Finance Ministry’s New Mechanism to Facilitate FPIs’ Transition to FDI

Finance Ministry’s New Mechanism to Facilitate FPIs’ Transition to FDI

Sub: Eco

Sec: External sector 

• Objective:
  • The Finance Ministry is developing a mechanism to allow certain Foreign Portfolio Investors (FPIs) greater flexibility in moving into the Foreign Direct Investment (FDI) category.
• Current Limitation:
  • FPIs are currently restricted to owning less than 10% in a listed firm. Any desire to own more than 10% requires FPIs to exit the FPI category and re-enter through the FDI route, which is a cumbersome process.
• Proposed Solution:
  • The new mechanism aims to simplify the transition from FPI to FDI, reducing friction and making it easier for FPIs to increase their stake in listed firms beyond the 10% cap.
• Impact on Foreign Investments:
  • This initiative is part of a broader effort to simplify norms surrounding FDI and overseas investments, thereby boosting foreign investment flows into India.
  • Currently, India attracts FDI inflows worth $70 billion annually, with aspirations to increase this figure.
• Budget Announcements:
  • Finance Minister highlighted in her recent Budget speech the need to simplify rules and regulations for FDI and overseas investments, promoting the use of the Indian Rupee as a currency for such investments.
• Capital Raising in Indian Rupees:
  • The Finance Ministry is considering allowing foreign investors from specific countries to raise capital in Indian Rupees.
  • This capital could then be invested in their home countries if there are strategic interests aligned with India.
  • For example, a Sri Lankan investor could raise money in Indian Rupees in India for investment in Sri Lanka.
• Amendment to FEMA:
  • Any move to allow the raising of capital in Indian Rupees would require an amendment to the Foreign Exchange Management Act (FEMA).

• Equity Exchange:
  • In early August, the Finance Ministry amended FEMA rules to allow the issuance or transfer of Indian firm equity instruments in exchange for equity instruments of foreign companies, facilitating smoother mergers and acquisitions.
• Downstream Investments:
  • The Finance Ministry recently clarified the treatment of downstream investments by entities owned by Overseas Citizens of India (OCI) on a non-repatriation basis, further simplifying the regulatory landscape for foreign investors.

Types of Investment

Downstream Investment:

• Downstream investment is a form of indirect Foreign Direct Investment (FDI) where an Indian company invests in another Indian company’s equity or capital.
• Entities Involved:
  • Foreign Owned and/or Controlled Company (FOCC): The Indian company that receives the foreign investment.
  • Subject Company: The company that receives the investment.
  • Investing Company: The company that invests in the subject company, typically owned or controlled by non-residents or non-resident entities.
• Regulations: Must comply with sectoral conditions on entry routes, conditionalities and caps, and the specific sectors in which the subject company operates.

Upstream Investment:

• Upstream investment refers to investments made in the early stages of a company or industry, such as exploration, production, and extraction of raw materials.
• Entities Involved: Typically involves companies or entities engaged in the extraction or production of resources, such as mining companies or oil and gas firms.
• Regulations: Subject to specific industry regulations, environmental laws, and government policies depending on the sector.

Greenfield Investment:

• Greenfield investment refers to investments made by a company in a new venture by constructing new facilities from the ground up in a foreign country.
• Entities Involved: Usually involves multinational corporations setting up new operations in a foreign country.
• Regulations: Requires compliance with local laws, land acquisition regulations, and environmental impact assessments.

Brownfield Investment:

• Brownfield investment involves a company investing in existing facilities or assets in a foreign country, typically through mergers and acquisitions.
• Entities Involved: Typically involves companies looking to expand their operations by acquiring existing businesses or facilities.
• Regulations: Must comply with anti-trust laws, due diligence, and regulatory approvals for mergers and acquisitions.

Horizontal Investment:

• Horizontal investment occurs when a company invests in the same industry or sector in a foreign country.
• Entities Involved: Involves companies looking to expand their market presence by replicating their business model in a foreign market.
• Regulations: Subject to competition laws and industry-specific regulations.

Vertical Investment:

• Vertical investment involves a company investing in a foreign business that operates at a different level of the supply chain.
• Entities Involved: Typically involves companies investing in suppliers or distributors in a foreign market.
• Regulations: Requires adherence to supply chain regulations and may involve anti-trust considerations.