VIVEK COLLEGE OF COMMERCE CHAPTER-1: INTRODUCTION The last two decade of the 20th century witnessed a dramatic world

-wide increase in foreign direct investment (FDI), accompanied by a marked change in the attitude of most developing countries towards inward FDI. As against a highly suspicious attitude of these countries towards inward FDI in the past, most countries now regard FDI as beneficial for their development efforts and compete with each other to attract it. Such shift in attitude lies in the changes in political and economic systems that have occurred during the closing years of the last century. The wave of liberalisation and globalization sweeping across the world has opened many national markets for international business. Global private investment, in most part, is now made by multinational corporations (MNCs). Clearly these corporations play a major role in world trade and investments because of their demonstrated management skills, technology, financial resources and related advantages. Recent developments in global markets are indicative of the rapidly growing international business. The end of the 20th century has already marked a tremendous growth in international investments, trade and financial transactions along with the integration and openness of international markets. FDI is a subject of topical interest. Countries of the world, particularly developing economies, are vying with each other to attract foreign capital to Foreign Direct Investment in India Page | 1

VIVEK COLLEGE OF COMMERCE boost their domestic rates of investment and also to acquire new technology and managerial skills. Intense competition is taking place among the fundstarved less developed countries to lure foreign investors by offering repatriation facilities, tax concessions and other incentives. However, FDI is not an unmixed blessing. Governments in developing countries have to be very careful while deciding the magnitude, pattern and conditions of private foreign investment. In the 1980s, FDI was concentrated within the Triad (EU, Japan and US). However, in the 1990s, the FDI flows to developed countries declined, while those to developing countries increased in response to rapid growth and fewer restrictions. Most FDI flows continue still to be concentrated in 10 to 15 host countries overwhelmingly in Asia and Latin America. South, East and Southeast Asia has experienced the fastest economic growth in the world, and emerged as the largest host region. China is now the largest host country in the developing world. However, small markets with low growth rates, poor infrastructure, and high indebtedness, slow progress in introducing market and private-sector oriented economic reforms and low levels of technological capabilities are not attractive to foreign investors. The remarkable expansion of FDI flows to developing countries had belied the fear that the opening of central and Eastern Europe and the efforts of the countries of that region to attract such investment would divert investment Foreign Direct Investment in India Page | 2

VIVEK COLLEGE OF COMMERCE flows from developing countries. The most important factors making developing countries attractive to foreign investors are rapid economic growth, privatization programmes open to foreign investors and the liberalisation of the FDI regulatory framework. In India, prior to economic reforms initiated in1991, FDI was discouraged by • Imposing severe limits on equity holdings by foreigners and • Restricting FDI to the production of only a few reserved items. The Foreign Exchange Regulation Act (FERA), 1973 (now replaced by Foreign Exchange Management Act [FEMA]), prescribed the detailed rules in this regard and the firms belonging to this group were known as FERA firms. All foreign investors were virtually driven out from Indian industries by FERA. Technology transfer was possible only through the purchase of foreign technology. However, due to severe limits on royalty payments to foreigners to reduce foreign exchange use, this option was ineffective. However, the government granted liberal tax incentives to encourage indigenous generation of technology by domestic firms. In the absence of foreign technology, Indian industry suffered both in terms of cost of production and quality. The initial policy stimulus to foreign direct investment in India came in July 1991 when the new industrial policy provided, inter alia, automatic approval for project with foreign equity participation up to 51 percent in high priority Foreign Direct Investment in India Page | 3

VIVEK COLLEGE OF COMMERCE areas. In recent years, the government has initiated the second generation reforms under which measures have been taken to further facilitate and broaden the base of foreign direct investment in India. The policy for FDI allows freedom of location, choice of technology, repatriation of capital and dividends. As a result of these measures, there has been a strong surge of international interest in the Indian economy. The rate at which FDI inflow has grown during the post-liberalisation period is a clear indication that India is fast emerging as an attractive destination for overseas investors. Encouragement of foreign investment, particularly for FDI, is an integral part of ongoing economic reforms in India. Though India has one of the most transparent and liberal FDI regimes among the developing countries with strong macro-economic fundamentals, its share in FDI inflows is dismally low. The country still suffers from weaknesses and constraints, in terms of policy and regulatory framework, which restricts the inflow of FDI. Foreign investment policies in the post-reforms period have emphasized greater encouragement and mobalisation of non-debt creating private inflows for reducing reliance on debt flows. Progressively liberal policies have led to increasing inflows of foreign investment in the country.

