Author Name:   kaushikdhar@legalserviceindia.com

Foreign Direct Investment which is also known as FDI, can be said to be a measure of foreign ownership of domestic productive assets such as factories, land and organizations. In the recent years of globalization, foreign direct investments have become the major economic driver of development, accounting for over of all cross-border investments...

Foreign Direct Investment (FDI)

A foreign company can conduct business operation in India. A foreign company which is planning to set up business operations in India may do so by following the below mentioned two methods:

1. Incorporate a company under the Companies Act, 1956, as a Joint Venture or a Wholly Owned Subsidiary.

2. Set up a Liaison Office / Representative Office or a Project Office or a Branch Office of the foreign company which can undertake activities permitted under the Foreign Exchange Management (Establishment in India of Branch Office or Other Place of Business) Regulations, 2000.

The foreign company which are willing to invest in Indian companies can do so, but it requires some formality to be observed. The Foreign Direct Investment in an Indian company can be done in two routes, they are:

1. Automatic Route
2. Government Route

The foreign direct investment is allowed up to 100 per cent under the automatic route in all activities/sectors except where the provisions of the consolidated FDI Policy i.e. 'Entry Routes for Investment' issued by the Government of India from time to time, are attracted. Thus the foreign direct investment in sectors /activities to the extent permitted under the automatic route does not require any prior approval either of the Government or the Reserve Bank of India.

The foreign direct investment in activities which are not covered under the automatic route requires prior approval of the Government which are considered by the Foreign Investment Promotion Board (FIPB), Department of Economic Affairs, Ministry of Finance. The application is to be made in the Form FC-IL and has to addressed to the FIPB. Interestingly the Board has also allowed and started entertaining applications which are written in plain paper with the only conditions that it should carry all the relevant details. And another most important thing is that no fees are payable to the Board. The main objective behind these is to make the process hassle free.

The Indian companies having foreign investment approved through FIPB route do not require any further clearance from the Reserve Bank of India for receiving inward remittance and for the issue of shares to the non-resident investors.

The process after filing the application form is that the Indian company having received FDI either under the Automatic route or the Government route is required to report in the Advance Reporting Form, the details of the receipt of the amount of consideration for issue of equity instrument viz. shares or fully and mandatorily convertible debentures or fully and mandatorily convertible preference shares through an AD Category – I Bank, together with copy or copies of the Foreign Inward Remittance Certificate (FIRC) evidencing the receipt of inward remittances along with the Know Your Customer (KYC) report on the non-resident investors from the overseas bank remitting the amount, to the Regional Office concerned of the Reserve Bank of India within 30 days from the date of receipt of inward remittances. Then, the Indian company is required to issue the equity instrument within 180 days, from the date of receipt of inward remittance or debit to Non Resident External/Foreign Currency Non Resident (B) Account (NRE/FCNR) in case of Non Resident Indian/Person of Indian Origin (NRI/PIO).

After issue of shares or fully and mandatorily convertible debentures or fully and mandatorily convertible preference shares, the Indian company has to file the required documents along with Form FC-GPR (Foreign Collaboration – General Permission Route) with the Regional Office concerned of the Reserve Bank of India within 30 days of issue of shares to the non-resident investors.

It is not every sector in which foreign direct investment is allowed. There are few sectors in which foreign direct investment is not allowed in India, whether it is under the Automatic route or the Government Route are as follows:
i) Retail Trading (except single brand product retailing)
ii) Atomic Energy
iii) Lottery Business
iv) Gambling and Betting
v) Business of Chit Fund
vi) Nidhi Company

vii) Agricultural (excluding Floriculture, Horticulture, Development of seeds, Animal Husbandry, Pisciculture and cultivation of vegetables, mushrooms, etc. under controlled conditions and services related to agro and allied sectors) and Plantations activities (other than Tea Plantations) (cf. Notification No. FEMA 94/2003-RB dated June 18, 2003).

viii) Housing and Real Estate business (except development of townships, construction of residen­tial or commercial premises, roads or bridges to the extent specified in Notification No. FEMA 136/2005-RB dated July 19, 2005).

ix) Trading in Transferable Development Rights (TDRs).
x) Manufacture of cigars, cheroots, cigarillos and cigarettes, of tobacco or of tobacco substitutes.

