FDI POLICY, 2016 : WILL IT ACCELERATE OR HINDER INDIA’S ECONOMIC GROWTH ?

BACKGROUND

According to International Monetary Fund, Foreign Direct Investment commonly known as FDI, “… refers to an investment made to acquire lasting or long-term in...

By: SUMATI TALWAR | Update: 2016-09-07 17:04:21

FDI  POLICY, 2016 :  WILL IT ACCELERATE OR HINDER INDIA’S ECONOMIC GROWTH ?

BACKGROUND

According to International Monetary Fund, Foreign Direct Investment commonly known as FDI, “… refers to an investment made to acquire lasting or long-term interest in enterprises operating outside of the economy of the investor." FDI is considered to be a major source of external finance, by which countries with limited capital can receive finances from sources outside its own border. It is basically a type of investment that involves injection of foreign funds into an enterprise that operates in a different country than that of origin of investor.

In India, Foreign Direct Investment is a fundamental non debt financial force responsible for its economic upsurge. FDI in India is basically undertaken in accordance with the FDI policy which is formulated and announced by the Government of India. The Department of Industrial Policy and Promotion, Ministry of Commerce and Industry, Government of India issues a “Consolidated FDI Policy Circular” on a yearly basis on 31st march every year elaborating policy and processes in respect of FDI in India. The consolidated FDI policy circular is a policy framework of FDI which consolidates all press notes/ press releases/ clarification/ circulars issued by DIPP which are in force.Consolidated FDI Policy Circular of 2016 incorporates all FDI policy amendments carried out since the release of last FDI Circular i.e. since May 12, 2015 and consolidates all the press notes issued by DIPP till June 6, 2016. This circular came into force on 7/6/16 and shall remain into force unless superseded in totality or part thereof. FDI Policy circular, 2016 has been made easier, simpler and investor friendly. The union government, by way of this year’s circular has radically slacken the FDI norms, spotlight being on providing momentum to employment and job creation in India. While praising its efforts in reforming the economy in terms of FDI, the Prime Minister’s Office, has said that these amendments have made India “the most open economy in the world for FDI”. The government has introduced amendments by increasing the sectoral caps, bringing more activities under Automatic Route and easing of conditionalities of Foreign Investment.

Major reforms brought about by FDI Policy 2016 can be summarised as below:

APPROVAL THRESHOLDS UNDER GOVERNMENT ROUTE UNDER FDI POLICY 2016

 

Proposals

  •   With foreign equity Inflow of 5000 Cr. And below – Recommendations of FIPB would be placed for consideration before Minister in-charge of FIPB( i.e Minister Of Finance)
  •  With foreign equity Inflow of more than 5000Cr.- Recommendations of FIPB would be placed for consideration before CCEA (Cabinet Committee On Economic Affairs)

Prior to FDI Policy, 2016 the foreign equity inflow limit was Rs. 2000 Cr. This was enhanced by way of Press note No.6 of 2015 to Rs. 3000 Cr.

This would reform would simplify the approval process for investment proposal up to Rs. 5000 Cr.

INVESTMENT BY NRIs

The definition of NRI has been amended to mean individual resident outside India, who is a citizen of India or is an Overseas Citizen Of India cardholder within the meaning of section 7 (A) of the Citizenship Act, 1955.Investment by NRIs under Schedule 4 of FEMA (Transfer or Issue of Security by Person Resident Outside India) Regulations, at non-repatriation basis will be deemed to be domestic investment at par with the investment made by the residents.

A company, trust and a partnership firm incorporated outside India and owned and controlled by NRIs can invest in India with special dispensation as available to NRIs under FDI policy. Thus investments made by such company, trust and partnership firm shall be deemed domestic investment at par with investments made by the residents.

This reform is expected to increase investment across sectors and may lead to greater influx of foreign exchange which may supplement the growth of Indian economy. This is a welcome provision as NRIs too had been demanding that their investment be treated as domestic investment. The intent behind this provision is that government wants to channelize the funds of NRIs who have now set up large companies abroad, by treating their non repatriable investment as domestic investment.

INVESTMENT BY FOREIGN VENTURE CAPITAL INVESTOR

A SEBI registered Foreign Venture Capital Investor (FVCI) may contribute up to 100% of the capital of an Indian company in any activity mentioned in Schedule 6 of Notification No. FEMA 20/2000, including start ups, irrespective of the sector in which the company is engaged, under automatic route. Prior to the FDI POLICY, 2016 the FVCIs were only permitted to invest in Venture Capital Funds (VCF) or an Indian Venture Capital Undertaking (IVCU).

A FVCI can invest in a domestic venture capital fund registered under the SEBI (Venture Capital Fund) Regulations, 1996 or a category-I Alternative Investment fund registered under SEBI( Alternative Investment Fund) Regulations, 2012.Such investment can made by FVCI in equity or equity linked instruments or debt issued by the entity or units issued by VCF or units issued by a Category-I AIF either through purchase by private arrangement or from issuer of security or from any other person holding the security or on a recognized stock exchange.