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VIVEK COLLEGE OF COMMERCE CHAPTER-2: WHAT IS FOREIGN DIRECT INVESTMENT? FDI is the process whereby residents of one country (the home country) acquire ownership of assets for the purpose of controlling the production, distribution and other activities of a firm in another country (the host country). IMF Definition According to the BPM5, FDI is the category of international investment that reflects the objective of obtaining a lasting interest by a resident entity in one economy in an enterprise resident in another economy. The lasting interest implies the existence of a long-term relationship between the direct investor and the enterprise and a significant degree of influence by the investor on the management of the enterprise. UNCTAD Definition The WIR02 defines FDI as ‘an investment involving a long-term relationship and reflecting a lasting interest and control by a resident entity in one economy (foreign direct investor or parent enterprise) in an enterprise resident in an economy other than that of the FDI enterprise, affiliate enterprise or foreign affiliate. FDI implies that the investor exerts a significant degree of influence on the management of the enterprise resident in the other economy. Such investment involves both the initial transaction between the two entities and all subsequent transaction between them among Foreign Direct Investment in India Page | 5

VIVEK COLLEGE OF COMMERCE foreign affiliates, both incorporated and unincorporated. Individuals as well as business entities may undertake FDI. Flows of FDI comprise capital provided (either directly or through other related enterprises) by a foreign direct investor to an FDI enterprise, or capital received from an FDI enterprise by a foreign direct investor. FDI has three components, viz., equity capital, reinvested earnings and intracompany loans. • Equity capital is the foreign direct investor’s purchase of share of an enterprise in a country other than its own. • Reinvested earnings comprise the direct investors share (in proportion to direct equity participation) of earnings not distributed as dividends by affiliates, or earnings not remitted to the direct investor. Such retained profits by affiliates are reinvested. • Intra-company loans or intra-company debt transactions refer to short or long term borrowing and lending of funds between direct investors (parent enterprises) and affiliate enterprises. OECD Benchmark Definition of Foreign Direct Investment (Third Edition) FDI reflects the objective of obtaining a lasting interest by a resident entity in one economy (direct investor) in an entity resident in an economy other than that of the investor (direct investment enterprise). The lasting interest implies the existence of a long term relationship between the direct investor Foreign Direct Investment in India Page | 6

VIVEK COLLEGE OF COMMERCE and the enterprise and a significant degree of influence on the management of the enterprise. Direct investment involves both the initial transaction between the two entities and all subsequent capital transactions between them and among affiliated enterprises, both incorporated and unincorporated. As is evident from the above definitions, there is a large degree of commonality between the IMF, UNCTAD and OECD definitions of FDI. The IMF definition is followed internationally.

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VIVEK COLLEGE OF COMMERCE CHAPTER-3: FOREIGN DIRECT INVESTMENT (FDI): THEORITICAL SETTINGS Most of the present day underdeveloped countries of the world have set out a planned programme for accelerating the pace of their economic development. In a country planning for industrialization and aiming to achieve a target rate of growth, there is a need for resources. The resources can be mobilized through domestic as well as foreign sources. So far as, the domestic sources are concerned, they may not be sufficient to acquire the fixed rate of growth. Generally domestic savings are less than the required amount of investment. Also the very process of industrialization calls for import of capital goods which can not be locally produced. Hence comes the need for foreign sources. They not only supplement the domestic savings but also provide the recipient country with extra foreign exchange to buy imports essential for filling the saving investment gap and foreign exchange gap. The means of getting foreign resources available to a developing country are mainly three: 1. Through export of goods and services 2. External aid 3. Foreign investment

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VIVEK COLLEGE OF COMMERCE Export of goods and services do contribute to foreign resources but they can meet only a small part of the total demand for foreign resources. External Aid from foreign governments and international institutions, by increasing the rate of home savings and removing the foreign gap allows the utilization of previously under utilized resources and capacity. But generally the aid is tied and distorts the allocation of resources. So its use has been on the decline. Foreign investment is of following two types. 1. Foreign Direct Investment (FDI) and 2. Portfolio Investment. Foreign Direct versus Portfolio Investment By Foreign Direct Investment (FDI) we mean any investment in a foreign country where the investing party (corporation, firm) retains control over investment. A direct investment typically takes the form of a foreign firm starting a subsidiary or taking over control of an existing firm in the country in question. FDI consists of equity capital, technical and managerial services, capital equipment and intermediate inputs and legal rights to patented or secret products, processes or trade marks. It is the direct type of foreign investment which is associated with multinational corporations because most of FDI is transferred through firms and remains outside of ordinary, functioning markets. Foreign Direct Investment in India Page | 9

