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Over the years, India has relaxed the norms related to Foreign Direct Investment (FDI). Foreign Direct Investment is allowed in India from foreign institutions, investors, venture capitalists, and start-ups. These FDI norms in India were developed with the view of attracting more amount of foreign investment in India. Investing in India will directly affect the economy, thus increasing the gross domestic product, technological advancements, and employment opportunities. Due to this, foreign direct investment is beneficial for an economy to sustain. Foreign direct investment in India has been amended many times in light of the changing regulation. The Foreign Investment Promotion Board (FIPB) has been repealed.
The authorities that regulate FDI in India are the DIPP (Department for Industrial Policy and Promotion), RBI (Reserve Bank of India), FEMA (Foreign Exchange Management Act), and Ministry of External Affairs. All these authorities overlook the development of Foreign Direct Investment in India. Foreign Direct Investment in India can be got through the following routes:
As the name signifies the Automatic Route, it does not any form of prior approval for a foreign investment to flow into India. Most of the investments which do not require any prior approval will come under this route. Many international businesses, including partnerships, can invest in a capital instrument of an Indian Company through this route. There are no limits on the amount of investment that can be obtained through this route. 100% investment can be received in this route. Under the Government Route, approval is required for an investment. There are specified areas in which government approval is required. The investment which is prohibited under Automatic Route will require government approval for foreign investment. There are specific sectors which are not permitted from coming into India. There will be no form of the route for these forms of investments as they are not allowed.
Foreign Direct Investment is suitable for an economy. However, it would be a barrier to the development of the domestic economy, if there is total control on a company/ business by a foreign investor. This would lead to a change in control scenario where the foreign investor would get more than 51% control over the domestic entity. This will lead to antitrust and competition problems. Apart from the above, there would be no ability for domestic champions (Companies) to arise in the wake of these events. This can be resolved if there is efficient regulatory controls and scrutiny over the amount of foreign direct investment in the country. The Foreign Direct Investment amendment would be required in this situation.
Due to the COVID-19 situation, the share valuations of domestic companies in India are at a low level. This is due to the continued period of lockdown imposed by the government. As the valuation of shares plunged, they have become targets for foreign investment. One of the moves that triggered the government to consider the Foreign Direct Investment Amendment in India is due to the Bank of China’s (PBOC) increased its stake in HDFC. PBOC raised the stake in HDFC from below 1% to more than 1% in the wake of the COVID-19 pandemic. The Government of India feared that this form of the takeover would be hostile to the domestic competition of the country. Due to this, the Foreign Direct Investment Amendment was brought out.
This amendment was brought out to the consolidated FDI policy, which was released by the government in 2017. This move was brought out to deter hostile/ optimistic takeovers by foreign companies. The Foreign Direct Investment Amendment was brought out in Paragraph 3.1.1 of the consolidated FDI policy, and it included two sub-points 3.1.1(a) and 3.1.1(b). The following were the amendments which were considered for foreign direct investment amendment:
Through the Foreign Direct Investment Amendment, the government has established a stringent regulatory framework to take control of the amount of foreign investment that flows from neighbouring countries. This Foreign Direct Investment Amendment was required so that domestic entities do not fall prey to foreign investors.
The Government of India, in light of the above acquisitions and takeovers, has made efforts in considering regulating FDI by making it more stringent. Though this would be an advantage for the domestic market, it would have a damaging impact on the amount of foreign direct investment that is brought into the country. The Foreign Direct Investment amendment can be a boon to the domestic economy; however, it will be a bane to various digital and tech start-ups that significantly depend on the amount of foreign investment/ angel investment from Chinese Companies. Many Fintech companies in India thrive on Chinese investments. China is one of the most significant contributors to foreign direct investment in India. Since the year 2014, this has been one of the most significant contributors.
In 2019, China contributed Foreign Direct Investment amounting to more than $8 billion. This figure is more than the overall contributions that are made by neighbouring countries of India. These Foreign Direct Investment amendment guidelines require approval regarding all the forms of investments from the neighbouring country. This would have a significant impact on start-up and technology firms, which largely depend on Chinese investment. Payment and Technology companies such as Paytm, Bigbasket, and Swiggy have been impacted drastically. These technology start-ups would not welcome foreign direct investment amendment.
All forms of investment, whether it is a direct and indirect investment from China, would be affected by this amendment. This regulation would bring about various issues, such as the following:
With all the above issues still, various start-ups have been drastically affected by this move. There are multiple reasons for which a start-up depends on foreign investment. One of the primary reasons is securing the investment. Obtaining large amounts of Chinese investment is quite clear and straightforward. This investment was previously under the Automatic Route, which made the investment easier to secure. Now that this has been amended, Chinese firms would think twice to invest in India because of the extra compliance and consent under the Government Route.
As Foreign Investment from China can only be carried out through the Government route, it would be a long process of securing the investment approval from various regulatory bodies. The government has not prohibited foreign investment from China, but it has increased the level of scrutiny required when an investor from China wants to invest in India. Future investments from these companies in India would face additional scrutiny.
Take one of the largest online groceries in India- Bigbasket (BB). Due to the lockdown imposed by the government, BB has been struggling to meet operational and business expenses. In a series round funding by e-commerce giant in China Alibaba, they received a $50 million investment to help their operations continue. Because of the Foreign Direct Investment amendment, it would disrupt their operations. Due to this, future dealings and the present dealings in the value of the investment would be disrupted. The company would have to look into alternative sources of investment to reduce the damage caused to it.