FDI Policy 2016, sanctions the investment by FVCI in Indian entities including startups. This sanction may prove to be a mean of stimulating Indian government’s "Start-Up India: Action Plan" . This provision is expected fill in the gap between the capital requirements of technology and knowledge based startup enterprises and funding available from traditional institutional lenders such as banks.

FDI IN DEFENCE

FDI Policy, 2016 permits 49% foreign investment in equity of the company under automatic route. FDI above 49% is permitted through government approval on case to case basis, wherever it is likely to provide access to modern technology in the country or for other reasons recorded. (*ADDED BY PRESS NOTE NO.5 OF 2016) Prior to FDI Policy, 2016 up to 49% foreign investment in equity capital was permitted through government approval and above 49 % required approval of Cabinet Committee on Security. FDI limit for defense sector has also been made applicable to Manufacturing of Small Arms and Ammunitions covered under Arms Act 1959.

Under the previous rules, foreign OEMs (Original equipment manufacturers) were required to enter into Joint venture with domestic firms if they wanted to establish manufacturing base in India. With this amendment an OEM can independently plan and implement its operations in India. Although, this reform may enhance the competition for the domestic firms but overall it will be a win-win situation as this amendment may also give boost to Make-in- India initiative of the government of India.

FDI IN LIMITED LIABILTY PARTNERSHIPS

FDI in LLP is now subject to the compliance of conditions of LLP Act, 2008.FDI is permitted under automatic route in LLPs operating in sectors where 100% FDI is allowed. Furthermore LLPs having foreign investment is now permitted to make downstream investment in another company or LLP in sectors in which 100% FDI is allowed under automatic route and there are no FDI linked performance conditions. Previously, FDI in LLPs was allowed only with prior government approval, with a blanket restriction on downstream investments.

Prior to FDI policy 2016, there were certain restrictions like: LLPs with FDI were not allowed to operate in certain sectors, Foreign Portfolio Investors (FPIs) and Foreign Venture Capital Investors (FVCIs) were not allowed to invest in LLPs, LLPs were not allowed to avail External commercial borrowings etc.All such restrictions have been removed by FDI policy, 2016.

Through this amendment, FDI in LLPs is now permitted under automatic route which will encourage foreign companies, consultancies to consider LLP as an ideal entity for setting up business in India. An additional intent behind such a reform may be to bring investment in LLPs in line with that of companies and accordingly making LLPs more attractive venue for foreign investment.

FDI IN E-COMMERCE

FDI Policy, 2016 allows foreign investment in B2B i.e business to business E commerce up to 100% under automatic route. .FDI in B2C E-commerce is permitted subject to the conditions specified in the policy. Terms like: E-COMMERCE, Market place model of E-commerce, Inventory based model of E-commerce have been defined. 100% FDI under automatic route is permitted in Market place model of E-Commerce. FDI is not permitted in Inventory based model of E-commerce.

The FDI Policy, 2016 is clarificatory in nature with respect to E-commerce and has to a large extent restated the existing FDI Policy on E-commerce except the following restrictive provisions.

  •   There is a clause in this provision that restricts pricing.  The Press Note in this regard provides: “E –commerce entities providing marketplace will not directly or indirectly influence the sale price of goods and services and shall maintain a level playing field.” This clause may restrict the freedom of E-commerce entities to offer deep discount to the buyers. So there is a strong possibility that price of online products will revert to the levels comparable with the offline prices. So this may make the online market place less attractive for shoppers and investors. This restriction “to not to directly or indirectly influence the sale price of the goods” and “to ensure a level playing field” appears to be ambiguous and unreasonable as these expressions are not defined anywhere.   
  •   There is another condition in this provision that provides “An E-Commerce entity cannot permit more than 25% of the sale affected through its marketplace, from one vendor or its group companies”. This means that a single seller (vendor) may only participate in 25%of overall sale in the marketplace. The marketplace entities may have to scramble to comply with this condition by not sourcing more than 25% of its products from group companies or any single vendor.

LIBERALISATION IN INSURANCE SECTOR

FDI Policy, 2016, allows foreign investment in insurance sector up to 49% under automatic route, subject to the approval / verification of IRDA i.e Insurance Regulatory Development Authority. Prior to the FDI Policy, 2016 the foreign investment in Indian insurance companies above 26% and up to the cap of 49 % was to be undertaken through government approval route.

This augmentation in the foreign investment limit in insurance sector will allow more capital inflow in the economy, as more capital is required to increase the penetration of insurance in India. It may even result in creation of jobs and employment. Though this may create tough competition in the market, for existing players but it may also result in better consumer services. The quality and price of insurance products may be greatly improved, in the beneficial interest of the consumers.