VIVEK COLLEGE OF COMMERCE FDI can be done in the following ways 1. In order to participate in the management of the concerned enterprise, the stocks of the existing foreign enterprise can be acquired. 2. The existing enterprise and factories can be taken over. 3. A new subsidiary with 100% ownership can be established abroad. 4. It is possible to participate in a joint venture through stock holdings. 5. New foreign branches, offices and factories can be established. 6. Existing foreign branches and factories can be expanded. 7. Minority stock acquisition, if the objective is to participate in the management of the enterprise. 8. Long term lending, particularly by a parent company to its subsidiary, when the objective is to participate in the management of the enterprise. Portfolio investment, on the other hand, does not seek management control, but is motivated by profit. Portfolio investment occurs when individual investors invest, mostly through stockbrokers, in stocks of foreign companies in foreign land in search of profit opportunities. FDI flows are usually preferred over other forms of external finance because they are non-debt creating, non-volatile and their returns depend on the performance of the projects financed by the investors. FDI also facilitates international trade and transfer of knowledge, skills and technology. In a world of increased competition and rapid technological change, their complimentary and catalytic role can be very valuable.

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VIVEK COLLEGE OF COMMERCE Superiority of FDI over Other Forms of Capital Inflows FDI is perceived superior to other types of capital inflows for several reasons:
1. In contrast to foreign lenders and portfolio investors, foreign direct

investors typically have a longer-term perspective when engaging in a host country. Hence, FDI inflows are less volatile and easier to sustain at times of crisis. 2. While debt inflows may finance consumption rather than investment in the host country, FDI is more likely to be used productively. 3. FDI is expected to have relatively strong effects on economic growth, as FDI provides for more than just capital. FDI offers access to internationally available technologies and management know-how, and may render it easier to penetrate word markets. A recent United Nations report has revealed that FDI flows are less volatile than portfolio flows. To quote, “FDI flows to developing and transition economies in 1998 declined by about 5 percent from the peak in 1997, a modest reduction in relation to the effects on the other capital flows of the spread of the Asian financial crisis to global proportions. FDI flows are generally much less volatile than portfolio flows. The decline was modest in all regions, even in the Asian economies most affected by the financial crisis.” FDI is the appropriate form of external financing for developing countries, which have less capacity than highly developed economies to absorb external shocks. Likewise, the evidence supports the predominant view that Foreign Direct Investment in India Page | 11

VIVEK COLLEGE OF COMMERCE FDI is more stable than other types of capital inflows. Moreover, the volatility of FDI remained exceptionally low in the 1990s, when several emerging economies were hit by financial crisis. FDI is widely considered an essential element for achieving sustainable development. Even former critics of MNCs expect FDI to provide a stronger stimulus to income growth in host countries than other types of capital inflows. Especially after the recent financial crisis in Asia and Latin America, developing countries are strongly advised to rely primarily on FDI, in order to supplement national savings by capital inflows and promote economic development. Macro-economic and Micro-economic Aspects of FDI In judging the significance of FDI, especially from the view point of developing countries, it is useful to make a distinction between macroeconomic and micro-economic effects. The former is connected with issues of domestic capital formation, balance of payments, and taking advantage of external markets for achieving faster growth, while the latter is connected with the issues of cost reduction, product quality improvement, making changes in industrial structure and developing global inter-firm linkages. In this context, it needs to be recognized that FDI is an aggregate entity, the sum total of the investments made by many diverse multinationals, each with its own corporate strategy. The micro-economic effects of the Foreign Direct Investment in India Page | 12

VIVEK COLLEGE OF COMMERCE investment made by one multinational may be quite different from that of another multinational even if the investments are made in the same industry. Also, what benefits the local economy will depend on the capabilities of the host country in regard to technology transfer and industrial restructuring. Resource-seeking and Market-seeking FDI Two major types of FDI are typically differentiated: resource-seeking FDI and market-seeking FDI. Resource-seeking FDI is motivated by the availability of natural resources in the host countries. This type of FDI was historically important and remains a relevant source of FDI for various developing countries. However, on a world-wide scale, the relative importance of resource-seeking FDI has decreased significantly. The relative importance of market-seeking FDI is rather difficult to assess. It is almost impossible to tell whether this type of FDI has already become less important due to economic globalization. Regarding the history of FDI in developing countries, various empirical studies have shown that the size and growth of host country markets were among the most important FDI determinants. It is debatable, however, whether this is still true with ongoing globalization.

