1. INTRODUCTION

On October 28, 2020, the Department for Promotion of Industry and Internal Trade (the "DPIIT"), after a gap of 3 long years, unveiled the consolidated foreign direct investment ("FDI") policy, 2020 (the "FDI Policy"). The FDI policy has been made effective from October 15, 2020.

The FDI Policy consolidates all the regulations on foreign investment and subsumes and supersedes all press notes, press releases, clarifications, and circulars issued by the DPIIT, which were in force as on October 15, 2020. While it replaces the older policies, it does not overwrite the regime established by the Foreign Exchange Management (Non-Debt Instruments) Rules, 2019 (as amended from time to time) (the "NDI Rules"). We have listed the noteworthy deviations that the FDI Policy makes over the NDI Rules below.

2. SECTORAL CAPS

2.1. Private Security Agencies

The NDI Rules provide that FDI in private security agencies is permitted upto the sectoral cap of 49%, with government approval. The FDI Policy on the other hand, similar to the FDI Policy of 2017, permits private security agencies to receive FDI upto 74%, wherein FDI upto 49% is permitted under the automatic route (without government approval) and FDI beyond 49% is permitted with government approval. While the NDI Rules do not define private security agency or prescribe conditions that apply to the sector, the FDI Policy states that FDI in private security agencies is subject to compliance with the Private Security Agencies (Regulation) (PSAR) Act, 2005, as amended from time to time. The FDI Policy also refers to the definition of private security, private security agency and armored car service in line with what is prescribed under the PSAR Act. What is noteworthy is that the PSAR Act provides that a license under the PSAR Act cannot be issued to entities having a proprietor or a majority shareholder, partner or director, who is not a citizen of India, implying that a private security agency needs to controlled by Indian citizens. Hence, while the FDI Policy permits a majority stake to be held by a non resident, the NDI Rules provides for a sectoral cap of 49%, and the PSAR Act provides that a majority stake can only be held by Indian citizens (not touching upon the residency requirements).

2.2. Commodities Spot Exchange

The NDI Rules recognize the commodities spot exchange as a separate sector and permit FDI upto 49%, under the automatic route. However, the FDI Policy does not mention commodity spot exchange as a separate sector. The FDI Policy includes commodity exchanges under the sector of infrastructure companies in the security market. However, it refers to commodity exchanges as defined under the Forward Contracts (Regulation) Act, 1952, which may not cover spot contracts and by extension entities operating commodity spot exchanges. Hence, under the FDI Policy, if operating a commodities spot exchange is deemed to be under the other financial services sector, then FDI will be allowed upto 100%, subject to meeting the conditions applicable to the other financial services sector (including the requirement of approvals in case there is doubt about regulatory oversight on such entities).

3. DICHOTOMY REGARDING CONDITIONALITIES APPLYING TO CERTAIN SECTORS

3.1. Incorporation of conditions for the broadcasting sector

Certain conditions for the broadcasting sector have been detailed in the FDI Policy, such as the mandatory requirement of key executives to be resident Indian citizens, security clearance of key executives, meeting of national security conditions, monitoring, inspection and submission of information for such purposes, and meeting requirements in relation to infrastructure, network, and software. DPIIT clarification dated October 16, 2020, in relation to the scope of applicability of DPIIT's press note 4 of 2019, for entities engaged in 'uploading or streaming of news and current affairs through digital media' has also been included in the FDI Policy. However, the NDI Rules have not been amended to make such conditions applicable to the broadcasting sector.

3.2. Revised conditions for the defence industry

There is no change in the sectoral cap specified, which remains to be 100%, subject to FDI upto 74% under the automatic route and FDI beyond 74% under the government route wherever it is likely to result in access to modern technology or for other reasons to be recorded by the government in its approval. We note that the FDI Policy has recorded the following conditions enumerated by DPIIT's press note 4 of 2020, as applicable to the defense sector:

3.2.1. FDI up to a cap of 74% under automatic route shall be permitted for companies seeking new industrial licenses;

3.2.2. Infusion of fresh FDI upto a cap of 49%, in a company not seeking industrial license, resulting in change in the ownership pattern or transfer of stake by an existing investor to a new foreign investor, will require government approval.

3.2.3. License applications will be considered by the DPIIT, in consultation with the Ministry of Defence and Ministry of External Affairs.

3.2.4. FDI in the sector is subject to security clearance by the Ministry of Home Affairs and as per guidelines of the Ministry of Defence.