LIBERALISATION IN PENSION SECTOR

FDI Policy, 2016 allows foreign investment in pension sector up to 49% under Automatic route, subject to the condition that the entities bringing in the foreign equity investment shall obtain registration from PFRDA i.e Pension Fund Regulatory and Development Authority. The entities also need to comply with other requirements of PFRDA Act, 2013 and Rules and Regulations made there under.

This reform may result in availability of larger bouquet of pension products, lower cost and better yields to the policy holders.

FDI IN ASSET- RECONSTRUCTION COMPANY

FDI Policy, 2016 allows foreign investment in Asset Reconstruction Company up to 100% of equity capital of such Asset Reconstruction Company under automatic route. Prior to FDI Policy, 2016 foreign investment above 49% of equity capital of such companies was subject to government approval.

This reform may help the banks and financial institutions address the problem of huge bad loans as ARCs play a critical role in resolution of non-performing assets by acquiring them from banks and financial institutions.

FDI IN PRIVATE SECURITY AGENCIES-

Foreign investment up to 49% of equity capital of Private Security Agencies may be allowed under automatic route. Beyond 49% and up to 74% foreign investment may be permitted through government approval route.(added by press note no.5 of 2016)FDI Policy, 2016 clarified that the terms "private security agencies", "private security", and "armoured car service" shall have the same meaning as provided to such terms under the Private Security Agencies (Regulation) Act, 2005 (PSAR Act).This is a welcome initiative as the private security industry has huge employment generation potential and foreign investment in this sector will boost up the development of this sector.

FDI IN CIVIL AVIATION SECTOR

By way of press note no.5 of 2016 Government of India has notified 100% FDI under automatic routes in green field as well as existing projects. FDI policy, 2016 on Airports permitted 100% FDI under automatic route in Greenfield Projects and 74% FDI in Brownfield Projects (existing projects) under automatic route. FDI beyond 74% for Brownfield Projects was permitted under government route. This amendment may serve as a doorway for big foreign player to enter into domestic market and revive the investment interest in aviation. It may even reduce the cost associated with aviation as at present there are only a few players in the market who dominate the market and dictate the prices with huge profit margins for themselves. It is likely to increase airline connectivity to various places which are the emerging regional hubs.

FDI IN SINGLE BRAND RETAIL TRADING

FDI Policy, 2016 permits 100% foreign investment in single brand product retailing wherein investment up to 49%of equity capital of such entities can be made under automatic route. If the foreign equity investment is beyond 49% government approval is required.

The government has relaxed local sourcing norms up to three years and a relaxed sourcing regime for another five years for entities undertaking single brand retail trading of products having 'state-of-art' and 'cutting edge' technology. Single brand retail traders with foreign investments would be allowed to sell online. This reform clearly indicates that the government’s intention is to give a strong impetus to investment and encourage more technology brands to enter India.

CERTAIN OTHER CHANGES BRAUGHT ABOUT BY FDI POLICY, 2016

The FDI Policy, 2016 has removed courier services from the list of sectors/activities for which conditions have been prescribed. (Earlier FDI in courier service was allowed up to 100%under automatic route). Definitions of ESOP, Sweat equity shares, unit, Manufacture have been incorporated. The requirement of obtaining government approval for investment in automatic route sectors by way of swap of shares was done away with.

The RBI amended FEMA 20 to allow foreign investments in Investment Vehicles and in FDI Policy, 2016 “INVESTMENT VEHICLE” has been defined at para no.2.1.23 to include Real Estate investment trusts (REIT s), Alternative Investment Funds (AIFs), Infrastructure investment trusts.The cap on foreign investment now takes into account all types of foreign investment such as FDI, FPI, FII, NRI, FVCI, QFI etc. Further, an individual FII/FPI/QFI can invest up to 10% (Ten per cent) of the share capital of a company and the aggregate investment limit for FII/FPI investment is capped at 24% of the share capital of a company.

Thus, to conclude I may say that the changes brought about by FDI Policy, 2016 will unquestionably make India an investor friendly and attractive foreign investment destination. New FDI Policy has introduced some measures to promote ease of doing business in India.  These amendments seek to further simplify the regulations governing FDI in the country. The decision to allow 100 per cent FDI in defense marks a major push to defense manufacturing under the ‘Make in India’ initiative. These reforms are expected to change the face of India as a world manufacturing hub thereby creating employment and escalate the growth in country by way of growth in income, investment and employment. . However, severe competition is also on the cards for the domestic players, as with fullest liberalization there is threat which looms over the Domestic producers and companies. These reforms may bring wealth and prosperity in the country for the time being, but in the long run our economy should be made less dependent on foreign sources of investment and the manufacturing and production sectors should be enhanced and developed.  

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