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VIVEK COLLEGE OF COMMERCE Globalisation essentially means that geographically dispersed

manufacturing, slicing up the value chain and the combination of markets and resources through FDI and trade are becoming major characteristics of the world economy. Efficiency-seeking FDI, i.e. FDI motivated by creating new sources of competitiveness for firms and strengthening existing ones, may then emerge as the most important type of FDI. Accordingly, the competition for FDI would be based increasingly on cost differences between locations, the quality of infrastructure and business-related services, the ease of doing business and the availability of skills. Obviously, this scenario involves major challenges for developing countries, ranging from human capital formation to the provision of business-related services such as efficient communication and distribution systems. Nature of FDI Almost all modern (FDI) is carried out by corporations rather than individuals. Somewhat like portfolio investment, the flows of FDI have historically been highly concentrated, both in terms of geography and by industry and at both the investor and receptor poles. Geographically, the ownership of global stocks of FDI is highly skewed towards only a few large, high income countries. Each investing country has, whether by accident or design , tended to direct the major part of its FDI to only a very few receiving countries; in fact the pattern of global distribution of FDI have been highly similar to historical relationships based on colonial ties or other forms of political hegemony. Foreign Direct Investment in India Page | 14

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Viewed industrially, for any given country, FDI generally comes from less than four or five out of twenty or so major industry groups and inflows into those same industries in the receptor country. General attribute of FDI is that it has evoked by type over time. Prior to First World War, a crude but valid generalization would that a large part of FDI was in service sector of the host economy (particularly transportation, power, communication and trading) while most of the rest was of the “backward vertical integration” type. During the inter-war period, most of the currently largest manufacturing multinational corporations (MNCs) made their initial foreign investments, but these horizontal or market extension types of investments have now become major category. The fourth recognized characteristic of manufacturing FDI is that it originates in industries that are technologically intensive, “skill oriented” or progressive. In addition, the FDI prone industries are typically more concentrated, have higher advertising outlays per unit of sales and exhibit above average export propensities. Industries from which FDI tends to originate display many characteristics associated with oligopoly. Another universal property of FDI is that it is really a package of complementary inputs, a collective flow of both tangible and intangible assets & services.

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VIVEK COLLEGE OF COMMERCE FDI in Developing Countries FDI is now increasingly recognized as an important contributor to a developing country’s economic performance and international competitiveness. After the debt-crisis that hit the developing world in early 1980s, the conventional wisdom quickly became that it had been unwise for countries to borrow so heavily from international banks or international bond markets. Rather countries should try to attract non-debt-creating private inflows (DFI). The financial advantage is that such capital inflows need not be repaid and that outflow of funds (remittance of profits) would fluctuate with the cycle of the economy. It has also been widely observed that the structural adjustment efforts of the 1980s failed to lead to new patterns of sustained growth in developing countries. In particular, structural adjustment programs failed to restore private investment to desirable levels. Again it is hoped that FDI could play an important role; the World Bank observes that FDI can be an important complement to the adjustment effort, especially in countries having difficulty in increasing domestic savings. Against this background of balance of payments problems and low level of private investment, it is probably not surprising that attitudes in developing countries towards FDI have shifted. In the 1960s and 1970s many countries maintained a rather cautious, and sometimes an outright negative position with respect to FDI. In the 1980s, however the attitudes shifted radically Foreign Direct Investment in India Page | 16

VIVEK COLLEGE OF COMMERCE towards a more welcoming policy stance. This change was not so much due to new research finding on the impact of FDI but to the economic problems facing the developing world. Developing countries are liberalizing their foreign investment regimes and are seeking FDI not only as a source of capital funds and foreign exchange but also as a dynamic and efficient vehicle to secure the much needed industrial technology, managerial expertise and marketing know-how and networks to improve on growth, employment, productivity and export performance. At the global level the flows of FDI and PFI to developing countries have indeed increased. The average net inflow of FDI in developing countries had been US$ 11 billion in 1980-86, but in 1987 it started to increase, by 1991 the annual net inflow had risen to US$ 35 billion and by 2004 to US$ 233 billion. The share of developing economies in total inflow of Foreign Direct Investment in the world has been rising continuously since 1989.

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VIVEK COLLEGE OF COMMERCE CHAPTER-4: ADVANTAGES AND DISADVANTAGES OF FDI FOR THE HOST COUNTRY Advantages of Foreign Direct Investment Foreign Direct Investment has the following potential benefits for less developed countries.
1. Raising the Level of Investment: Foreign investment can fill the gap

between desired investment and locally mobilised savings. Local capital markets are often not well developed. Thus, they cannot meet the capital requirements for large investment projects. Besides, access to the hard currency needed to purchase investment goods not available locally can be difficult. FDI solves both these problems at once as it is a direct source of external capital. It can fill the gap between desired foreign exchange requirements and those derived from net export earnings.
2. Upgradation of Technology: Foreign investment brings with it

technological knowledge while transferring machinery and equipment to developing countries. Production units in developing countries use outdated equipment and techniques that can reduce the productivity of workers and lead to the production of goods of a lower standard.