Alibaba has also made a significant amount of investment through various funding rounds in Payment Technology Company Paytm. Owing to the amount of control over the payment technology company, the Foreign Direct Investment amendment would be a deterrent to further foreign capital from Chinese Investors and Venture Capitalists. This would be a significant blow on Indian companies and Chinese Investors. Chinese Investors would have an added layer of regulation to circumvent for investing in India. Indian Companies would have to negotiate deals with Chinese Investors to secure investment through the government route.
Fintech/Start-Ups can overcome this by considering the following:
Though the Foreign Direct Investment amendment is considered a boon to protect domestic competition in the market, start-ups which significantly depend on Chinese investments, would consider the Foreign Direct Investment Amendment as a bane.
Foreign Direct Investment, which is made through the above process, requires prior approval. The process by which Foreign Direct Investment is carried out is as follows:
Source: See here
The penalties imposed for Non-Compliance with the Foreign Direct Investment amendment would be according to the Consolidated FDI Policy. Until further notification is issued regarding the Foreign Direct Investment Amendment, the following would be the penalties for Non-Compliance:
The Government of India has brought out the Foreign Direct Investment amendment to present and future transactions related to foreign direct investment. For previous deals/ transactions, the government may consider bringing out further approval when it comes to pending FDI reporting norms. According to the Foreign Direct Investment amendment, existing and future transactions would also require approval under the government route. Therefore, transactions that were under the automatic route may not require approval under this new regime.
According to the Foreign Direct Investment amendment, any form of present and future investment has to get approval under the government/approval route. Therefore, previously raised investment that would have to be repatriated to the investor may not require approval from the government. However, the government may bring out certain clarifications regarding this in subsequent amendments.
External Commercial Borrowings is a form of foreign investment which is used by Indian Companies. Therefore External commercial borrowings come under the purview of Foreign Direct Investment. Thereby going by the Foreign Direct Investment amendment, this would require government approval. Investment by a Chinese National/ Entity in a fund, even if the investment is made through a British Company, then there will be more compliance related to the requirement of Government Route/ Approval Route. Therefore direct and indirect investments would be subject to this form of regulation if made by a neighbouring country which shares borders with India.
Foreign Direct investment amendment is to not prohibit foreign investment. This regulation just provides an added layer of protection so that the government can review and monitor the situation.
In the wake of the economic crisis, the government has brought out these measures to ensure that the Indian economy is stable and companies are not subject to dominance from a foreign investor.
India is not the only country that has taken the nationalistic approach through the foreign direct investment amendment. The current situation, which is caused by the COVID-19, has made other economies take a nationalistic approach towards hostile takeovers. Western economies have taken a similar approach to tackle the amount of foreign investment in their economies.
In the USA, the Committee on Foreign Investment in the United States (CFIUS) continues to monitor foreign investment, which is made by countries such as China. When it comes to foreign investment in the USA from China, the CFIUS will be more proactive for investment that is made in sensitive areas such as pharmaceutical appliances and medical appliances.
The CFIUS continues to still evaluate the position and monitor transactions such as foreign investment from China. This would be mainly in the situation where Chinese companies would want to invest in Pharmaceutical companies in the USA.
The European Union (EU) has provided guidance and directive for member states to consider having strict Foreign Direct Investment Laws related to their own countries. The European Union considered the Treaty of Functioning of the European Union (TFEU) in recommending member states of the EU to have stringent screening policies regarding Foreign Direct Investments from China. The EU considered member states to ensure that they have proper rules related to the governance of Foreign Direct Investment. One of the examples for the imposition of law associated with Foreign Investment was carried out by Spain, which invoked legislation to make stringent regulations for the control of the amount of foreign investment into the country.
Because of the above, it is understood that not only India considered Foreign Direct Investment Amendment. This type of strategy has been reviewed and developed by other western economies.
India has taken a drastic step to curb the amount of foreign investment that flows into the country from countries that share borders. In the current situation, this move is beneficial amidst the COVID-19 pandemic. Foreign Direct Investment amendment has allowed domestic companies to have a healthy competition with each other. This is beneficial for economic development. Though the Chinese government has considered the Foreign Direct Investment Amendment as discriminatory to the standards set by the World Trade Organisation (WTO) and goes against the G20 values, however, this step is carried out by other western economies that are part of the WTO. With the above view, this amendment is beneficial, considering the current economic scenario of the country.
The Government of India has brought out the Foreign Direct Investment Amendment to deter hostile takeovers from foreign competitors. This was after PBOC acquired more than a 1% stake in HDFC. The main features of the foreign direct investment amendment are the increase in the number of countries to which the foreign direct investment restriction applies. Any form of foreign investment that flows from neighbouring countries which share borders with India is subject to the government/approval route. This is a good move in light of the economic situation. However, this would be a drawback for start-ups and technology firms that significantly depend on foreign investment from China. In the current economic stage, having the protectionist theory to consider the requirements of the country is beneficial to the economy. This view has also been adopted by western countries, which are a positive move to reduce foreign investment from China. Because of this, the foreign direct investment amendment is beneficial for India.
Also, Read: FDI Norms in Loan Company and Compliance under FEMA.