3.2.5. The investee company should be structured to be self-sufficient in the areas of product design and development. The investee or joint venture company, along with the manufacturing facility, should also have maintenance and life cycle support facility of the product being manufactured in India.

3.2.6. FDI in the Defence sector shall be subject to scrutiny on grounds of national security and the government reserves the right to review any FDI in this sector that affects or may affect national security.

The provisions applicable to the defense sector under the NDI Rules have not been amended to account for the changes proposed by press note 4 of 2020 (as also included in the FDI Policy).

3.3. E-Commerce

In respect of business to business ("B2B") e-commerce, the NDI Rules provide that such companies would engage only in B2B e-commerce and not in retail trading. The NDI Rules distinguish between B2B e-commerce and marketplace e-commerce. However, the FDI Policy in this regard does not distinguish between B2B e-commerce and marketplace e-commerce. It does not refer to the phrase 'retail trading' but uses the term business to consumer ("B2C") e-commerce, specifying that ecommerce entities engaged in B2B e-commerce shall not engage in any form of B2C e-commerce. This is vague and creates confusion in relation to the different business models being operated where online buying and selling of goods is undertaken either to an end consumer or to another business.

3.4. White Label ATMs

Operation of white label ATMs ("WLAs") was not mentioned as a specific sector in the NDI Rules. However, WLAs have been included in the FDI Policy as a sector where 100% FDI is permissible under the automatic route but subject to (a) having a minimum net worth of Rs. 100 crores as per such entity's latest audited balance sheet, which net worth shall be maintained at all times; (b) complying with the minimum capitalization norms, if any, for FDI in such other financial services if such entity is also engaged in any 'other financial services' as laid down at paragraph 5.2.26 of the FDI Policy, and (c) meeting the specific criteria and guidelines issued by the Reserve Bank of India (the "RBI") vide Circular No. DPSS.CO.PD.No. 2298/02.10.002/2011-2012, as amended from time to time.

3.5. Other Financial Services

The NDI Rules provide that downstream investments by any of the entities engaged in other financial services, which is treated as indirect foreign investment for the investee entity, shall be subject to the NDI Rules. The FDI Policy 2020 provides that downstream investments by any of the entities engaged in other financial services will be subject to the extant sectoral regulations and provisions of the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) Regulations, 2000, as amended from time to time (the "TISPRO"). The FDI Policy, 2020 contains a wrong reference to the extant foreign exchange regulations, which may lead to confusion.

4. CHANGES IN THE DEFINITIONS AND EXPLANATIONS WHICH GOT LOST IN TRANSITION

4.1. Definition of a 'start-up company'

The definition under the FDI Policy is updated to imply that a 'start-up company' would mean a private company incorporated under the Companies Act, 2013 and identified under G.S.R. 127(E) dated February 19, 2019 issued by the DPIIT. However, the definition under the NDI Rules continues to refer to the older definition as per the notification issued by the department of industrial policy and promotion (the "DIPP") in 2016. At the same time, Schedule VII of the NDI Rules in relation to foreign venture capital investors, refers to a 'start-up company' as per the notification issued by the department of industrial policy and promotion in 2018.

4.2. Definition of an 'e-commerce entity'

While the NDI Rules have revised the definition of an 'e-commerce entity' wherein e-commerce business can now only be undertaken by a company incorporated or existing under the Companies Act, 2013 or the Companies Act 1956. The FDI Policy seems to have reverted to previous provision, whereby an e-commerce entity has been to defined to include "a company incorporated under the Companies Act 1956 or the Companies Act 2013 or a foreign company covered under section 2 (42) of the Companies Act, 2013 or an office, branch or agency in India as provided in section 2 (v) (iii) of FEMA 1999, owned or controlled by a person resident outside India and conducting the e-commerce business. Reference to a foreign company covered under section 2(42) of the Companies Act, 2013 or an office, branch or agency in India owned or controlled by a person resident outside India and conducting the ecommerce business has been dropped under the NDI Rules, but still appears in the FDI Policy. This may lead to the platforms or websites operated by foreign companies in India being questioned.

4.3. Usage of the term 'capital' instead of 'equity instruments' and 'debt instruments'

The FDI Policy uses the term 'capital' instead of the terms 'equity instruments' and 'debt instruments' used under the NDI Rules. In the definition of 'capital', the FDI Policy clarifies that equity shares can be partly paid, and that preference shares and convertible debentures need to be fully paid up. However, the definition of 'equity instruments' under the NDI Rules do mandate that convertible debentures and convertible preference shares need to be fully paid up.

