Ayushi Choudhary and Pushpam Raj Pandey, law students, Dr. Ram Manohar Lohiya National Law University
With the outbreak of COVID-19, the Indian Government adopted certain protectionist measures to save the Indian industries from predatory capital investments. As seen in the past, the agenda behind amendments in the Foreign Direct Investment Policy (“FDI Policy”) has been to promote the ease of doing business by liberalizing the policies and making India “an investor-friendly nation”. However, amidst these unprecedented times, the Government opted for a bold move and released a press note on April 17, 2020(“Press Note 3”) to amend the consolidated FDI Policy of 2017. This came into effect on April 23, 2020 via a press release with the aim of regulating the opportunistic takeover of the Indian companies from astute business organizations.
On July 23, 2020 the Ministry of Finance issued a memorandum to amend the General Financial Rules, 2017(“GFR“). Through this notification, the Government laid down a mandatory registration format for the foreign bidders belonging to countries that share their land borders with India. As a result of this, the bidders who intend to participate in any Indian public procurement process would be eligible only if they comply with the enabling provision of getting themselves registered with the competent authority in India. The Department for Promotion of Industry and Internal Trade (“DPIIT”) would constitute the registration committee and the registration process would also require prior political and security clearance from the Ministries of External and Home Affairs respectively.
The ambit of para 3.1.1 of the FDI Policy was increased as compared to the previous position. Earlier the inflow of investments from countries apart from Pakistan and Bangladesh excluding certain restricted sectors were automatic in nature. However post these amendments (i) investments from other neighbouring countries like Nepal, China, Pakistan, Afghanistan, Sri Lanka and Myanmar (“Border Countries”) were channelled through the government approval route, (ii) the Standard operation process(“SOP”) under the government approval route would to be followed even if the beneficial owner of the entity is from any of these Border countries, and (iii) the transfer of ownership of an existing or future FDI in an entity in India directly or indirectly resulting in the beneficial ownership falling within the restriction/purview in the above mentioned restriction would invite prior approval of the government.
The order released by the Ministry of Finance inserting rule 144(xi) of the General Financial Rules (GFR) lays down the requirement for registration of the foreign bidders with the competent authority in case they belong to any of the Border Countries mentioned above. Under paragraph 8 of the “Order” one of the definitions of bidder includes “Beneficial Owner” of the entity and unlike the Press Note 3, the memorandum incorporates the explanation of the term as “natural person(s), who, whether acting alone or together, or through one or more judicial person(s), has a controlling interest or who exercises control through other means”. This is followed by the definition of the connected terms like “controlling ownership interest” and “control” to provide further transparency in the determination of the “beneficial owners”.The Government has also provided that if no natural person can be identified as the beneficial owner then the ‘senior managing official’ would be the “beneficial owner”.
- Requirement of clarification of terms to determine “Beneficial Owner” and “Senior Managing Official”
Pursuant to the amendments, it could be seen that the Press Note 3 has left the term “Beneficial Owner” undefined. One of the options is consistent with the limit issued by the Ministry of Corporate Affairs to determine Significant Beneficial Owner (“SBO”) as per the Section 90 of the Companies Act, 2013 read with the Companies (Significant Beneficial Owners) Rules, 2018 (“SBO Rules”). However, the complication in determination of the given term would still remain unsolved due to the existing inconsistency between available doorways. The threshold for setting off SBO under the relevant section is 25% whereas the same provided under the SBO Rules is 10%. Another legal provision dealing with the related term is defined under section 2(fa) of Prevention of Money Laundering Act, 2002 (“PMLA”). The Reserve Bank of India itself defines ‘Ownership of an Indian company’ as the beneficial holding of more than 50 per cent of the capital instruments of such company under the Master Direction – Foreign Investment in India. The included instruments under the definition of capital instruments are regulated from time to time under the Foreign Exchange Management (Borrowing and Lending in Foreign Exchange Regulations), 2000, as amended from time to time. Thus, in order to use the prescribed definitions, the primary requirement would be to clarify the position of the blurred precisions.
In case of the memorandum the term senior managing officials is unclear leaving a space for ambiguity. In pari materia, SBO rules which vaguely defines the term could be one of the plausible explanations for this expression or the other version could be regulation 2 of the statutory instrument 110/2-19 which interprets the term as “including a director and a chief executive officer”.
- The amendments are targeting Chinese investors:
The Government approval route had already been followed for most of the sectors in case of Pakistan and Bangladesh. Looking at the FDI statistics for previous years it can be inferred that there had been negligible economic inflow from the other four nations. There had been a surging Chinese investments in Indian technological companies especially start-ups for the past few years. The trigger point for these changes as apprised through reports have been when the People’s Bank of China (“PBOC”) increased its shareholding in one of India’s largest housing companies (“HDFC“) from 0.8% to 1.01%. In furtherance to the already existing China-bashing due to the outbreak of novel coronavirus, the recent conflict between India and China at the Galwan valley exacerbated and stirred anti-China sentiments affecting the bilateral relations between the two countries.
