OVERSEAS DIRECT INVESTMENT AND INDIAN ECONOMY
Manasi Gudhate
Practicing Company Secretaries and Insolvency Professionals in Pune. Certified CSR professional. NCLT practitioner.
INTRODUCTION:
???????????As we all know that our country practically began its liberalization in the year 1990-91 which was initiated following a balance of payments crisis.?The ‘globalization’ regime for India started from then which had a strong commitment to a development strategy of ‘self-reliance’ and import-substitution industrialization based on massive public investments in long-term capital-intensive projects.?Internationalization is a product of globalization. The process of globalization brought about changes, such as liberalization and privatization, in the former centrally planned economies, which rapidly enhanced internationalization process in the world. As India has steered its economic policies towards increased participation in the global economy, a range of political, ideological and economic parameters have been modified. Globalization has had a significant and nearly instantaneous impact on India as a whole.?
???????????In India, like in many transitioning economies, the process of internationalization has been determined by the incremental changes in both regulatory and policy frameworks, particularly post economic reforms, which facilitated the expansion of emerging multinational enterprises (EMNEs).?Until the liberalization of 1991, India was largely and intentionally isolated from the world markets, to protect its fledgling economy and to achieve self-reliance. Foreign trade was subject to import tariffs, export taxes and quantitative restrictions, while?foreign direct investment?was restricted by upper-limit equity participation, restrictions on technology transfer, export obligations and government approvals. After liberalization, India relinquished its inward-looking strategy and embarked on liberalization process. One of the basic objectives of reform process was to incrementally integrate the Indian economy with the world.?India’s Foreign Trade Policy (FTP) has attempted to adopt policies to augment India’s economy; sustain its economic growth; and to enhance internationalization process by increasing India’s percentage share of global merchandise trade, employment generation and investments. The reduction of export subsidies and import barriers enabled free trade that made the untapped Indian market incredibly attractive to the international community.?For international companies, the globalization of India presented an unprecedented opportunity for growth and expansion.
???????????The EXIM Policy of 1992 substantially eliminated licensing and discretionary controls on trade and provided impetus to exports. During this period, steps were also taken to promote FDI which included raising the limit of foreign equity holdings from 40 per cent to 51 per cent in priority sectors and establishment of Foreign Investment Promotion Board (FIPB).?Similarly, the ‘automatic route’ of overseas investments was introduced in 1992 and a single window clearance mechanism was put in place by transferring the approvals for ODI from Ministry of Commerce to Reserve Bank of India in 1995.
???????????As the third-largest economy in the world in PPP (Purchasing Power Parity) terms, India is a preferred destination for Foreign Direct Investment (FDI);?India has strengths in information technology and other significant areas such as auto components, chemicals, apparels, pharmaceuticals, and jewellery. Despite a surge in foreign investments, rigid FDI policies resulted in a significant hindrance. However, due to some positive economic reforms aimed at deregulating the economy and stimulating foreign investment, India has positioned itself as one of the front-runners of the rapidly growing Asia-Pacific region.?
???????????Since the beginning of globalization in India, the patterns have not only changed in terms of magnitude but also in terms of geographical spread and sectoral composition, facilitated by policy changes.?The well reformed ODI policies in India have always encourage a sense of confidence among Indian companies to invest outside India.?The intention of this report is to make summarized study of those ODI policy reforms in India and their impact on Indian Economy.
Overseas Direct Investment (ODI) and Foreign Direct Investment (FDI) – meaning and difference:
Basically, there are two ways a country can grow its economy –
1.?????To approach domestic sources,
2.?????To approach international sources.
To explore and make the maximum utilization of the domestic sources includes increased agricultural productivity, productive industrialization etc. However, there are ways a country can get capital through international sources i.e. FDI (Foreign Direct Investment), FPI (Foreign Portfolio Investment), ODI (Overseas Direct Investment), ECB (External Commercial Borrowings) etc.
Foreign Direct Investment (FDI) is a cross-border investment, where a firm located in one country invests in a business or corporation in another country, to establish a lasting interest.?For example, Japanese automaker Honda set up a manufacturing plant in India in an FDI in India.
On the other hand, Overseas?Direct?Investment or ODI is an investment made outside India in a Joint Venture (JV) or Wholly Owned Subsidiary (WOS) either under Automatic Route or Approval Route. The investment is made by contribution to capital, subscription to memorandum of a foreign company, or acquisition of existing shares of a foreign entity by market purchase, private placement or stock exchange.?For example, Indian Company, Tata Steel making investment in its wholly owned subsidiary in Singapore.