4.4. Definition of an 'investment vehicle'

An 'investment vehicle' under the FDI Policy is defined to mean "an entity registered and regulated under relevant regulations framed by SEBI or any other authority designated for the purpose and shall include (i)Real Estate Investment Trusts (REITs) governed by the SEBI (REITs) Regulations, 2014, (ii) Infrastructure Investment Trusts (InvIts) governed by the SEBI (InvIts) Regulations, 2014, and (iii) Alternative Investment Funds (AIFs) governed by the SEBI (AIFs) Regulations, 2012". A reference to mutual funds, which invest more than fifty percent in equity, governed by the SEBI (Mutual Funds) Regulations, 1996, as entities qualifying as investment vehicle, which was included through the NDI Rules, has been omitted by the FDI Policy

4.5. Transfers

Under the NDI Rules a clarification has been introduced to stipulate that in case of a transfer of equity instruments held by a non-resident on a non-repatriation basis, to someone who wants to hold it on a repatriation basis, the transferee will have to comply with the requirements of pricing, and sectoral caps, among others. While the intention of such inclusion in the NDI Rules was more clarificatory in nature, FDI Policy does not provide for such a clarification

5. THE ROLE OF RBI

The NDI Rules, as amended by the Foreign Exchange Management (Non-debt Instruments) (Third Amendment) Rules, 2020 provide that RBI will be the authority which may grant permission under the NDI Rules in relation to investments by NRIs and non residents in a proprietary concerns, association of person, and partnerships, among others, without consultation with the central government. However, the FDI Policy still provides that such investments may be permitted by the RBI only in consultation with the central government. Thus, the position under the FDI Policy runs contrary to the NDI Rules, which may lead to confusion as to the involvement of central government and the authority of RBI in relation to such matters.

6. INDUSLAW VIEW

While the FDI Policy has been issued with the intent to consolidate the extant foreign exchange regulations, including the press notes and circulars, there remains ambiguity as to whether the FDI Policy has achieved such purpose. This is mostly due to discrepancies between the FDI Policy and the NDI Rules.

While the DPIIT (including its predecessor, the DIPP) has been trying to liberalize the sectoral cap for FDI in private security agencies since 2016, the TISPRO nor the NDI Rules were or have been amended to include the liberalized position on this sector. In addition to that the PSAR Act uses a different parameter for granting a license to a private security agency, being that of Indian citizenship. The reason for the government's divergence on the stance in relation to this sector is unclear.

On the other hand, it is also unclear as to where commodities spot exchanges fit in terms of the FDI regime under the FDI Policy, resulting in the sectoral cap for the same under the FDI Policy being in the grey. However, the NDI Rules clearly provide for a 49% cap under the automatic route, listing them under a separate sector, distinct from infrastructure companies in securities market (which include commodity exchanges licensed under the Forward Contracts (Regulation) Act, 1952, for forward contracts).

Further, with the discrepancy in the definition of e-commerce entities, the uncertainty with regard to the fate of foreign companies operating e-commerce platforms in India looms large. It will be beneficial if the government can provide more clarity in relation to the B2B e-commerce sector and how it shall be distinguished from other e-commerce entities and activities.

Lastly, for entities operating in the broadcasting sector, the defence sector or those operating WLAs, the variance under the FDI Policy and the NDI Rules with regard to the conditions to be fulfilled for each of them to receive FDI, creates confusion. Such variance may pose challenges if such entities are questioned on whether the conditions stipulated in the FDI Policy are being fulfilled by them. The position needs to be aligned under the NDI Rules and the FDI Policy to make the conditions to receive FDI, as applicable to each such sector, unequivocal.

The FDI Policy clearly stipulates that in case of a conflict between any provisions of the FDI Policy and the NDI Rules, the provisions of the NDI Rules prevail. Hence, for each of the above discrepancies, the position under the NDI Rules will take precedence till the NDI Rules are amended. In light of this, the NDI Rules and the FDI Policy definitely require further changes to overcome the existing inconsistencies and ambiguity, and to ensure that the two are aligned in spirit and in form.

On October 28, 2020, the Department for Promotion of Industry and Internal Trade (the "DPIIT"), after a gap of 3 long years, unveiled the consolidated foreign direct investment ("FDI") policy, 2020 (the "FDI Policy"). The FDI policy has been made effective from October 15, 2020.

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