april  2011
volume 3  issue 2
Foreign Direct Investment (FDI) Policy
Made Simpler, Easier and Compliance Friendly
The new FDI Policy, effective from 1st April, 2011 brings with it many relaxations and simplifications of the prevalent FDI norms. It also enlarges the scope of investments in certain restricted sectors such as Agriculture, planting material, etc. This article takes a look at some of the key changes.

Removal of Restrictive Barrier- Prior approval in case of existing JV/technical collaborations in the same field.

Earlier, the Foreign Investor had to produce a No Objection Certificate (NOC) from its Joint Venture Partner and obtain approval from the FIPB for establishing a new venture in the same field, where such foreign investor had an existing joint venture/collaboration as on January 12 2005.

The deletion of this condition would provide a major impetus and boost to foreign investors, who in the past have had strenuous relations with the existing Indian JV partner. This measure while undoing the unneeded protection which used to be the most negotiated matter for the Indian JV partner, will create a level playing field further boosting technology inflow and higher FDI in India. It is indeed one of the most significant changes to the FDI policy, the actions of the government by coming out with the discussion papers and receiving the views of the general public has definitely come of ground on this matter.

Major factors to still consider on the existing JV part are the provisions of the JV/Collaboration agreement that were entered into. Action would now need to be taken based on the provisions of the agreement that were entered into, rather than the erstwhile protection granted under the FDI policy to the Indian JV partner.

The removal of this condition from the FDI policy would allow foreign investors that had a bitter experience in India to revive their plans in India and take advantage of the economy which has the potential to grow substantially.

Greater Flexibility for Pricing of Convertible Capital Instruments:

In case of convertible instruments, the FDI policy has diluted the condition for upfront pricing of convertible instruments. It has now been specified that parties will have a flexibility to determine the conversion price of such instruments at the time of actual conversion rather than at the time of issuance of such instruments. Hence, instead of specifying the price of convertible instruments upfront, Companies will now have the option of prescribing a conversion formula, subject to FEMA/SEBI guidelines on pricing.

The change will help companies, especially startups, to achieve better valuation based on their improved performance.

Issue of Shares for Non cash considerations:

Under the earlier policy, issue of shares for consideration, other than cash, required prior approval of the Government. Automatic route was available only when shares were to be issued against External Commercial Borrowings (ECB) and/or royalty payments (including lump sum technical knowhow.

The new FDI policy has clarified that th following categories of cases arising for issue of shares on non cash considerations should be allowed under Government route, subject to certain compliances:

  1. Import of capital goods/machinery (including second hand machinery) subject to export-import policy of Government of India and subject to valuation by an independent valuer towards assessment of import value. Further such conversion needs to be done within 180 days of shipment of capital goods.
  2. Pre-operative and pre-incorporation expenses, subject to Foreign Inward Remittance Certificate (FIRC) for verification of inward remittance of funds and certification by the Statutory Auditors. Further such conversion is permissible only if payments towards expenses are made directly made by the foreign investor and the capitalization should be made within 180 days of remittance.

The application for these conversions need to be supported by- a Special Resolution of the applicant company and compliance of pricing guidelines of RBI and tax clearance, wherever applicable.

This inclusion in the FDI policy is clearer in nature, as even in the past if preoperative expenses or capital goods considerations were to be paid by issuance of shares- a prior approval of the government was required.

Simplification of Policy for Downstream Investments:

Indirect foreign investment into Indian companies had been a subject matter of ambiguity in the earlier FDI policy. The Government had issued Press Notes 2, 3 and 4 of 2009 to clear the confusion on downstream investments. This consolidated policy continued to operate in a complex manner, particularly because there were differences based on the type of intermediate company: (i) operating company; (ii) operating-cum-investing company; and (iii) investing company.

To simplify the process further, the new Consolidated FDI Policy, eliminates the differences regarding the type of intermediate company, and applies a common set of principles so long as the Indian intermediate company is owned and/or controlled by non-resident entities. Investments by such an intermediate company would be considered a foreign investment for the purpose of sectoral caps and other conditions.

Relevant part of the policy reads as follows:

However, foreign investment into an Indian company, engaged only in the activity of investing in the capital of other Indian company/ies, will require prior Government/FIPB approval, regardless of the amount or extent of foreign investment.

Trading of Items sources from Micro and Small Enterprises (MSE):

Wholesale trading of items sourced from MSE’s has been placed under 100% automatic route. Earlier, 100% FDI was permitted in trading of items sourced from MSE subject to approval from FIPB.

Changes in the Agriculture Sector

The Government has also loosened up the agriculture sector. 100% FDI under automatic route will now be permitted in Development of seeds, and planting material without stipulation of having to do so -under “controlled conditions”.

Other Changes:

  • In the earlier FDI policy, the definition of “Capital” provided that any type of instruments like warrants, partly paid up shares, etc. cannot be issued to a person resident outside India without prior FIPB approval. Now, it has been clarified that FIPB approval would be required only for issuance of warrants and partly paid shares, since these are not part of capital. The Government has also clarified that the policy for issues of warrants and partly paid shares is under review and hence, further changes can be expected.
  • It has now been specifically clarified that automatic route is available only for prescribed 18 Non Banking Finance Companies (NBFC) activities. FIPB approval will be required for any other NBFC activity other than the 18 specified activities in the FDI Policy.
  • Under the earlier FDI Policy, it was provided that a FII may invest in the capital of an Indian company either under the FDI Policy or the Portfolio Investment Scheme. A FII may invest in the capital of an Indian Company under The Portfolio Investment Scheme which limits the individual holding of a FII to 10% and the aggregate limit for FII investment to 24% of the capital of the Company. It has now been clarified that the aggregate FII limit of 24% can be increased to sectoral cap/statutory ceiling, by the Board of Directors resolution- duly followed by special resolution in the General Body Meeting. With this amendment the provisions relating to FII investments have become aligned with the FEMA provisions.

SKP Connect is published by SKP Crossborder Consulting Pvt Ltd and is meant for private circulation only. The information provided here is of a generic nature and we recommend that you take professional advice before acting on any topics discussed herein. For further information and assistance, visit our website – www.skpgroup.com or write to us at info@skpgroup.com.
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