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3. Improvement in Export Competitiveness: FDI can help the host

country improve its export performance. By raising the level of efficiency and the standards of product quality, FDI makes a positive impact on the host country’s export competitiveness. Further, because of the international linkages of MNCs, FDI provides to the host country better access to foreign markets. Enhanced export possibility contributes to the growth of the host economies by relaxing demand side constraints on growth. This is important for those countries which have a small domestic market and must increase exports vigorously to maintain their tempo of economic growth.
4. Employment

Generation:

Foreign

investment

can

create

employment in the modern sectors of developing countries. Recipients of FDI gain training of employees in the course of operating new enterprises, which contributes to human capital formation in the host country.
5. Benefits to Consumers: Consumers in developing countries stand to

gain from FDI through new products, and improved quality of goods at competitive prices.
6. Resilience Factor: FDI has proved to be resilient during financial

crisis. For instance, in East Asian countries such investment was remarkably stable during the global financial crisis of 1997-98. In sharp contrast, other forms of private capital flows like portfolio equity and Foreign Direct Investment in India Page | 19

VIVEK COLLEGE OF COMMERCE debt flows were subject to large reversals during the same crisis. Similar observations have been made in Latin America in the 1980s and in Mexico in 1994-95. FDI is considered less prone to crises because direct investors typically have a longer-term perspective when engaging in a host country. In addition to risk sharing properties of FDI, it is widely believed that FDI provides a stronger stimulus to economic growth in the host countries than other types of capital inflows. FDI is more than just capital, as it offers access to internationally available technologies and management know-how.
7. Revenue to Government: Profits generated by FDI contribute to

corporate tax revenues in the host country. Disadvantages of Foreign Direct Investment FDI is not an unmixed blessing. Governments in developing countries have to be very careful while deciding the magnitude, pattern and conditions of private foreign investment. Possible adverse implications of foreign investment are the following: 1. When foreign investment is competitive with home investment, profits in domestic industries fall, leading to fall in domestic savings. 2. Contribution of foreign firms to public revenue through corporate taxes is comparatively less because of liberal tax concessions, investment Foreign Direct Investment in India Page | 20

VIVEK COLLEGE OF COMMERCE allowances, disguised public subsidies and tariff protection provided by the host government. 3. Foreign firms reinforce dualistic socio-economic structure and increase income inequalities. They create a small number of highly paid modern sector executives. They divert resources away from priority sectors to the manufacture of sophisticated products for the consumption of the local elite. As they are located in urban areas, they create imbalances between rural and urban opportunities, accelerating flow of rural population to urban areas. 4. Foreign firms stimulate inappropriate consumption patterns through excessive advertising and monopolistic market power. The products made by multinationals for the domestic market are not necessarily low in price and high in quality. Their technology is generally capitalintensive which does not suit the needs of a labour-surplus economy. 5. Foreign firms able to extract sizeable economic and political concessions from competing governments of developing countries. Consequently, private profits of these companies may exceed social benefits. 6. Continual outflow of profits is too large in many cases, putting pressure on foreign exchange reserves. Foreign investors are very particular about profit repatriation facilities. Foreign Direct Investment in India Page | 21

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7. Foreign firms may influence political decisions in developing countries. In view of their large size and power, national sovereignty and control over economic policies may be jeopardized. In extreme cases, foreign firms may bribe public officials at the highest levels to secure undue favours. Similarly, they may contribute to friendly political parties and subvert the political process of the host country. Key question, therefore, is how countries can minimize possible negative effects and maximize positive effects of FDI through appropriate policies.

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CHAPTER-5: DETERMINANTS OF FDI To understand the scale and direction of FDI flows, it is necessary to identify their major determinants. The relative importance of FDI determinants varies not only between countries but also between different types of FDI. Traditionally, the determinants of FDI include the following.
1. Size of the Market: Large developing countries provide substantial

markets where the consumers demand for certain goods far exceed the available supplies. This demand potential is a big draw for many foreign-owned enterprises. In many cases, the establishment of a low cost marketing operation represents the first step by a multinational into the market of the country. This establishes a presence in the market and provides important insights into the ways of doing business and possible opportunities in the country.
2. Political stability: In many countries, the institutions of government are

still evolving and there are unsettled political questions. Companies are unwilling to contribute large amounts of capital into an environment where some of the basics political questions have not yet been resolved.
3. Macro-economic Environment: Instability in the level of prices and

