Introduction
On 17th April, 2020, Department for Promotion of Industry and Internal Trade ('DPIIT') issued Press Note 3(2020 Series) ('Press Note') in order to prevent opportunistic take overs and acquisitions of Indian companies in the wake of Covid-19 pandemic thereby amending Foreign Direct Investment Policy, 2017 ('FDI Policy'). In pursuance of the revised FDI Policy, issued by DPIIT in the wake of Covid -19 pandemic, Ministry of Finance amends the Foreign Exchange Management (Non-debt Instruments) Rules, 2019 ('NDI Rules') with effect from April 22nd, 2020[1]. The Foreign Exchange Management (Non-Debt Instruments) Amendment Rules, 2020 ('Amended NDI Rules') incorporates the provisions of the Press Note issued by DPIIT.
In essence, the Amended NDI Rules imposes certain restrictions for receiving FDI from all the countries sharing land border with India. Though neither the Press Note nor the Amended NDI Rules specifically make mention of China, however, the intent of the Government of India is clearly tocurb any 'opportunistic takeovers/acquisitions' of Indian companies facing stress due to Covid 19 situation by Chinese companies. Given the global economic slow down, there are apprehensions that China might look at opportunistic take overs in strategic interests in several countries including India.
Position prior to Amended NDI Rules
Prior to the Amended NDI Rules, citizens of or entities incorporated in Pakistan or Bangladesh required prior government approval for investing in India. The relevant Rule 6 (a) of NDI Rules is reproduced herein below verbatim:
'6. Investments by person resident outside India: - A person resident outside India may make investment as under:-
(a) may subscribe, purchase or sell equity instruments of an Indian company in the manner and subject to the terms and conditions specified in Schedule I:
Provided that a person who is a citizen of Bangladesh or Pakistan or is an entity incorporated in Bangladesh or Pakistan cannot purchase equity instruments without the prior government approval:
Provided further that a citizen of Pakistan or an entity incorporated in Pakistan cannot invest in defence, space,atomic energy and sectors or activities prohibited for foreign investment even through the government route.
Note: Issue or transfer of 'participating interest or right' in oil fields by Indian companies to a person resident outside India would be treated as foreign investment and shall comply with the conditions laid down in Schedule I.'
The above provision clearly stipulates that, apart from investment in select sectors i.e. sectors other than defence, space, atomic energy and sectors or activities prohibited for foreign investment even through the government route, there is mandatory requirement for prior government approval for investments originating from Pakistan and Bangladesh.
Position after Amended NDI Rules
Before analysing the legal position post Amended NDI Rules, let us have a look at the amended provision of the NDI Rules. Accordingly, Rule 6 of the Amended NDI Rules is reproduced herein below verbatim:
'6. Investments by person resident outside India: - A person resident outside India may make investment as under:-
(a) may subscribe, purchase or sell equity instruments of an Indian company in the manner and subject to the terms and conditions specified in Schedule I:
'Provided that an entity of a country, which shares land border with India or the beneficial owner of an investment into India who is situated in or is a citizen of any such country, shall invest only with the Government approval:
Provided further that, a citizen of Pakistan or an entity incorporated in Pakistan shall invest only under the Government route, in sectors or activities other than defence, space, atomic energy and such other sectors or activities prohibited for foreign investment:
Provided also that in the event of the transfer of ownership of any existing or future FDI in an entity in India, directly or indirectly, resulting in the beneficial ownership falling within the restriction or purview of the above provisos, such subsequent change in beneficial ownership shall also require government approval'.
On analysing the above Rule 6, we note that the Amended NDI Rules bring about two key changes -
(1) Firstly, any foreign direct investment 'proposed' to be made by an entity which shares 'land border' with India (i.e. China, Nepal, Bhutan, Bangladesh, Myanmar, Pakistan and Afghanistan) or where the beneficial owner of an investment in India is situated in or is a citizen of such a country, can only invest in India with prior approval from the Indian government only. In addition to the entities registered in the above specified countries and its citizens, the amended NDI Rules also covers investment from entities that are 'beneficially owned' by such entities or its citizens. Prior government approval will be required irrespective of the sectors proposed to be invested. Even for sectors that fall under the automatic route, any investment by an entity or individual based in the countries that share land border with India would require prior government approval. The amended NDI Rules are not retrospective and accordingly will not have any effect on the 'existing investments' by an entity or individual based in such neighbouring countries of India.
