Concept of Foreign Direct Investment in India - Legal Aspect

Introduction

On 22 April 2020, big news hit the rounds when Facebook announced that it acquired a 9.99% stake in Jio Platforms Ltd (JPL) through a fresh issue of shares worth Rs 43,574 crore. The deal values JPL—the holding company of Reliance Jio — at an enterprise value Rs 4.62 trillion. JPL’s equity value works out to Rs 4.36 trillion after Facebook’s investment, making it the fifth most valuable company in the country, behind its parent Reliance Industries (RIL), Tata Consultancy Services, Hindustan Unilever, and HDFC Bank. 

The partnership between Facebook and Jio is unprecedented in many ways. This is the largest investment for a minority stake by a technology company anywhere in the world and the largest FDI in the technology sector in India.  

With that being said, it becomes imperative to understand what is FDI? How is it distinguished from FPI? and what the are the rules and regulations governing the same in India.

Foreign Direct Investment (FDI)

Simply put, Foreign Direct Investment (FDI) is the investment of funds by an organization based in one country into business interests located in another country. 

FDI is a major monetary source for any economy. In India, Foreign companies invest directly in rapid growing private Indian businesses in order to take advantages of cheaper wages and changing business environment. According to the Financial Times, in 2015 India overtook China and the United States as the top destination for the Foreign Direct Investment. In first half of the 2015, India attracted investment of $31 billion compared to $28 billion and $27 billion of China and the US respectively.

Generally, FDI takes place in form of an investor establishing business operations or acquiring foreign business assets of a foreign company, in the foreign country. However, FDIs are distinguished from FPIs in which an investor/organization merely purchases equities of foreign-based companies, and does not invest in lasting interest.

Foreign Portfolio Investment (FPI)

Most FPI refers to investing in securities and other financial assets in a foreign country. It does not provide the investor with direct ownership of a company's assets. It offers relatively quicker return on investments, and is relatively liquid. FDI and FPI are both important sources of funding for the economies.

Coming back to FDI, lets discuss its types and classification.

Types of FDI

There are two types FDIs, Greenfield Investment and Brownfield Investment, lets discuss both of them in brief:

 

           1. Greenfield Investment

A greenfield investment is a type of FDI in which a parent company creates a subsidiary in a different country, building its operations from the ground level, constructing of new production facilities, hiring new staff, building of new distribution hubs, offices, and living quarters. It involves high risks and costs, however it gives absolute control over foreign activities.

Example:

Hyundai Motor Co. in Nošovice

In 2006, Hyundai Motor Company received approval to make around $1 billion Euros in a major greenfield investment in Nošovice in the Czech Republic. The automaker established a new manufacturing plant that employed up to 3,000 individuals in its first year of operation.

     2. Brownfield Investment

Brownfield Investment is a type of FDI where a company invests in an existing facility to start its operations. In other words, a brownfield investment is the lease or purchase of a pre-existing facility in a foreign country.

A brownfield investment is often undertaken when a company wants to invest and start operations in a new country but does not want to incur high setting up costs associated with a greenfield investment, e.g. merger and acquisition (M&A) deal or leasing existing facilities in the foreign country.

Example:

              

Vodafone in India

Vodafone is a telecommunications company headquartered in London and Newbury, Berkshire. In 2007, the telecom firm completed the acquisition of a majority stake in India-based Hutchison Essar for $10.9 billion in cash. Through the acquisition, Vodafone was able to penetrate into the fast-growing Indian telecommunications industry which, at that time, was adding nearly six million subscribers monthly.

Classification of FDI:

1. HORIZONTAL FDI: Business expands its inland operations to another country. The business undertakes the same activities, but in a foreign country.

   

 2. VERTICAL FDI: in this case, a business expands into another country by moving to a different level of the supply chain. Thus business undertakes different activities overseas but these activities are related to the main business.

   

3. CONGLOMERATE FDI: under the type of FDI, a business undertakes unrelated business activities in a foreign country. This type is uncommon as in involves the difficulty of penetrating a new country and an entirely new market.

     

4. PLATFORM FDI: here, a business expands into another country but the output from the business is then exported to a third country.

FDI in India - Its Legal Aspect

FDI is an important monetary source for India's economic development. Economic liberalisation started in India in the wake of the 1991 crisis and since then, FDI has steadily increased in the country. India, today is a part of top 100-club on Ease of Doing Business (EoDB) and globally ranks number 1 in the greenfield FDI ranking. 

During the fiscal ended March 2019, India received the highest-ever FDI inflow of $64.37 billion. The FDI inflows were $45.14 billion during 2014-15 and $55.55 billion in the following year.

 

Regulation

In India, foreign direct investment policy is regulated under the Foreign Exchange Management Act, 1999 governed by the Reserve Bank of India.

In India, it is the percentage which marks the distinction between direct and portfolio investments.

  

Foreign Direct Investment

Foreign Direct Investment (FDI) is the investment through capital instruments by a person resident outside India (a) in an unlisted Indian company; or (b) in 10 percent or more of the post issue paid-up equity capital on a fully diluted basis of a listed Indian company.