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VIVEK COLLEGE OF COMMERCE planning difficult. This increases the perceived risk of making investments and therefore adversely affects the inflow of FDI.
4. Legal and Regulatory Framework: The transition to a market

economy entails the establishment of a legal and regulatory framework that is compatible with private sector activities and the operation of foreign owned companies. The relevant areas in this field include protection of property rights, ability to repatriate profits, and a free market for currency exchange. It is important that these rules and their administrative procedures are transparent and easily comprehensive.
5. Access to Basic Inputs: Many developing countries have large reserves

of skilled and semi-skilled workers that available for employment at wages significantly lower than in developed countries. This provides an opportunity for foreign firms to make investments in these countries to cater to the export market. Availability of natural resources such as oil and gas, minerals and forestry products also determine the extent of FDI. The determinants of FDI differ among countries and across economic sectors. These factors include the policy framework, economic determinants and the extent of business facilitation such as macro-economic fundamentals and availability of infrastructure.

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VIVEK COLLEGE OF COMMERCE CHAPTER-6: FOREIGN DIRECT INVESTMENT IN INDIA Since independence till 1990, the performance of Indian economy has been dominated by a regime of multiple controls, restrictive regulations and wide ranging state intervention. Industrial economy of the country was protected by the state and insulated from external competition. As a result of which, India was thrown a long way behind the world of rapid expanding technology. The cumulative effect of these policies started becoming more and more pronounced. By the year 1989-90, the situation on the balance of payment and foreign exchange reserves became precarious and the country was driven to the brink of default. The credibility reached the sinking level that no country was willing to advance or lend to India at any cost. In such circumstances, the government quickly followed a liberalized economic policy in July 1991. The main objectives of the liberalized economic policy are two fold. At the country level the reform aims at freeing domestic investors from all the licensing requirements, virtual abolition of MRTP restriction on the investment by large houses, and a competitive industrial structure for Indian companies to achieve a global presence by becoming as competitive as their counterparts worldwide. Secondly, the focus on structural reforms intended to tap foreign investment for economic growth and development.

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VIVEK COLLEGE OF COMMERCE Gradually & systematically the government has taken a series of measures like devaluation of rupee, lowering of import duties and allowing foreign investment upto 51% of the equity in a large number of industries and investment of large foreign equity (even up to 100%) in selected areas especially for export oriented products. In India, since the 1960’s foreign investment and/or foreign collaborations by the multinationals have been principally viewed as an instrument to facilitate the much needed ‘transfer of technology’. In technological as well as financial collaborations with foreign firms, the approval and extent of ownership participation had been predominantly determined by the technology component of the respective products. ‘Import of technology’ as against the direct foreign investment was the main focus of the policies till mid-eighties. The New Industrial Policy (NIP) of July 1991 and subsequent policy amendments have significantly liberalized the industrial policy regime in the country especially as it applies to FDI. The industrial approval system in all industries has been abolished except for some strategic or environmentally sensitive industries. In 35 high priority industries, FDI up to 51% is approved automatically if certain norms are satisfied. FDI proposals do not necessarily have to be accompanied by technology transfer agreements. Trading companies engaged primarily in export activities are also allowed up to 51% foreign entity. A Foreign Investment Promotion Board (FIPB) has been set up to invite and facilitate investment in India by international Foreign Direct Investment in India Page | 26

VIVEK COLLEGE OF COMMERCE companies. The use of foreign brand names for goods manufactured by domestic industry which had earlier been restricted was also liberalized. New sectors have been opened to private and foreign investment. The international trade policy regime has been considerably liberalized too. The rupee was made convertible first on trade and finally on the current account. Capital market has been strengthened. In spite of all these liberalization measures taken by the Indian government- foreign investments have not been up to expectations. Actual inflow of FDI has been less than the approval FDI.