Basic difference between FDI and ODI can be elaborated further as follows –
1.?????FDI brings in?net inflows by non-resident investors into India, whereas an ODI will result in a net outflow by Indian residents to external economies.
2.?????Basic motive of FDI is expansion of business in India.?Whereas, basic motive of ODI is generating returns for the Indian investor.
3.?????FDI leads to transfer of technology, funds and also resources to the foreign country.?Whereas ODI leads to capital inflow to the foreign countries.
4.?????FDI is the inward Direct investment made by nonresident investors in the reporting economy and ODI is the outward direct investment made by the residents of the reporting economy to external economies.?
??Both FDI and ODI allow investments either under the automatic route or through the approval route. ??
??The regulatory authority in both the cases is Reserve Bank of India.
??In both the cases, reporting is to be done through authorized dealer Bank.
??Both are the forms of direct investments.
Many Indian companies have taken advantage of the liberalized policy environment to sharpen their entrepreneurial abilities and face competition in global market. Exports from India have been growing for the last several years, and concurrently there has been a very strong trend of outward foreign direct investment (ODI) and international merger and acquisition (M&A) activity by Indian companies.?It can be said that ODI is nothing but a outward FDI or a direct investment outside India.
ODI – Act, Rules and Regulations in India:
???????????Clause (a) of sub-section (3) of section 6 of the Foreign Exchange Management Act, 1999, states that the RBI has power to prohibit, ristrict or regulate the transfer or issue of any foreign security by a person resident in India.?Accordingly Reserve Bank of India has issued a Notification No. FEMA.120/RB-2004 dated July 7, 2004 viz. Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004.?The Notification seeks to regulate acquisition and transfer of a foreign security by a person resident in India i.e. investment by Indian entities in overseas joint ventures and wholly owned subsidiaries as also investment by a person resident in India in shares and securities issued outside India. These Regulations are amended from time to time to incorporate the changes in the regulatory framework and published through amendment notifications.
???????????Basically ODI reffers to a ‘direct investment outside India’ by way of –
??Contribution to the capital
??Subscription to the Memorandum of Association of a Foreign Entity
??Purchase of existion shares of a foreign entity either by –
o??Market purchase; or
o??Private placement; or
o??Through stock exchange.
??It excludes portfolio investments
Direct Investment by Residents in Joint Venture (JV)/ Wholly Owned Subsidiary (WOS) Abroad:
???????????Overseas investment (or financial commitment) in Joint Ventures (JV) and Wholly Owned Subsidiaries (WOS) are considered as the important avenues for promoting global business by Indian entrepreneurs. Joint Ventures are perceived as a medium of economic and business co-operation between India and other countries.?The mejor advantages of the overseas investments for the Indian economy includes-
??Transfer of technology and skills between the countries
??Sharing of results of Research & Development with other countries
??Access to wider global market
??Promotion of brand image for the Indian besinesses
??Generation of employment in India
??Utilization of raw materials available in India and in the host country
??Increase of foreign trade through increased exports of plant and machinery and goods and services from India
??Creation of source of foreign exchange earnings by way of dividend earnings, royalty, technical know-how fee and other entitlements on such investments
For successfully availing all the above benefits and to keep with the spirit of liberalization, the RBI has always been progressively relaxing the rules and simplifying the procedures both for current account as well as capital account transactions with respect to the ODI.
Important definitions:
·???????‘Joint Venture’ (JV) refers to a foreign entity formed, registered or incorporated in accordance with the laws and regulations of the host country in which the Indian Party (IP) makes a direct investment.
·???????‘Wholly owned Subsidiary’ (WOS) refers to a foreign entity formed, registered or incorporated in accordance with the laws and regulations of the host country, whose entire capital is held by the Indian party.
·???????‘Indian Party’ (IP) refers to Indian Company, Registered Partnership Firm, Registered LLP
Provided that?: where more than one such entities make an investment in foreign entity, all such companies or bodies or entities shall together constitute the “Indian Party”.
·???????'Financial commitment' means the amount of direct investment by way of?contribution to equity and loan and 50 per cent of the amount of guarantees issued by an Indian party to or on behalf of its overseas Joint Venture Company or Wholly Owned Subsidiary;
·???????‘Net Worth’
For calculation of Net worth (Paid-up capital plus free reserves) of the Indian party, following to be considered:
i.???????????????????Net worth of the Indian Investing company (say A Ltd).
ii.?????????????????Net worth of the Indian Holding company of A Ltd (which holds at least 51% stake of A Ltd.).
iii.???????????????Net worth of the Indian Subsidiary Company of A Ltd (in which A Ltd holds at least 51%).
The above facility is not available to partnership firms. Also partnership firms net worth cannot be taken into account by an incorporated entity.
