Friday, September 23, 2011

Provisions, Rules, Regulations and Compliances for Investment outside India by the Indian Investors/ Parties

Indian resident investors are allowed to make direct investments outside India by complying certain Rules and regulations. This allowance is granted under clause (a) of sub-section (3) of section 6 of the Foreign Exchange Management Act 1999, (42 of 1999) read with FEMA Notification 120/RB-2004 dated July 7, 2004, (GSR 757 (E) dated November 19, 2004), viz. Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004.

Since overseas investments are the sensitive economic issues it needs to be regulated as well as liberalized keeping in view the global investment opportunities and India’s economic growth and its needs. Overseas investments in the form of JV or wholly owned subsidiaries strengthens economic and business co-operation between India and other countries. In addition it facilitates technology transfer research and development, promotion of brand image in the international market etc. Theses investments are also a source of foreign exchange earnings by way of dividend earnings, royalty, technical know-how fee and other entitlements on such investments.

The Reserve Bank has been continuously and progressively relaxing the rules and simplifying the procedures for promoting overseas Investments. But while investing certain rules and regulations has to be complied with which we will discuss below.

It can be discussed under following major points:

1.                  Investment Routes
v     Automatic Route and eligibility under this route
v     Approval Route and eligibility under this route
v     Prohibitions
2.                  General Permissions
3.                  Methods of Funding of Overseas Investments
4.                  Investment in Securities of the Foreign Companies
5.                  Post investment changes / additional investment in existing JV / WOS
6.                  Obligations of Indian Investing Party and Reporting Requirements

Investment Routes
There are two routes under which overseas investments can be made:
1.      Automatic Route and
2.      Approval Route

1.                  Automatic Route

Under automatic route an Indian party has been permitted to make investment in overseas Joint Ventures (JV) / Wholly Owned Subsidiaries (WOS), not exceeding 400 per cent of the net worth as on the date of its last audited balance sheet. The net worth here means paid up capital and free reserves. Further Indian party means a company incorporated in India or a body created under an Act of Parliament or a partnership firm registered under the Indian Partnership Act, 1932, making investment in a JV/WOS abroad and includes any other entity in India excluding individuals as may be notified by the Reserve Bank. It means we can sum up as:
a)      Investment can be made under wholly owned subsidiary and joint venture forms.
b)      The maximum investment that can be made is  400% of the net worth of the Indian investing party
c)      Investment under automatic route can be made by the following persons
-           Companies incorporate under Indian Companies Act 1956
-           Any body corporate created under the Act of parliament
-           A partnership firm registered under Indian Partnership Act 1932

                     i.            The ceiling of 400 per cent of net worth will not be applicable where the investment is made out of balances held in Exchange Earners' Foreign Currency account of the Indian party or out of funds raised through ADRs/GDRs. The Indian party should approach an Authorised Dealer Category - I bank with an application in Form ODI (Annex A) and prescribed enclosures / documents for effecting remittances towards such investments.

                   ii.            While calculation the ceiling of 400% the following shall be included :

–    Contribution to the capital of the overseas JV/WOS,
-     Loan granted to the JV/WOS
-     100 percent of the guarantees other than performance guarantee and 50 per cent of the amount of performance guarantees issued to or on behalf of the JV/WOS.

Conditions related to guarantee on Investments made in the form of guarantee:

The investments under this route are subject to the following conditions:
1.         The Indian party / entity may extend loan / guarantee only to an overseas JV/ WOS in which it has equity participation.

2.         Indian entities may offer any form of guarantee - corporate or personal / primary or collateral / guarantee by the promoter company / guarantee by group company, sister concern or associate company in India provided that:
                     i.                              All financial commitments including all forms of guarantees are within the overall ceiling prescribed for overseas investment by the Indian party i.e. currently within 400 per cent of the net worth as on the date of the last audited balance sheet of the Indian party.

                   ii.                              No guarantee should be 'open ended' i.e. the amount and period of the guarantee should be specified upfront. In the case of performance guarantee, time specified for the completion of the contract shall be the validity period of the related performance guarantee.

                  iii.                              In cases where invocation of the performance guarantees breach the ceiling for the financial exposure of 400 per cent of the net worth of the Indian Party, the Indian Party shall seek the prior approval of the Reserve Bank before remitting funds from India, on account of such invocation.

                 iv.                              As in the case of corporate guarantees, all guarantees (including performance guarantees) are required to be reported to the Reserve Bank, in Form ODI-Part II. Guarantees issued by banks in India in favour of WOSs / JVs outside India, would be outside this ceiling and would be subject to prudential norms, issued by the Reserve Bank (DBOD) from time to time.

                   v.                              Specific approval of the Reserve Bank will be required for creating charge on immovable property and pledge of shares of the Indian parent/ group companies in favour of a non- resident entity.

The following are the general conditions for Investment abroad under automatic route:

              I.      The Indian party should not be on the Reserve Bank’s Exporters' caution list / list of defaulters to the banking system circulated by the Reserve Bank / Credit Information Bureau (India) Ltd. (CIBIL) / or any other credit information company as approved by the Reserve Bank or under investigation by any investigation / enforcement agency or regulatory body.

           II.      All transactions relating to a JV / WOS should be routed through one branch of an Authorised Dealer bank to be designated by the Indian party.

