi-brand retail sector, the government has not introduced this change due to fierce opposition from the states. However, it is expected that further opening of this sector in the coming months under the leadership of Union Minister for Commerce Anand Sharma who has engaged in an effort to obtain state support to back the introduction of foreign retail chains in India, thus signaling the government’s intent to push such changes forward.
FDI in the Aviation Sector
The proposal to allow 49 percent FDI by foreign airlines in domestic Indian airlines remains under discussion by the Department of Industrial Policy (DIPP) and recent pronouncements from Union Minister Anand Sharma have raised expectation of an upcoming decision on this proposal in the near future.
1 Master Circular No. 15.
2 Schedule 6 of the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2000 (Notification No. FEMA 20/2000-RB, dated May 3, 2000) (TISPRO).
Valérie Demont and Apoorv P. Tripathi