The holding or subsidiary company has to furnish a letter of disclaimer in favour of the Indian Party.
Overseas Investment (or financial commitment) can be made under two routes viz. (i) Automatic Route and (ii) Approval Route.?This can be explained with help of following chart:
General permissions and prohibitions under RBI regulations for the Overseas Direct Investment:
1.?????No Indian party shall make any direct investment in a foreign entity engaged in real estate business or banking business.
2.?????Indian Party (IP) may make direct investment in JV/ WOS outside India subject to the condition that –
?????????i.??The total financial commitment of the Indian party in Joint Ventures/Wholly Owned Subsidiaries shall not exceed 100% of the net worth of the Indian Party as on the date of the last audited balance sheet;
?????????ii.????JV or WOS should be engaged in a bonafide business activity.
?????????iii.????The IP is not on the Reserve Bank’s Exporters caution list /list of defaulters to the banking system?
?????????iv.????The IP has submitted up to date returns in form APR in respect of all its overseas investments
?????????v.?????The IP routes all transactions relating to the investment in a JV/ WOS through only one branch of an authorized dealer to be designated by it.
?????????vi.????The IP should submit Form ODA, duly completed, to the designated branch of an authorized dealer.
3.?????Investment under this Regulation may be funded out of one or more of the following sources –
a.??????out of balance held in the Exchange Earners' Foreign Currency account of the Indian party maintained with an authorized dealer.
b.?????drawl of foreign exchange from an authorized dealer in India not exceeding 100 % of the net worth of the Indian Party as on the date of last audited balance sheet.
4.?????The IP may extend a loan or a guarantee to or on behalf of the JV/ WOS abroad, within the permissible financial commitment, provided that the IP has made investment by way of contribution to the equity capital of the Joint Venture.
5.?????An IP may make direct investment without any limit in any foreign security out of the proceeds of its international offering of shares through the mechanism of ADR and/or GDR:
Provided that -
(a)???the ADR/GDR issue has been made 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 thereunder from time to time by the Central Government;
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(b)??the Indian Party files with the designated authorised dealer in form ODA full details of the investment proposed.
6.?????The valuation of shares of an existing company outside India shall be made by –
Procedure of making ODI:
For ODI under Automatic Route:
For the ODI which is covered under the Automatic Route, an Indian Party does not require any prior approval from the Reserve Bank for making investments in a JV/ WOS abroad.?Indian Parties / Resident Individuals are required to follow below mentioned procedure for ODI in WOS/JV:
A.???Filing of Form ODI Part I duly certified by the Statutory Auditor.?
Certification from Statutory Auditor is not required in case of Resident Individual (RI).
The said Form should be accompanied with Form A2 of respective AD Bank.
The Form contains details of the JV/WOS, Indian Parties/ Resident Individuals and the remittance/ other financial commitment of the overseas entity.
B.????Valuation Report of JV/WOS is not required in case of ODI in new JV/WOS. However, AD Bank may ask for Valuation Report of subsequent investment or in case of investment in existing foreign entity.
C.????Form ODI shall be submitted at the time of –
a.??????Initial remittance
b.?????Reporting the remittance for supplementary investment and any other forms of financial commitment.
D.???Subsequent remittances (or financial commitment) under the automatic route and remittances (or financial commitment) under the approval route should be made, only after receipt of auto generated e-mail from RBI confirming the UIN.
For ODI under Approval Route: ?
Once the proposal is approved by the RBI, the Applicant can proceed for making the actual ODI investment through its designated AD Bank.?After the investment is done, IP has to file two forms with RBI every year of ODI:
1.?????Foreign Assets and Liabilities (FLA) on or before July 15 for ODI of preceding financial year;
2.?????Annual Performance Report (APR) in form ODI Part II on or before 31st December for ODI of preceding financial year through AD Bank.
??RIs are required to file APR every year as per point 2 above. They are not required to file FLA.
??IPs are required to submit Share Certificates of its investment with designated AD Bank within 6 months of investment.
Reserve bank will allot a unique Identification Number (UIN) for each JV or WOS outside India and the IP shall quote such number in all its communications and reports to the Reserve Bank and the authorized dealer as per Regulation 10 of the Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004.
Disinvestment of ODI from JV/ WOS and other provisions:
The IP can make a disinvestment of ODI from the JV/ WOS by any of the following ways –
1.?????By transfer of shares to non-resident / resident
2.?????By way of liquidation / merger / amalgamation of JV / WOS abroad.
With respect to disinvestment of ODI, two important possibilities are required to be considered – ?