- The policy does not adhere to the principles laid down by the World Trade Organisation in absolute sense
The resultant amendment due to the deep routed mistrust of the Indian Government against its giant neighbour was reportedly criticised by China on grounds of violation of WTO’s principle of non-discrimination. The allegation also included the breach of consensus among G20 leaders and trade ministers “to realise a free, fair, non-discriminatory, transparent, predictable and stable trade and investment environment”. The act could be defended by relying on the security exceptions under article XXI of the General Agreement on Tariff and Trade (“GATT”). This clause clarifies that the members can take preventive measures to safeguard the security of their country during any international emergency or war. Thus, India termed the manoeuvre as an act of self-defence and the experts suggested that since there is no agreement pertaining to FDI under WTO, so the government is well within the limits. However, the protection of the policy is not permanent as no sooner the official pandemic would be lifted, the defence would cease to exist. There are other countries as well who have adopted the screening mechanism for FDI like; The Committee on Foreign Investment in the United States (CFIUS) is formed by the US government to effectively check the FDI investments from China. One such instance is, CFIUS blocking American semiconductor testing company Xcerra’s takeover by China’s Hubei Xinyan. Ruthless behaviour of China to increase their stake/control over the foreign enterprises during the current situation has kindled speculations among the countries. On similar lines Germany, Australia and Spain have also introduced screening policies for FDI to protect their markets from hostile takeovers. However, these countries have established frameworks in form of regulations or acts to substantiate their steps. Thus, the Indian Government cannot merely justify their action as one that follows the global pattern. Unlike international practises, the current policy is facially prejudiced and lacks proper implementation.
- Impact on the desired goal of making India ‘a friendly seat for the investors’:
India ranked 63rd among 190 countries in the ‘ease of doing business’ which was notified by the World Bank last year. Enthused by the pace of foreign investment inflow in India, the secretary of the DPIIT along with the industry experts had expressed their desire to continue the healthy rates unabated with a simplified process, facilitating the entry of foreign companies in India. Unfortunately due to the current state of affairs most of the investments from foreign countries which initially did not require prior approval of government or the Reserve bank of India now requires their consent before proceeding with their investments in India. Thus, the master plan of integrating the Indian economy with the rest of the world and simplifying the investment process have been compromised, implicating far-reaching impact on the FDI regime. The language of the above mentioned Press Note 3 and the memorandum tightens the procurement and the foreign investment norms.
- The position of alternate investment methods remain unclear:
The fact that there isn’t any restriction imposed on the Foreign portfolio investments (“FPI”) suggests that the primarily focus is to scrutinise the ownership interest of the foreign companies in India rather than their passive short term attempts to make money. Recent updates about the tapping of alternative investment funds (“AIFs”) have raised concerns regarding the ambit of The Press Note 3. The status of downstream investments is also blurry at present. At present due to the lack of any clarification provided by the government even insignificant utilitarian investments would fall under the purview of government approval. According to the amendments and the ongoing market conditions, the policymakers have deliberated over the fixation of a lower threshold to segregate the small financial investments from the significant ones.
Post analysing the changes it is obvious these amendments don’t put a blanket-ban on foreign investments. The intention is to protect the Indian firms facing economic stress from any hostile acquisition. Thus, the requisite is to strike a balance between the protection of Indian markets from any wrongful foreign advancements and the need of economic inflow to provide an aid to these badly affected companies especially the start-ups.
Firstly, there should be a fixation of lower threshold for bringing the investment under the scrutiny of the government authorities. The government needs to fasten and simplify investments which do not have dominant result. This could be achieved by putting forth specific guidelines mentioning the investments from the foreign companies which should invite government’s attention. Frivolous transactions should be filtered out to make the scrutinising process of the government more constructive. Secondly, for the determination of ‘senior managing official’ the decision should be based on the overall holding structure instead of merely focussing on the citizenship of the person. The process of lifting of the corporate veil should be adopted to detect the actual architect of any speculative opportunistic transactions. This would leave no space for the investor or the bidder to escape the identification process by changing the location or obtaining citizenship of some other country. Thirdly the government needs to properly execute the policy with a less direct approach to remain in conformity with the WTO principles even after the pandemic ceases to exist. The government needs to effectively regulate FDI in an economy with proper screening policy with the creation of parallel friendly relations with the genuine investors to promote such business connections. This would also result in the improvement of the shrinking Gross Domestic Product of India as with the encouragement of authentic FDI inflow is one of the determining facts for the growth in GDP.
Certainly, there has been an excessive power vested in the hands of the government due to the prevailing situation. However, by adopting the suggested method of focusing on the controlling capacity of the investment with the continuation of a uniform simplified investment process in cases wherein the transaction cannot establish any control over the invested company would be an apt solution.