Guest Column: The revamp of the foreign investment policy and procedures was initiated with release of Press Note 2 and Press Note 3 (2009 series) in the week of February 16, 2009. In continuation, the Government has issued another important Press Note [Press Note 4 (2009 Series)] laying down the guidelines for downstream investments by Indian companies.
Press Note 4 says, "A foreign-owned or controlled Indian company that either runs a business (operates, in government parlance) or runs a business and also invests in other companies down the line will no longer have to seek clearance from the Foreign Investment Promotion Board for making investments in yet another company."
The historical guidelines and their interpretation resulted in a situation where any Indian company with foreign investment required a ‘Holding company’ / ‘Holding-cum-operating company’ approval from the FIPB, before it could make further downstream investments. This requirement was rather onerous, especially for operating companies making downstream investments, which were otherwise under the automatic route.
Operating Businesses Need Not Seek Govt Approval
The new guidelines provide greater clarity on the requirement for companies to obtain such an approval and the scope of downstream investment. Companies engaged in operating activities, would no longer require a Government approval before making downstream investments, so long as the sectoral caps / conditions are satisfied. Pure investing companies will, however continue to require prior Government / FIPB approval, regardless of the amount or extent of foreign investment. For companies set up by private equity investors in India, such companies, if they have operating businesses, there would be no requirement to obtain an approval for making any downstream investments in special purpose vehicles, subject to sectoral caps and other conditions.
Foreign investment is currently prohibited in certain sectors such as multi-brand retailing and agriculture. In a situation where a foreign VC / PE investor neither owns nor controls an operating-cum-investing company, which in-turn makes a downstream investment in a company engaged in activities in which FDI is prohibited, it is not explicitly stated whether such investment would be permissible under the new guidelines. A plausible interpretation of the new guidelines, read with Press Note 2 (2009 Series) is that such an investment is neither prohibited nor restricted, reaffirmed by the fact that the Press Note provides guidance only for the downstream investment by foreign owned or controlled companies.
Strategic Investments Vs Portfolio Investments
It may be noted that investing companies have been defined to exclude companies holding investments for ‘trading of such holdings / securities’. This exclusion draws a subtle distinction between investing companies making strategic investments (such as VC / PE investors) and those making portfolio investments, and excludes the latter from the scope of the definition. It also suggests that the Government may not permit foreign investment in companies which hold investments in other Indian companies, purely for trading purposes (and not as strategic investments).
The guidelines are not explicit on the treatment of past investments, which are non-compliant with the historical policy framework.Since the guidelines seem to be clarificatory in nature and have scrapped the historical guidelines with effect from February 25, 2009, a possible interpretation could be that past investments, which were non-complaint with historical policy, would not require regularization, if these comply with the new guidelines. This aspect may need to be clarified with the DIPP.
In summary, the new guidelines provide clarity of policy and flexibility of operations to Operating-cum-investing companies (owned or controlled by foreign investors) which have or propose to have downstream investments.
Moreover, with Press Note 4 not articulating any restrictions on Indian companies with foreign investment, albeit not owned or controlled by foreign investors as defined in Press Note 2, the logical outcome is that such entities will not be saddled with the foreign investment norms and procedures for their downstream investments, other than in circumstances specifically defined in Press Note 2.
In respect of downstream investment by such entities (which are neither owned or controlled by foreign investors) in areas prohibited or restricted for foreign investment whilst the guidelines carry not explicit restrictions it will be advisable to await express clarifications and guidance from the policy makers to exclude the possibility that this aspect has been inadvertently overlooked and may be subsequently clarified.
(Gokul Chaudhri is Partner, BMR Advisors. The views are personal)