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VIVEK COLLEGE OF COMMERCE CHAPTER-7: POLICIES AND PROCEDURES OF FDI The initial policy stimulus to foreign direct investment in India came in July 1991 when the new industrial policy provided, inter alia, automatic route approval for projects with foreign equity participation up to 51 percent in high priority areas. In recent years, the government has initiated the second generation reforms under which measures have been taken to further facilitate and broaden the base of FDI in India. The policy of FDI allows freedom of location, choice of technology repatriation of capital and dividends. The rate at which FDI inflow has grown during the postliberalisation period is a clear indication that India is a fast emerging as an attractive destination for overseas investors. As part of the economic reforms programme, policy and procedures governing foreign investment and technology transfer have been significantly simplified and streamlined. Today FDI is allowed in all sectors including the service sector except in cases where there are sectoral ceilings. FDI Policy Regime Most of the problem for investors arises because of domestic policy, rules and procedures and not the FDI policy per se or its rules and procedure. India has one of the most transparent and liberal FDI regimes among the emerging and developing economies. By FDI regime it means those restrictions that apply to foreign nationals and entities but not to Indian Foreign Direct Investment in India Page | 28

VIVEK COLLEGE OF COMMERCE nationals and Indian owned entities. The differential treatment is limited to a few entry rules, spelling out proportion of equity that the foreign entrant can hold in an Indian company or business. There are a few banned sectors and some sectors with limits on foreign equity proportion. The entry rules are clear and well defined and equity limits for FDI in selected sectors such as telecom quite explicit and well-known. Subject to these foreign equity conditions a foreign company can set up a registered company in India and operate under the same laws, rules and regulations as any Indian owned company would. There is absolutely no discrimination against foreign invested companies registered in India or in favour of domestic owned ones. There is however a minor restriction on those foreign entities who entered a particular sub-sector through a joint venture with an Indian partner. If they want to set up another company in the same sector it must get a no-objection certificate from the joint venture partner. This condition is explicit and transparent unlike many hidden conditions imposed by some other recipients of FDI. Routes for Inward Flows of FDI FDI can be approved either through the automatic route or by the Government. 1. Automatic Route: Companies proposing FDI under automatic route do not require any government approval provided the proposed foreign equity is within the specified ceiling and the requisite documents are filed with Reserve Bank of India (RBI) within 30 days of receipt of funds. The Foreign Direct Investment in India Page | 29

VIVEK COLLEGE OF COMMERCE automatic route encompasses all proposals where the proposed items of manufacture/activity does not require an industrial license and is not reserved for small-scale sector. The automatic route of the RBI was introduced to facilitate FDI inflows. However, during the post-policy period, the actual investment flows through the automatic route of the RBI against total FDI flows remained rather insignificant. This was partly due to the fact that crucial areas like electronics, services and minerals were left out of the automatic route. Another limitation was the ceiling of 51 percent on foreign equity holding. Increasing number proposals were cleared through the FIPB route while the automatic route was relatively unimportant. However, since 2000 automatic route has become significant and accounts for a large part of FDI flows. 2. Government Approval: For the following categories, government approval for FDI through the Foreign Investment Promotion Board (FIPB) is necessary:
• • •

Proposals attracting compulsory licensing Items of manufacture reserved for small scale sector. Acquisition of existing shares.

FIPB ensures a single window approval for the investment and acts as a screening agency. FIPB approvals are normally received in 30 days. Some foreign investors use the FIPB application route where there may be absence of stated policy or lack of policy clarity.

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3. Industrial Licensing in FDI Policy: Industrial Licensing is regulated by

Industries (Development and Regulation) Act 1951. Following are the sectors which require Industrial Licensing: • Industries which abide by compulsory licensing • Manufacturing of items by the larger industrial units for small sector industries • Locational restrictions on the proposed sites Sectors Which Require Industrial Licensing: • Electronic aerospace and defense equipment • Alcoholics drinks • Explosives • Cigarettes and tobacco products • Hazardous chemicals such as, hydrocyanic acid, phosgene, isocynates and di-isocynates of hydro carbon and derivatives. 4. Restricted List of sectors: FDI is not permissible in the following cases: • Gambling and Betting, or • Lottery Business, or • Business of chit fund • Housing and Real Estate business (to a certain extent has been • Trading in Transferable Development Rights (TDRs) • Retail Trading Page | 31 opened.)

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VIVEK COLLEGE OF COMMERCE •

Railways, Atomic Energy , atomic minerals, Floriculture, Horticulture, Development of Seeds, Animal Husbandry, Pisiculture and Cultivation of Vegetables, Mushrooms etc. under controlled conditions and services related to agro and allied sectors) and Plantations(other than Tea plantations) • Agricultural or plantation activities or Agriculture (excluding

The new polices have substantially relaxed restrictions on foreign investment, industrial licensing and foreign exchange. Capital market has been opened to foreign investment and banking sector controls have been eased. As a result, India has been rapidly changing from a restrictive regime to a liberal one and FDI is encouraged in almost all economic activities under the automatic route. The Government is committed to promoting increased flow of FDI for better technology, modernization, exports and for providing products and services of international standards. Therefore, the policy of the Government has been aimed at encouraging foreign investment, particularly in core infrastructure sectors so as to supplement national efforts. Post-approval Procedures 1. Project Clearance: After the approval has been obtained, the applicant may get his unit/company registered with the Registrar of Company. Subsequently, the company needs to obtain various clearances such as land Foreign Direct Investment in India Page | 32

