Govt amends FDI rules to prevent hostile takeover of Indian firms during Covid-19

Govt amends FDI rules to prevent hostile takeover of Indian firms during Covid-19
Photo Credit: VCCircle
20 Apr, 2020

The government amended the Foreign Direct Investment (FDI) policy on Saturday to “curb opportunistic takeover and acquisition of Indian companies due to the current Covid-19 pandemic”. 

The move aims to prevent investments under the automatic route from entities that belong to countries that share a border with India, according to a note issued on April 17 by the Department for Promotion of Industry and Internal Trade (DPIIT). 

However, the note will come into effect only once the Foreign Exchange Management Act notification is issued.

As per the new rules, entities with ‘beneficial ownership’ from bordering nations must seek government approval before an FDI investment is made. Earlier, entities from bordering countries other than Pakistan and Bangladesh could make investments under the automatic route in any sector, with some exceptions, such as defence, space and atomic energy. 

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The restrictions that were earlier applicable only to Pakistan and Bangladesh-based entities have now been extended to other countries too, particularly China. The country accounted for $3.9 billion in venture capital investments in Indian startups in 2019 alone, according to a report by private equity database provider Venture Intelligence. 

China criticised the policy on Monday, saying that the new norms violate the World Trade Oraganization’s principle of non-discrimination and are against the general trend of free trade, according to multiple media reports.

Multiple startups in the Indian ecosystem count Chinese multinationals or venture capital firms as investors. The extent to which the new rules will be applied to existing investors is unclear, according to Vaibhav Kakkar, partner for mergers and acquisitions at law firm L&L Partners. 

“There is clarity needed on what happens in the scenario when a startup raises capital from existing investors or makes a downstream investment or acquisition in other Indian companies. Further, many Chinese investors invest through Special Purpose Vehicles (SPVs) in tax friendly regions of Singapore or Malaysia. It is not clear at what percentage holding in the SPV will the Chinese investment entity (be) considered a ‘beneficial owner’,” Kakkar told TechCircle. 

The law in the past showed Hong Kong and mainland China as separate administrative regions, while the current notification requires clarity, he said. Kakkar pointed out that the government had not made known its intention for Chinese investors investing in the Indian stock markets through the Foreign portfolio Investment (FPI) route. 

The announcement comes after the Integrated Association of Micro, Small and Medium Enterprises of India, an industry body, wrote to the Prime Minister’s Office on April 12, stating that they feared hostile takeover by Chinese investors. They sought the enactment of government laws to protect weaker industries, on the lines of Germany and Australia.