The procedure which is to be followed after investment is made under the Automatic Route or the Government Route approval can be divided in to two stage:

i. On receipt of share application money:
Within 30 days of receipt of share application money/amount of consideration from the non-resident investor, the Indian company is required to report to the Regional Office concerned of the Reserve Bank of India, under whose jurisdiction its Registered Office is located, the Advance Reporting Form, containing the following details:

a. Name and address of the foreign investor or investors
b. Date of receipt of funds and the Rupee equivalent
c. Name and address of the authorised dealer through whom the funds have been received
d. Details of the Government approval, if any and
e. Know Your Customer (KYC) report on the non-resident investor from the overseas bank remitting the amount of consideration.

ii. Upon issue of shares to non-resident investors:
Within 30 days from the date of issue of shares, a report in Form FC-GPR (Foreign Collaboration-General Permission Route) - PART A together with the following documents should be filed with the Regional Office concerned of the Reserve Bank of India:

1) Certificate from the Company Secretary of the company accepting investment from persons resident outside India certifying that:

1. The company has complied with the procedure for issue of shares as laid down under the Foreign Direct Investment (FDI) scheme as indicated in the Notification No. FEMA 20/2000-RB dated 3rd May 2000, as amended from time to time.

2. The investment is within the sectoral cap / statutory ceiling permissible under the Automatic Route of the Reserve Bank and it fulfils all the conditions laid down for investments under the Automatic Route, namely-

a. Non-resident entity or entities - (other than individuals), to whom it has issued shares have existing joint venture or technology transfer or trade mark agreement in India in the same field and Conditions stipulated at Paragraph 4.2 of the Consolidated FDI policy Circular of Government of India have been complied with Or

Non-resident entity entities - (other than individuals), to whom it has issued shares do not have any existing joint venture or technology transfer or trade mark agreement in India in the same field.

b. The company is not an Industrial Undertaking manufacturing items reserved for small sector. Or

The company is an Industrial Undertaking manufacturing items reserved for the small sector and the investment limit of 24 per cent of paid-up capital has been observed/ requisite approvals have been obtained.

c. Shares issued on rights basis to non-residents are in conformity with Regulation 6 of the Reserve Bank India (RBI) Notification No FEMA 20/2000-RB dated 3rd May 2000, as amended from time to time Or

Shares issued are bonus shares Or

Shares have been issued under a scheme of merger and amalgamation of two or more Indian companies or reconstruction by way of de-merger or otherwise of an Indian company, duly approved by a court in India Or

Shares are issued under Employee Stock Ownership Plan (ESOP) and the conditions regarding this issue have been satisfied.

2) Certificate from Statutory Auditors/ Securities Exchange board of India (SEBI) registered Category - I Merchant Banker / Chartered Accountant indicating the manner of arriving at the price of the shares issued to the persons resident outside India.

Guidelines for transfer of existing shares from non-residents to residents or residents to non-residents:

There are two ways:
A. Transfer of shares or fully and mandatorily convertible debentures from Non-Resident to Resident:

The term ‘transfer’ is defined under Foreign Exchange Management Act, 1999 (FEMA) as including "sale, purchase, acquisition, mortgage, pledge, gift, loan or any other form of transfer of right, possession or lien” [Section 2 (ze) of Foreign Exchange Management Act, 1999].

The FEMA Regulations give specific permission covering the following forms of transfer i.e. transfer by way of sale and gift. These permissions are discussed below:

i. Transfer of shares or fully and mandatorily convertible debentures by way of sale: A person resident outside India can freely transfer shares or fully and mandatorily convertible debenture by way of sale to a person resident in India as under:

Any person resident outside India (not being a Non Resident Indian (NRI) or an erstwhile Overseas Corporate Bodies), can transfer by way of sale the shares or fully and mandatorily convertible debentures to any person resident outside India or an NRI may transfer by way of sale, the shares or fully and mandatorily convertible debentures held by him to another NRI only provided that the person to whom the shares are being transferred has obtained prior permission of the Central Government to acquire the shares if he has previous venture or tie up in India through investment in shares or debentures or a technical collaboration or a trade mark agreement or investment by whatever name called in the same field or allied field in which the Indian company whose shares are being transferred is engaged.

