On April 17, 2020 the Ministry of Commerce, acting through the Department for Promotion of Industry and Internal Trade issued a Press Note or PN 3 of 2020 through which it aims to curb “opportunistic takeovers/acquisitions of Indian companies” on account of COVID-19. Currently, foreign companies can invest in India through the “automatic” or “government” routes. The former does not require any prior investment approval while the latter does. Apart from other applicable conditions, of course, the investment has to be in sectors where foreign participation is permissible, and not prohibited. Even at present, organization and individuals from Bangladesh and Pakistan can invest only after securing prior government approval and, in addition, Pakistan cannot invest in atomic energy, defense, space and, of course, all other sectors where foreign investment is not permissible. Pursuant to the aforesaid PN, the revised position is as follows:
A. A non-resident entity can invest in India in accordance with the FDI policy in permissible sectors. But, if an investing entity belongs to a country which shares its land border with India or where the beneficial owner of an investment into India is situated in or is a citizen of any such country, then the investment is possible with prior government approval. The position of investments from citizens or entities of Pakistan remains the same, as outlined above.
B. If there will be a direct or indirect transfer of ownership of any existing or even future foreign investment in an Indian entity, the result of which will lead to change in beneficial ownership to an entity which comes from a country which shares its land border with India, then such change in beneficial ownership is only possible after it is approved by the Indian government.
A corresponding notification has to be issued under the Foreign Exchange Management Act, the date of which shall be the effective date of the revisions.
This notification is not to be treated lightly. While there is no clear reference to China (unlike the specific references to Bangladesh and Pakistan in the earlier regime) within the body of the PN, the objective is clear viz., to control, monitor, regulate activities of Chinese investments and to ensure they do not embed themselves in India through back-doors and buy distressed companies potentially impacted by COVID-19. Companies Act defines “beneficial interest” in a share as including, directly or indirectly, through any contract, arrangement or otherwise, the right or entitlement of a person alone or with any another to exercise or cause to be exercised any or all of the rights attached to such share; or receive or participate in any dividend or other distribution in respect of such share. In 2019, with the goal to prevent misuse of corporate vehicles for tax evasion and money-laundering, the government made it mandatory for every individual who became a significant beneficial owner to disclose this fact under the corresponding rules. With this PN, it is unclear if the definition of beneficial ownership will need further amendments or will it suffice. It is also crucial to review existing investments agreements and evaluate the possible impact, if relevant in the context of the agreement. For instance, (a) call and put options, to be exercised by foreign and Indian investors respectively and how it will impact exits; (b) preemptive rights of foreign investors where the organizational thinking may require transfer of shareholding to Chinese companies to keep investments in APAC region; (c) rights issues, where shareholders subscribe only to maintain their shareholding; (d) the effect where investments are routed through vehicles formed in tax efficient jurisdictions like Singapore or even Hong Kong, both of which are APAC hubs for many global corporations; (e) downstream investments by Indian companies with Chinese shareholding, if any.
The need to prevent hostile takeovers by a specific country is understandable, but the language of the PN creates more uncertainty which can be detrimental when the move has the potential of far-reaching repercussions. If the intended result is to secure prior approval for investments and ownership transfer involving bordering nations, what stopped the specific insertion of China, as is the current case with Bangladesh and Pakistan? Hopefully, FEMA notification will be more detailed and clarify further. A quid pro quo action could be a different treatment towards existing Indian investments in China. In times to come, it remains to be seen if PN3 remain a protectionist or a geopolitical move.