Foreign Portfolio Investment

Foreign Portfolio Investment is any investment made by a person resident outside India in capital instruments where such investment is (a) less than 10 percent of the post issue paid-up equity capital on a fully diluted basis of a listed Indian company or (b) less than 10 percent of the paid up value of each series of capital instruments of a listed Indian company.

Simply put, any amount invested in an unlisted Indian company will be considered as FDI.  However as far as listed or to be listed Indian companies are concerned, it is the percentage which defines whether it will be considered as direct or portfolio investment. So, if investment (in listed or to be listed company) is for less than 10% stake, it will considered to be FPI, and if the investment
(in listed or to be listed company) is for 10%, or more than 10% stake, it will be considered as FDI.

Can a foreigner set up a partnership/ proprietorship concern in India?

Only NRIs/ OCIs are allowed to invest in partnership/ proprietorship concerns in India on non-repatriation basis

For an FPI investment, once the investment is classified as FDI (basis total holding), if the FDI holding comes back to <10%, will the holdings be classified as FPI again?

Once an FDI always an FDI.

For more such FAQs, visit RBI's FAQ on Foreign Investment in India.

Routes through which India gets FDI 

There are two routes by which India gets FDI:

1. Automatic route: By this route FDI is allowed without prior approval by Government or Reserve Bank of India.

2. Government route: Prior approval by government is needed via this route.  

The company will have to file an application through Foreign Investment Facilitation Portal, which facilitates single-window clearance. The application is then forwarded to the respective ministry, which will approve/reject the application in consultation with the Department for Promotion of Industry and Internal Trade (DPIIT), Ministry of Commerce. DPIIT will issue the Standard Operating Procedure (SOP) for processing of applications under the existing FDI policy.

Sectors under the ' 100% Automatic Route' category:

• Agriculture & Animal Husbandry,
• Air-Transport Services (non-scheduled and other services under civil aviation sector),
• Airports (Greenfield + Brownfield),
• Asset Reconstruction Companies,
• Auto-components, Automobiles,
• Biotechnology (Greenfield),
• Broadcast Content Services (Up-linking & down-linking of TV channels,
• Broadcasting Carriage Services,
• Capital Goods, Cash & Carry Wholesale Trading (including sourcing from MSEs),
• Chemicals,
• Coal & Lignite,
• Construction Development and Construction of Hospitals,
• Credit Information Companies,
• Duty Free Shops,
• E-commerce Activities,
• Electronic Systems,
• Food Processing,
• Gems & Jewellery,
• Healthcare,
• Industrial Parks,
• IT & BPM,
• Leather,
• Manufacturing,
• Mining & Exploration of metals & non-metal ores,
• Other Financial Services,
• Services under Civil Aviation Services such as Maintenance & Repair Organizations,
• Petroleum & Natural gas,
• Pharmaceuticals, Plantation sector,
• Ports & Shipping, Railway Infrastructure,
• Renewable Energy, Roads & Highways,
• Single Brand Retail Trading,
• Textiles & Garments,
• Thermal Power,
• Tourism & Hospitality and White Label ATM Operations

Sectors under 'up to 100% Automatic Route' category:

• Infrastructure Company in the Securities Market: 49%
• Insurance: up to 49%
• Medical Devices:up to 100%
• Pension: 49%
• Petroleum Refining (By PSUs): 49%
• Power Exchanges: 49%

Sectors under 'up to 100% Government Route' category:

•     Banking & Public sector: 20%
•     Broadcasting Content Services: 49%
•     Core Investment Company: 100%
•     Food Products Retail Trading: 100%
•     Mining & Minerals separations of titanium bearing minerals and ores: 100%
•     Multi-Brand Retail Trading: 51%
•     Print Media (publications/ printing of scientific and technical magazines/specialty journals/  periodicals and facsimile edition of foreign newspapers): 100%
•     Print Media (publishing of newspaper, periodicals and Indian editions of foreign magazines dealing with news & current affairs): 26%
•     Satellite (Establishment and operations): 100%

FDI Prohibitions

There are a few industries where FDI is strictly prohibited under any route:

•     Atomic Energy Generation
•     Any Gambling or Betting businesses
•     Lotteries (online, private, government, etc)
•     Investment in Chit Funds
•     Nidhi Company
•     Agricultural or Plantation Activities (although there are many exceptions like horticulture, fisheries, tea plantations, Pisciculture, animal husbandry, etc)
•     Housing and Real Estate (except townships, commercial projects, etc)
•     Trading in TDR’s
•     Cigars, Cigarettes, or any related tobacco industry

Covid-19 Outbreak forces India to change its FDI Policy

On 18 April 2020, India changed its foreign direct investment (FDI) policy to protect Indian companies from "opportunistic takeovers/acquisitions of Indian companies due to the current pandemic", according to the Department for Promotion of Industry and Internal Trade. While the new FDI policy does not restrict markets, the policy ensures that all FDI will now be under scrutiny of the Ministry of Commerce and Industry.

It makes prior approval from the government mandatory for foreign investments from China, and the countries that India shares the border with, i.e. Bangladesh, Pakistan, Bhutan, Nepal, Myanmar and Afghanistan.