After disinvestment is done, the IPs are required to submit Form ODI Part 3 with AD Bank within 30 days of remittance along with following:
1.?????Proof of disinvestment;
2.?????Proof of remittance;
3.?????Share Valuation Report
4.?????Other documents as may be insisted by AD Bank.
ODI by capitalization:
Regulation 11 provides that an Indian Party may make direct investment outside India by way of capitalization in full or part of the amount due to the IP from the foreign entity towards: -
i.???payment for export of plant, machinery, equipment and other goods/software to the foreign entity;
ii.??fees, royalties, commissions or other entitlements due to the Indian Party from the foreign entity for the supply of technical know-how, consultancy, managerial or other services
Provided that where the export proceeds have remained unrealized beyond a period of six months from the date of export, and fees, royalties, commissions or other entitlements of the Indian party have remained unrealized from the date on which such payment is due, such proceeds shall not be capitalized without the prior permission of the Reserve Bank.
An Indian Software exporter may receive in the form of shares upto 25% of the value of exports to an overseas software start up company without entering into JV agreement by filing an application with the Reserve Bank through the AD.
Export of goods towards Equity:
Regulation 12 provides that an IP exporting goods/ software/ plant and machinery from India towards equity contribution in a JV or WOS outside India shall declare it on GR/ SDF/ SOFTEX form, as the case may be, which shall be superscribed as 'Exports against equity participation in the JV/WOS abroad', and also quoting Identification Number, if already allotted by Reserve Bank.
Post investment changes/additional investment in existing JV/WOS:
???????????Regulation 13 allows the JV/WOS setup by the IP diversify its activities/ set up step down subsidiary/ alter the shareholding pattern in the overseas entity provided –
??IP should report to RBI the details of such decisions taken by the JV/WOS within 30 days of the approval of those decisions by the competent authority concerned of such JV/WOS in terms of local laws of the host country.
??include the same in the Annual Performance Report required to be forwarded annually to the Reserve Bank in terms of Regulation 15.
Pledge of Shares of Joint Ventures and Wholly Owned Subsidiaries:
An IP may transfer, by way of pledge, shares held in a JV or WOS outside India as a security for availing of fund based or non-fund based facilities for itself or for the JV or WOS from an authorized dealer or a public financial institution in India.
Current position of India in ODI and concluding remarks:
The Overseas Direct Investments from India have undergone a considerable change, not only in terms of magnitude but also in terms of geographical spread and sectoral composition. Analysis of the trends in direct investment over the last decade reveals that while investment flows, both inward and outward, were relatively muted during the early part of the decade due to pendemic, they gained momentum during the latter half.
Indian firms invest in foreign shores primarily through mergers and acquisitions (M&A). With rising M&A activity, companies will get direct access to newer and more extensive markets and better technologies, which would enable them to increase their customer base and achieve a global reach.
The data of ODI *[i]
·????????As per RBI’s (Reserve Bank of India) data, in June 2022, India Inc.’s overseas direct investment stood at US$ 1410.1 million; of the total investments, loans accounted for US$ 49.55 million, equity capital accounted for US$ 351.11 million, and issuance of guarantees stood at US$ 562.45 million.
·????????The critical investments in April 2022 are as follows:
The component wise breakup of the ODI from India From April 2020 to June 2022 can be graphically represented as follows: ***[ii]
(Figures in UD$ mn)
SUMMARY OF REPATRIATION (INFLOW) FROM JV/WOS SINCE F.Y. 2020-21 CAN BE GRAPHICALLY ANALYSED AS FOLLOWS:
(Figures in UD$ mn)
Concluding remarks:
???????????Overseas Direct Investment is one of the foremost steps to enter into global marketplace. ?In recent times, India has taken various vital steps to mark its presence in global market.?The investment outlook in some of the overseas markets looks positive.?For instance, the Indian industry is projected to increase revenue from Africa.?IT services, infrastructure, agriculture, pharmaceuticals and consumer goods are vital to India boosting Africa revenue to US$ 160 billion by 2025, as per McKinsey & Co.
???????????According to the UK government’s new data published in June 2021, India has maintained its spot as the second-largest source of foreign direct investment (FDI) projects for the UK. Indian businesses have invested in ~99 projects in the UK and generated > 4,800 jobs.
???????????Further, the Ministry of External Affairs has initiated a move to set up a direct sea, and air link between India and the Latin American region as Indian corporate plan significant investments in the mining, oil, IT and pharmaceutical sectors in that region.
???????????Overseas investment by Indian companies is expected to increase, backed by stable market conditions and the considerable impact of the investment on local economies.
Thank you.
ENDNOTES:
[i] Data obtained from the RBI Website Foreign Exchange Department, Overseas Investment Division, Central Office.
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