(2) Secondly, any transfer of ownership of any existing or future FDI in an entity in India, whether directly or indirectly,which results in the beneficial ownership moving into the hands of an entity which shares 'land border' with India (i.e. China, Nepal, Bhutan, Bangladesh, Myanmar, Pakistan and Afghanistan) or where the beneficial owner of an investment in India is situated in or is a citizen of such a country than such transfer will also require prior government approval. The term 'beneficial ownership' has not been defined and its not clear as to whether one needs to look at beneficial ownership as covered under the Companies Act, 2013 read with the Companies (Significant Beneficial Owners) Rules, 2018. Probably, the Government needs to come out with clarifications in this regard.
With respect to investment from a Pakistani citizen or entity incorporated in Pakistan, the legal position continues to remain same as it was in the NDI Rules i.e Pakistani citizen or entity incorporated in Pakistan cannot invest in sectors such as defence, space, atomic energy, and such sectors or activities are prohibited for foreign investment.
Further, it is worthy to note that the amended NDI Rules will also have an impact on 'downstream investment' by an Indian entity which has investment from countries sharing land border with India. Before analysing the impact of Amended NDI Rules on the same, it is worthwhile to know as to how 'downstream investment', 'indirect foreign investment' and 'total foreign investment' have been defined under the NDI Rules.
'downstream investment'means an investment made by an Indian entity which has total foreign investment in it, or an Investment Vehicle in the capital instruments or the capital, as the case may be, of another Indian entity[2].
'Indirect foreign investment' means downstream investment received by an Indian entity from - (a) another Indian entity which has received foreign investment and (i) the Indian entity is not owned and not controlled by resident Indian citizens or (ii) is owned or controlled by persons resident outside India; or (b) an investment vehicle whose sponsor or manager or investment manager (i) is not owned and not controlled by resident Indian citizens or (ii) is owned or controlled by persons resident outside India:
Provided that no person resident in India other than an Indian entity can receive Indirect Foreign Investment[3].
'total foreign investment' means the total of foreign investment and indirect foreign investment and the same will be reckoned on a fully diluted basis[4].
Accordingly, as per the Amended NDI Rules, if an Indian entity having received investment from an entity based in countries sharing land border with India or from citizens of such countries, further proposes to make downstream investment in another Indian entity, then the first level Indian entity will require prior government approval for such proposed downstream investment. Government approval will be required even if the second level Indian entity operates in sector that falls under 100% automatic route. Any downstream investment from first level Indian entity into second level Indian entity will be reckoned as 'indirect foreign investment and an Indian entity which has received such indirect foreign investment is required to comply with the entry route, sectoral caps, pricing guidelines and other attendant conditions as applicable for foreign investment.
Conclusion
Although amendment of the NDI Rules to restrict foreign investment from countries sharing land border with India, including China is one of self defence and in line with global pattern.However, this amendment of the NDI Rules will have a major impact on foreign investment in India from China thereby slowing down the pace of investment from Chinese companies and make the Chinese investors vary of investing in India. It could also provoke Chinese retribution against Indian companies with investments in China. It remains to be seen as to how the situation will unfold and whatoverall impact the Amended NDI Rules will have on India in the long run especially in light of recent developments that most of MNCs from US and European Countries are considering to shift their manufacturing base to other countries including India from China post Covid-19 and ability of Indian Government to attract such investment by providing conducive environment and ease of doing business in India.
- [1] Notification number S.O. 1278 (E) dated 22nd April, 2020.
- [2] Rule 23 (7) (g) of Foreign Exchange Management (Non-debt Instruments) Rules, 2019.
- [3] Rule 23 (7) (i) of Foreign Exchange Management (Non-debt Instruments) Rules, 2019.
- [4] Rule 23 (7) (j) of Foreign Exchange Management (Non-debt Instruments) Rules, 2019.
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