Editorial Today – The Centre’s big reform push

Issue The government has announced a “radical liberalisation” of the Foreign Direct Investment (FDI) regime.

Why is it done now? With India now acknowledged as the fastest growing large economy in the world and also edging up in the World Bank’s ease of doing business rankings, the time is ripe for the country to open its doors wider to Foreign Direct Investment (FDI).

Factors on which investment depend It is simplistic to assume that merely opening up more sectors or setting more liberal equity caps will have foreign investors queuing up to invest.

What is sourcing norms for FDI? Single-brand retailing require the sourcing of 30 per cent of the value of goods from India.

Effect of this relaxation? Paved the way for Apple Stores.

FDI in civil aviation The government allowed 100 % FDI in aviation sector under automatic route in Greenfield Projects and 74% FDI in Brownfield Projects under automatic route.

What is Greenfield and brownfield project? Green-field and brown-field projects are two different types of foreign direct investments.

FDI in Defence Sector The government decision to liberalise conditions allowing 100 per cent FDI in the defence sector may result in at least some foreign entities setting up subsidiaries in India.

FDI in Pharmaceutical sector The extant FDI policy on pharmaceutical sector provides for 100 per cent FDI under automatic route in greenfield pharma.

Note Why in FDI we always see numbers like 26%, 49%, 51% and 74%; and not other numbers.

Issue

• The government has announced a “radical liberalisation” of the Foreign Direct Investment (FDI) regime by easing norms for a host of important sectors, including defence, civil aviation and pharmaceuticals, opening them up for complete foreign ownership.

Why is it  done now?

• With India now acknowledged as the fastest growing large economy in the world and also edging up in the World Bank’s ease of doing business rankings, the time is ripe for the country to open its doors wider to Foreign Direct Investment (FDI).
• Moreover at a time when the private sector has a limited appetite to invest and when the government is tied down by fiscal constraints, India needs to seek out foreign capital to keep its growth engines purring.

Factors on which investment depend

• It is simplistic to assume that merely opening up more sectors or setting more liberal equity caps will have foreign investors queuing up to invest.
• India’s experience suggests that actual investment interest in the newly liberalised sectors will be tied to three factors.
• One, foreign investors, like domestic ones, are ROI (Return on Investment) focussed. Therefore, sectors that are already witnessing booming consumer demand — such as DTH television, airlines and pharmaceuticals — are more likely to attract quick investment flows than those that are in need of bailouts (asset reconstruction firms) or entail long gestation periods (airports or defence).
• Two, even if the Centre is willing to reduce initial entry barriers, frequent market or pricing interventions can deter investors. The Centre seems to have recognised this in watering down the sourcing norms for FDI in single-brand retail. But its attempts to woo FDI into pharma may be stymied by increasing price controls and the lack of clarity in the policy on essential drugs.
• Three, the experience with sectors such as insurance suggests that foreign investors committing long-term capital expect to exercise control over the entities they fund.

What is sourcing norms for FDI?

• According to earlier Foreign Direct Investment rules, proposals involving FDI beyond 51 per cent in single-brand retailing require the sourcing of 30 per cent of the value of goods from India, preferably from MSMEs, village and cottage industries, artisans and craftsmen, in all sectors.
• Government has now been decided to relax local sourcing norms up to three years and a relaxed sourcing regime for another five years for entities undertaking Single Brand Retail Trading of products having ‘state-of-art’ and ‘cutting edge’ technology.

Effect of this relaxation?

• The government decision to relax local sourcing norms for foreign brands keen to open own stores in the country has almost paved the way for Apple Stores as companies with ‘cutting-edge’ technology can possibly avoid local sourcing for up to eight years.
• The Cupertino, California-based maker of iPhones and Mac computers is now looking to initiate talks with the government and put up details of its technologies and patents it holds to show it’s a maker of cutting-edge technology product .
• The move will also benefit Chinese tech honchos like Xiaomi and LeEco, that have been vying to open their own exclusive stores in the country.

FDI in civil aviation

• The government allowed 100 % FDI in aviation sector under automatic route in Greenfield Projects and 74% FDI in Brownfield Projects under automatic route.
• As per the present FDI policy, foreign investment up to 49% is allowed under automatic route in Scheduled Air Transport Service/ Domestic Scheduled Passenger Airline and regional Air Transport Service. It has now been decided to raise this limit to 100%, with FDI up to 49% permitted under automatic route and FDI beyond 49% through Government approval.
• However, foreign airlines would continue to be allowed to invest in capital of Indian companies operating scheduled and non-scheduled air-transport services up to the limit of 49% of their paid up capital and subject to the laid down conditions in the existing policy.
• To give a fillip to airport modernisation, 100 per cent FDI will be allowed for existing airports under the automatic route. Currently, while this is allowed for greenfield airport projects, FDI beyond 74 per cent in existing airports requires government approval.
• Experts said that with this move, foreign carriers would no longer have to look for an Indian partner to set up a domestic airline and could join hands with private investors abroad. Because though equity holding of foreign airlines is still limited to 49 per cent, a foreign airline can join hands with its sovereign fund or private investors and set up a 100 per cent foreign-owned airline in India.

What is Greenfield and brownfield project?

• Green-field and brown-field projects are two different types of foreign direct investments, or FDI. Green-field projects occur when a parent entity begins a new venture by constructing new facilities in a country outside their headquartered country.
• Brown-field projects occur when an entity purchases an existing facility.

FDI in Defence Sector

• The government decision to liberalise conditions allowing 100 per cent FDI in the defence sector may result in at least some foreign entities setting up subsidiaries in India.
• The government on Monday removed the condition of “state-of-the-art” technology for permitting 100 per cent FDI in the defence sector because state-of-the-art technology is a very vague term. The new condition is that the companies wanting to invest 100 per cent FDI and open a subsidiary needs to bring in only “modern” technology.
• Government was getting proposals in the defence sector. But everybody was troubled by the clause ‘state-of-art’. This was affecting the ease of doing business; therefore  the terminology has been changed
• The new rule is 49 per cent FDI in defence under the automatic route. Foreign investment beyond that would be permitted through government approval route in cases resulting in “modern” technology.
• The FDI limit for the defence sector has been made applicable to manufacturing of small arms and ammunition covered under the Arms Act, 1959.

FDI in Pharmaceutical sector

• The extant FDI policy on pharmaceutical sector provides for 100 per cent FDI under automatic route in greenfield pharma and FDI up to 100 per cent under government approval in brownfield pharma. With the objective of promoting the development of this sector, it has been decided to permit up to 74 per cent FDI under automatic route in brownfield pharmaceuticals and government approval route beyond 74 per cent will continue.

Note

Why in FDI we always see numbers like 26%, 49%, 51% and 74%; and not other numbers

• When a company is started memorandum of association is formed which can be called the constitution of the company.
• For day to day decision making 51 per cent holding is required and to make any changes in memorandum of association 75 per cent holding is required.
• Government allows atleast 26 per cent FDI in any sector to give assurance to foreign companies that without their support memorandum of association of company will not be changed with which they have tie up. Because as they have 26 per cent share holding, 75 per cent support for changing memorandum will not be possible without them.
• When 49 per cent FDI is allowed then it ensures that day to day functioning control will be with the Indian company as it would have 51 per cent share.
• 51 per cent is allowed to give assurance to the foreign companies that day to day functioning control will be with them only.
• When 74 per cent is allowed it means the local company is assured that memorandum will not be changed without their support.