         III.      In case of partial / full acquisition of an existing foreign company, where the investment is more than USD 5 million, valuation of the shares of the company shall be made by a Category I Merchant Banker registered with SEBI or an Investment Banker / Merchant Banker outside India registered with the appropriate regulatory authority in the host country; and, in all other cases by a Chartered Accountant or a Certified Public Accountant.

        IV.      In cases of investment by way of swap of shares, irrespective of the amount, valuation of the shares will have to be made by a Category I Merchant Banker registered with SEBI or an Investment Banker outside India registered with the appropriate regulatory authority in the host country. Approval of the Foreign Investment Promotion Board (FIPB) will also be a prerequisite for investment by swap of shares.

           V.      In case of investment in overseas JV / WOS abroad by a registered Partnership firm, where the entire funding for such investment is done by the firm, it will be in order for individual partners to hold shares for and on behalf of the firm in the overseas JV / WOS if the host country regulations or operational requirements warrant such holdings.

        VI.      An Indian party may acquire shares of a foreign company engaged in a bonafide business activity, in exchange of ADRs/GDRs issued to the latter in accordance with the Scheme for issue of Foreign Currency Convertible Bonds and Ordinary Shares (through Depository Receipt Mechanism) Scheme, 1993, and the guidelines issued there under from time to time by the Government of India, provided:

-                     ADRs/GDRs are listed on any stock exchange outside India;

-                     The ADR and/or GDR issued for the purpose of acquisition is backed by underlying fresh equity shares issued by the Indian party;

-                     The total holding in the Indian entity by persons resident outside India in the expanded capital base, after the new ADR and/or GDR issue, does not exceed the sectoral cap prescribed under the relevant regulations for such investment under FDI;  

-                     Valuation of the shares of the foreign company shall be (a) as per the recommendations of the Investment Banker if the shares are not listed on any recognized stock exchange; or (b) based on the current market capitalisation of the foreign company arrived at on the basis of monthly average price on any stock exchange abroad for the three months preceding the month in which the acquisition is committed and over and above, the premium, if any, as recommended by the Investment Banker in its due diligence report in other cases.

Obligations of Indian Investing Party and Reporting Requirement

The Indian entity investing outside India is under the following obligation
a)      The Indian Party is required to report in form ODI to the AD Bank for submission to the Reserve Bank within a period of 30 days from the date of the transaction.

b)      Receive share certificate or any other document as an evidence of investment,

c)      Repatriate to India the dues receivable from foreign entity, and

d)      Submit the documents / Annual Performance Report to the Reserve Bank,

e)      The share certificate or any other document as evidence of investment has to be submitted to and retained by the designated AD Category - I bank, who is required to monitor the receipt of such documents and satisfy themselves about the bonafides of the documents. A certificate to this effect should be submitted by the designated AD category – I bank to the Reserve Bank along with the APR (Part III of Form ODI).

Investment in an overseas JV / WOS may be funded out of one or more of the following sources:
           i.            Drawal of foreign exchange from an AD bank in India;
         ii.            Capitalisation of exports;
        iii.            Swap of shares
       iv.            Proceeds of External Commercial Borrowings (ECBs) / Foreign Currency Convertible Bonds (FCCBs);
         v.            In exchange of ADRs/GDRs issued in accordance with the Scheme for issue of Foreign Currency Convertible Bonds and Ordinar Shares (through Depository Receipt Mechanism) Scheme, 1993, and the guidelines issued thereunder from time to time by the Government of India;
       vi.            Balances held in EEFC account of the Indian party; and
      vii.            Proceeds of foreign currency funds raised through ADR / GDR issues.

In respect of (vi) and (vii) above, the ceiling of 400 per cent of the net worth will not apply. However, all investments made in the financial sector will be subject to compliance with Regulation 7 of the Notification, irrespective of the method of funding.

Further a general permission has been granted to persons resident in India for purchase / acquisition of securities in the following manner:
  1. Out of funds held in RFC account;
  2. As bonus shares on existing holding of foreign currency shares; and
  3. When not permanently resident in India, out of their foreign currency resources outside India

Except the cases falling under direct investment route, prior approval of the Reserve Bank would be required e.g investment abroad by the trust, society, unregistered partnership firms or investment other than in the form of JV or WOS. For this purpose, application together with necessary documents should be submitted in Form ODI through their Authorized Dealer Category – I banks.

Reserve Bank would, inter alia, take into account the following factors while considering such applications:
  1. Prima facie viability of the JV / WOS outside India;
  2. Contribution to external trade and other benefits which will accrue to India through such investment;
  3. Financial position and business track record of the Indian party and the foreign entity; and
  4. Expertise and experience of the Indian party in the same or related line of activity as of the JV / WOS outside India.

Post investment changes / additional investment in existing JV / WOS

A JV / WOS set up by the Indian party as per the Regulations may diversify its activities / set up step down subsidiary / alter the shareholding pattern in the overseas entity. The Indian party should report to the Reserve Bank through the AD Category - I bank, the details of such decisions within 30 days of the approval of those decisions by the competent authority of the JV / WOS concerned in terms of local laws of the host country and include the same in the Annual Performance Report (APR—Part III of form ODI) required to be forwarded to the AD Category-I bank.

3.         Prohibited Investments

Indian parties are prohibited from making investment in a foreign entity engaged in real estate (meaning buying and selling of real estate or trading in Transferable Development Rights (TDRs) but does not include development of townships, construction of residential/commercial premises, roads or bridges) or banking business, without the prior approval of the Reserve Bank.

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