Any person resident outside India may sell shares or fully and mandatorily convertible debenture acquired in accordance with the FEMA Regulations, on a recognized Stock Exchange in India through a registered broker.

Any person resident outside India may also sell share or convertible debenture of an Indian company to a resident subject to adherence to pricing guidelines, documentation and reporting requirements as specified from time to time.

Shares or convertible debentures of Indian companies purchased under Portfolio Investment Scheme by NRIs and erstwhile Overseas Corporate Bodies cannot be transferred, by way of sale under private arrangement.

ii. Transfer of shares or fully and mandatorily convertible debentures by way of Gift: A person resident outside India can freely transfer shares or fully and mandatorily convertible debentures by way of gift to a person resident in India as under:

a. Any person resident outside India, (not being a NRI or an erstwhile Overseas Corporate Bodies), can transfer by way of gift the shares or fully and mandatorily convertible debentures to any person resident outside India;

b. An NRI may transfer by way of gift, the shares or convertible debentures held by him to another NRI only, provided that the person to whom the shares are being transferred has obtained prior permission of the Central Government to acquire the shares if he has previous venture or tie up in India through investment in shares or debentures or a technical collaboration or a trade mark agreement or investment by whatever name called in the same field or allied field in which the Indian company whose shares are being transferred is engaged.

c. Any person resident outside India may transfer share or fully and mandatorily convertible debentures to a person resident in India by way of gift.

B. Transfer of shares or fully and mandatorily convertible debentures from Resident to Non-Resident:

i. Transfer of shares or fully and mandatorily convertible debentures by way of sale - General Permission under Regulation 10 of Notification No. FEMA 20/2000-RB dated May 3, 2000

A person resident in India may transfer by way of sale to a person resident outside India any shares or fully and mandatorily convertible debenture of an Indian company whose activities (other than financial service sector activities) fall under the Automatic Route of the FDI Scheme provided the parties concerned comply with the FDI sectoral limits, pricing guidelines, documentation and reporting requirements for such transfers, as may be specified by the Reserve Bank of India, from time to time.

However, the above general permission is not available where:
a) The transfer of shares or fully and mandatorily convertible debentures falls within the provisions of SEBI (Substantial Acquisition of Shares and Takeovers) Regulations, 1997, as amended from time to time.

b) The transfer of shares or fully and mandatorily convertible debentures is at a price which does not adhere to the pricing guidelines specified by the Reserve Bank of India from time to time

c) The activity of the Indian investee company falls outside the automatic route and where Foreign Investment Promotion Board (FIPB) approval has been obtained for the said transfer.

Transfer of security by way of gift to a person resident outside India by a person resident in India:

A person resident in India who proposes to transfer security by way of gift to a person resident outside India [other than an erstwhile Overseas Corporate Bodies] shall make an application to the Central Office of the Foreign Exchange Department, Reserve Bank of India furnishing the following information, namely:

# Name and address of the transferor and the proposed transferee
# Relationship between the transferor and the proposed transferee
# Reasons for making the gift.
# In case of Government dated securities, treasury bills and bonds, a certificate issued by a Chartered Accountant on the market value of such securities.
# In case of units of domestic mutual funds and units of Money Market Mutual Funds, a certificate from the issuer on the Net Asset Value of such security.
# In case of shares or fully and mandatorily convertible debentures, a certificate from a Chartered Account on the value of such securities according to the guidelines issued by the Securities & Exchange # # # # Board of India or the Discount Free Cash Flow Cash (DCF) method with regard to listed companies and unlisted companies, respectively.
# Certificate from the Indian company concerned certifying that the proposed transfer of shares or convertible debentures, by way of gift, from resident to the non-resident shall not breach the applicable sectoral cap or FDI limit in the company and that the proposed number of shares or convertible debentures to be held by the non-resident transferee shall not exceed 5 per cent of the paid up capital of the company.
# The transfer of security by way of gift may be permitted by the Reserve bank provided:

i. The donee is eligible to hold such security under Schedules 1, 4 and 5 to Notification No. FEMA 20/2000-RB dated May 3, 2000, as amended from time to time.

ii. The gift does not exceed 5 per cent of the paid up capital of the Indian company/ each series of debentures/ each mutual fund scheme

iii. The applicable sectoral cap/ foreign direct investment limit in the Indian company is not breached

iv. The donor and the donee are relatives as defined in section 6 of the Companies Act, 1956.

v. The value of security to be transferred by the donor together with any security transferred to any person residing outside India as gift in the calendar year does not exceed the rupee equivalent of USD 25,000.

vii. Such other conditions as considered necessary in public interest by the Reserve Bank.

