October 21, 2015
The Indian Market
The Indian economy has emerged as an attractive investment destination despite the recent economic upheavals in other emerging markets. This is largely due to its relatively stable growth and implementation of further liberalization policies by the new reform-oriented government. Consequently, there has been a significant increase in foreign investment into India in the first half of 2015.
The government has been driving key policy reforms, especially to attract foreign investment. These reforms include the liberalization and simplification of the Foreign Direct Investment Policy ("FDI Policy") – the primary regulation for foreign investment in India. These reforms have been welcomed by foreign investors.
Key Legal And Regulatory Developments
Foreign Direct Investment Policy
- Composite Foreign Investment Caps: Under the FDI Policy, there are investment caps or ceilings in specific industry sectors beyond which foreign investors are not permitted to invest. For example, there is a 74% cap on investment in private banks and a 49% investment cap in sectors such as insurance, defence, commodity exchanges, clearing corporations, stock exchanges and depositories. Within these overall caps, there were further sub-ceilings for various categories of foreign investors (i.e., a regular foreign investor, a foreign portfolio investor, etc.). The FDI Policy has now been amended to eliminate the sub-ceilings within the overall sectoral cap. This has been done to simplify foreign investment rules to give more flexibility and to create investment opportunities to attract investment in Indian companies from all categories of foreign investors.
- Foreign Investment through Partly-Paid Shares and Warrants: Foreign investment by way of partly-paid shares and warrants can now be made under the automatic route (without government approval) in industry sectors that are eligible for foreign investment under the automatic route. Until this recent amendment, the prior approval of the government was required for subscribing to partly-paid shares or warrants. This enables foreign investors to acquire an interest in an Indian company with the ability to fund the company fully at a later stage. Some of the key conditions that investors must comply with at the time of subscribing to partly-paid shares or warrants are: (a) the total price for these instruments has to be determined at the time of their subscription; (b) at least 25% of the total consideration has to be received upfront; and (c) the balance consideration has to be received within 12 months for partly-paid shares and within 18 months for warrants.
- Share Transfers between Non-Residents: Under the FDI Policy, a non-resident is permitted to transfer shares of an Indian company to another non-resident without the need to comply with the pricing guidelines of the Reserve Bank of India ("RBI"); these guidelines apply to transfer of shares of an Indian company between residents and non-residents and vice-versa. There are also no reporting requirements under the FDI Policy for a transfer of such shares between non-residents. There was, however, some ambiguity on whether the prior approval of the government (through the Foreign Investment Promotion Board ("FIPB")) is required for a transfer of shares of an Indian company between two non-residents if that company is engaged in a sector that requires prior government approval for foreign direct investment (for example, in defence, telecom, etc., the "Approval Route Sector"). The FDI Policy now expressly clarifies that prior approval of the FIPB will be required for a transfer of shares of an Indian company between two non-residents only if that company is engaged in an Approval Route Sector. In our view, the government’s objective for this amendment is to ensure that the non-resident transferee is acceptable to the government, given that the Approval Route Sectors are strategically sensitive industries that could impact national security.
- Foreign Direct Investment in Insurance: Total foreign investment ownership through any means, including portfolio investment, in an Indian insurance company (which includes insurance brokers, insurance third party administrators, surveyors and loss assessors), directly or indirectly (through one or more holding companies), has been increased to 49% of the outstanding share capital from the existing 26%. Out of this foreign investment cap of 49%, 26% is permitted under the automatic route (i.e., without the prior approval of the government). Foreign investment beyond 26% and up to 49% requires the prior approval of the government (through the FIPB). In addition, prior approval of the Insurance Regulatory and Development Authority is required in all circumstances where there is any change in shareholding of an Indian insurance company. The ownership and control of an Indian insurance company (including the appointment of the CEO) must remain in the hands of resident Indians at all times. "Control" is defined to mean the right to appoint a majority of the directors on the board of the company or the power to control the management or policy decisions of a company by virtue of shareholding, management rights, shareholders agreements or voting rights agreements.
