Government revised FDI Rules to limit the takeover of Indian firms: All you need to know about

Govt. revised FDI Rules to limit the takeover of Indian firms

The central government has revised the Foreign Direct Investment (FDI) policy in an attempt to limit opportunistic takeovers or acquisitions of Indian companies who are in bad place and whose stock prices are falling due to the COVID-19 pandemic. The amendment has been done in accordance with the protective measures taken by many European countries. The revision of FDI rules is primarily aimed at restricting foreign investments from China, especially in critical industries.

♦Modes of FDI in India

FDI in India is allowed under two modes:

  • Automatic route – for which companies do not need government approval.
  • Approval route or government route – for which companies need to approach the government for their approval.

♦What was the FDI policy previously?

India’s FDI policy allows foreign investment in certain sectors under the automatic route and up to the limit set out in that sector.

For example, 100 percent FDI is permitted under the automatic route in:

  • manufacturing,
  • oil and gas,
  • greenfield airports,
  • construction,
  • Railway infrastructure ETC, ETC

In other sectors, FDI is allowed under the automatic route up to a certain limit, say 26 or 49 percent, and any further foreign investment then requires government approval. Such conditions apply to:

  • Defence,
  • Broadcast and print media,
  • Aviation and other sectors. ETC, ETC

There is also a list of prohibited sectors, such as:

  • Lottery,
  • Cigarettes,
  • Atomic energy.

Note: Previously, companies from Pakistan and Bangladesh had to approach the government for investing in India and they were permitted under approval route.

ALSO READ: Key Point (Highlights) from RBI Governor Shaktikanta Das’ media address: 17th April 2020

♦What changes have been made?

  • The government has now narrowed the scope of eligible investors. Now, entities from countries which share a land border with India will now be permitted to invest only under approval route. Companies in the country that shares a border with India will now have to approach the govt. for investing in India and not go via the automatic route.
  • This restriction will also apply if the beneficial owner of the investment is an entity situated in or a citizen of such countries.
  • India shares a border with China, Pakistan, Bangladesh, Nepal, Myanmar, Bhutan and Afghanistan.

♦The new rules are applied to new and existing FDIs

  • The rules have been tightened not just for new but existing FDI as well. Transfer of ownership of any existing or future FDI where the direct or indirect beneficiary is from these countries will also require government approval.
  • Vaibhav Kakkar, partner at L&L Partners said that the government will need to issue certain clarifications for existing investments from restricted countries.
  • For example, he pointed out, while it is likely that existing FDI would be grandfathered, it is unclear if existing shareholders from China would be permitted to subscribe to a rights issue for maintaining their pro rata shareholding in a company.
  • Additionally, it’s unclear if investments from Hong Kong would be differently or similarly treated to investments coming from China. For example, rules on establishment of Branch or Project Office treat China and Hong Kong as different but for certain trade-related guidelines, they are treated the same, he added.

♦Foreign Portfolio Investment (FPI) rules have not changed

  • To be clear, the changes have been made only to foreign direct investment and not foreign portfolio investment (FPI) rules. Any investment of less than 10 percent of the total paid up capital of a listed company is treated as an FPI. Recently, China’s central bank had increased its stake to 1.01 percent in Housing Development Finance Corporation Ltd. via the FPI route.
  • As the revised FDI policy is applicable in large shareholdings of 10 per cent and above, the revised rule is not applicable to this 1.01 per cent stake increase of PBoC in HDFC.

ALSO READ: How to calculate GDP growth rate in India: Nominal GDP, & Real GDP

♦Reason to amend the FDI Rules

The Chinese have stakes in several Indian start-ups:

  • Flipkart has an investment from Tencent (about 5 per cent) and
  • Alibaba owns a significant stake in Paytm.

A fresh infusion of funds in these or Chinese firms wanting to exit their existing investments will now have required government’s approval.

The pitch for limiting Chinese investments in India picked up pace recently after People’s Bank of China (PBoC) increased its shareholding in Housing Development Finance Corporation (HDFC) amid a sharp correction in shares of India’s largest mortgage lender. PBOC buys 1.1% HDFC shares on behalf of Chinese sovereign wealth fund, Saudi picks 0.7% stake.

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