In case the transfer does not fit into any of the above categories, either the transferor (resident) or the transferee (non-resident) can make an application to the Reserve Bank for permission for the transfer of shares. The application has to be accompanied with the following documents:

# A copy of the Foreign Investment Promotion Board (FIPB) approval (if required).
# Consent letter from transferor and transferee clearly indicating the number of shares, name of the investee company and the price at which the transfer is proposed to be effected.
# The present/post transfer shareholding pattern of the Indian investee company showing the equity participation by residents and non-residents category-wise.
# Copies of the Reserve Bank of India's approvals or acknowledged copies of Foreign Collaboration-General Permission Route (FC-GPR) evidencing the existing holdings of the non-residents.
# If the sellers/ transferors are NRIs or Overseas Corporate Bodies, the copies of the Reserve Bank of India's approvals evidencing the shares held by them on repatriation or non-repatriation basis.
# Open Offer document filed with the Securities Exchange Board of India (SEBI) if the acquisition of shares by non-resident is under SEBI Takeover Regulations.
# Fair Valuation Certificate from the SEBI registered Category-I Merchant Banker or Chartered Accountant indicating the value of shares as per the following guidelines:
a) where shares of an Indian company are listed on a recognized stock exchange in India, the price of shares transferred by way of sale shall not be less than the price at which a preferential allotment of shares can be made under the SEBI Guidelines, as applicable, provided that the same is determined for such duration as specified therein, preceding the relevant date, which shall be the date of purchase or sale of shares.

b) where the shares of an Indian company are not listed on a recognized stock exchange in India, the transfer of shares shall be at a price not less than the fair value to be determined by a SEBI registered Category – I Merchant Banker or a Chartered Accountant as per the Discounted Free Cash Flow (DCF) method.

All foreign investments are freely repatriable (net of applicable taxes) except in cases where:
i) the foreign investment is in a sector like Construction and Development Projects and Defence wherein the foreign investment is subject to a lock-in-period; and

ii) NRIs choose to invest specifically under non-repatriable schemes.
Further, dividends (net of applicable taxes) declared on foreign investments can be remitted freely through an Authorised Dealer bank.

Guidelines on issue and valuation of shares in case of existing companies:
A. The price of shares issued to persons resident outside India under the Foreign Direct Investment Scheme shall not be less than:
# the price worked out in accordance with the SEBI guidelines, as applicable, where the shares of the company is listed on any recognised stock exchange in India;
# the fair valuation of shares done by a SEBI registered Category - I Merchant Banker or a Chartered Accountant as per the discounted free cash flow method, where the shares of the company is not listed on any recognised stock exchange in India; and
# the price as applicable to transfer of shares from resident to non-resident as per the pricing guidelines laid down by the Reserve Bank from time to time, where the issue of shares is on preferential allotment.

B. The price of shares transferred from resident to a non-resident and vice versa should be determined as under:
i) Transfer of shares from a resident to a non-resident:

a) In case of listed shares, at a price which is not less than the price at which a preferential allotment of shares would be made under SEBI guidelines.

b) In case of unlisted shares at a price which is not less than the fair value as per the Discount Free Cash Flow (DCF) Method to be determined by a SEBI registered Category-I Merchant Banker/Chartered Accountant.

ii) Transfer of shares from a non-resident to a resident - The price should not be more than the minimum price at which the transfer of shares would have been made from a resident to a non-resident.

In any case, the price per share arrived at as per the above method should be certified by a SEBI registered Category-I Merchant Banker or Chartered Accountant.

The  author can be reached at: kaushikdhar@legalserviceindia.com

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