- Foreign Direct Investment in Medical Devices: Until recently, the medical devices industry had been considered part of the overall pharmaceutical sector, where 100% foreign investment is allowed through the automatic route in greenfield (new) projects and through the government approval route in brownfield (existing) projects. Medical devices have now been carved out from the pharmaceutical sector for regulatory purposes, and this sector has been opened up for 100% foreign investment through the automatic route. The term ‘medical devices’ has been defined widely to include medical instruments, diagnostic tools, technology and products including clinical implants.
- 100% Foreign Investment in White Label ATMs: The FDI Policy has been amended to permit 100% foreign investment under the automatic route in non-bank entities that operate white label ATMs, subject to certain conditions. A non-bank entity with foreign investment that operates white label ATMs should have a net worth of at least INR 1,000,000,000 (approximately USD 16.67 million). If such entity is also engaged in any non-banking financial activities, then such entity will also need to comply with minimum capitalization norms for foreign investment in such non-banking financial activities.
- Real Estate Investment Trusts: Real estate investment trusts are now recognised as an eligible instrument for foreign investment in the real estate sector. The government has also proposed similar investment trusts for investment in infrastructure. These trusts provide a tax efficient means for investment in capital intensive sectors and incentivise greater foreign investment.
- Rupee Denominated Loans: The RBI has permitted external commercial borrowing ("ECB") through rupee denominated loans from non-resident lenders. This is permissible through the non-resident lender/banker entering into a currency swap transaction with an authorized dealer bank in India. This now provides greater flexibility for structuring ECB arrangements.
- Simplification of ECB Policy: The RBI has delegated the powers of refinancing and restructuring ECB related debt falling under the automatic and approval routes to the relevant authorized dealer banks, thereby easing procedures for the restructuring of hard currency loans. A new draft ECB policy has also been released for public comments, which indicates further reforms in the area.
- Rupee Denominated Bonds: The RBI has now permitted the issuance of rupee denominated off-shore bonds under the automatic route up to a threshold of USD 750 million per annum. RBI approval would be required beyond the limit of USD 750 million per annum. This is subject to a minimum maturity period of five years. Notably, there are no restrictions on the end-use of the proceeds; the proceeds can be used for general corporate purposes, working capital requirements and repayment of rupee debt raised from Indian banks. This significantly eases the end-use restrictions under the former ECB regime.
- Insider Trading Regulations: The Securities and Exchange Board of India ("SEBI") issued new insider trading regulations in January 2015. The new regulations have consolidated the changes resulting from judicial pronouncements and other circulars issued by SEBI over the years. The new regulations, inter alia, incorporate global best practices, including permitting participation of ‘insiders’ in trading pursuant to a pre-determined plan.
- Listing Regulations: The SEBI (Listing Obligations and Disclosure Requirements) Regulations, 2015, consolidate and rationalize the provisions of existing listing agreements for different segments of the capital market (including equity, debt securities, Indian Depository Receipts, etc.). Once these regulations are become effective in December 2015, the existing listing agreements that are executed by listed companies in India will be replaced by a simplified two-page listing agreement.
- Exemptions to Private Companies: The Companies Act, 1956 has been replaced by the new Companies Act, 2013. The new enactment initially had dispensed with certain exemptions and compliance relaxations available to private companies provided in the earlier enactment. The government has now by a notification re-introduced these exemptions and compliance relaxations for private companies, such as issue of shares with differential rights, and relaxed norms relating to further issue of share capital, related party transactions and the creation of a charge on assets. This now restores the comparative advantage of the private company structure.
- Minimum Alternate Tax: Section 115 JB of the Income Tax Act, 1961 provided that if a company pays less than 18.5% income tax, it would be liable to pay a Minimum Alternate Tax ("MAT") of 20% on its income. Under this provision, the tax authorities had claimed MAT on short term and long term capital gains from foreign portfolio investors. This was contrary to precedent, since only domestic Indian companies were liable to pay MAT before 2012. The confusion arose because the statutory provision is silent on its applicability to foreign companies/investors. The government has now decided that foreign portfolio/institutional investors without any permanent establishment or place of business in India are not liable to pay MAT. The government has also committed to a make a suitable amendment to the statutory provision.
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