VIVEK COLLEGE OF COMMERCE clearance, building design clearance, pre-construction clearance, labour clearance, etc. from different authorities before beginning its operations. These clearances differ from sector to sector and may also differ from state to state. 2. Registration and Inspection: Each industrial unit is supposed to maintain records in regard to production, sale and export, use of specified raw materials including public utilities like water and electricity, labour related details financial details and details in regard to industrial safety and environment. The unit is also subject to periodic inspection by the factories inspector, labour inspector, food inspector, fire inspector, central excise inspector, air and water inspector, mines inspector, city inspector and the like, the list of which may go up to thirty or more. 3. Foreign Exchange Management Act (FEMA), 2000: The additional provisions which apply only to entry of FDI emanate from the provisions of FEMA. According to FEMA, no person resident outside India shall without the approval/knowledge of the RBI may establish in India a branch or a liaison office or a project office or any other place of business. FDI in a particular industry may, however, be made through the automatic route under powers delegated to the RBI or with the approval accorded by the FIPB. The automatic route means that foreign investors only need to Foreign Direct Investment in India Page | 33

VIVEK COLLEGE OF COMMERCE inform the RBI within 30 days of bringing in their investment. Companies getting foreign investment approval through FIPB route do not require any further clearance from RBI for the purpose of receiving inward remittance and issue of shares to foreign investors. RBI has granted general permission under FEMA in respect to proposals approved by FIPB. Such companies are, however, required to notify the concerned regional office of the RBI of receipt of inward remittances within 30 days of such receipts and again within 30 days of issue of shares to the foreign investors. Entry Options for Foreign Investors A foreign company planning to set up business operations in India has the following options: By incorporating a company under the Companies Act, 1956 through • Joint Ventures; or • Wholly Owned Subsidiaries Foreign equity in such Indian companies can be up to 100% depending on the requirements of the investor, subject to equity caps in respect of the area of activities under the Foreign Direct Investment (FDI) policy. Enter as a foreign Company through

Liaison Office/Representative Office

• Project Office • Branch Office Such offices can undertake activities permitted under the Foreign Exchange Management Regulations, 2000. Foreign Direct Investment in India Page | 34

VIVEK COLLEGE OF COMMERCE
1. Incorporation of Company: For registration and incorporation, an

application has to be filed with Registrar of Companies (ROC). Once a company has been duly registered and incorporated as an Indian company, it is subject to Indian laws and regulations as applicable to other domestic Indian companies.
2. Liaison Office/Representative Office: The role of the liaison office

is limited to collecting information about possible market opportunities and providing information about the company and its products to prospective Indian customers. It can promote export/import from/to India and also facilitate technical/financial collaboration between parent company and companies in India. Liaison office can not undertake any commercial activity directly or indirectly and can not, therefore, earn any income in India. Approval for establishing a liaison office in India is granted by Reserve Bank of India (RBI).
3. Project Office: Foreign Companies planning to execute specific

projects in India can set up temporary project/site offices in India. RBI has now granted general permission to foreign entities to establish Project Offices subject to specified conditions. Such offices can not undertake or carry on any activity other than the activity relating and incidental to execution of the project. Project Offices may remit outside India the surplus of the project on its completion, general permission for which has been granted by the RBI.

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VIVEK COLLEGE OF COMMERCE
4. Branch Office: Foreign companies engaged in manufacturing and

trading activities abroad are allowed to set up Branch Offices in India for the following purposes: • Export/Import of goods • Rendering professional or consultancy services • Carrying out research work, in which the parent company is engaged. • Promoting technical or financial collaborations between Indian companies and parent or overseas group company. • Representing the parent company in India and acting as buying/selling agents in India. • Rendering services in Information Technology and development of software in India.

Rendering technical support to the products supplied by the parent/

group companies. • Foreign airline/shipping Company. A branch office is not allowed to carry out manufacturing activities on its own but is permitted to subcontract these to an Indian manufacturer. Branch Offices established with the approval of RBI may remit outside India profit of the branch, net of applicable Indian taxes and subject to RBI guidelines Permission for setting up branch offices is granted by the Reserve Bank of India (RBI).
5. Branch office on Stand-Alone Basis in Special Economic Zones

(SEZs): Such branch offices would be isolated and restricted to the SEZ Foreign Direct Investment in India Page | 36

VIVEK COLLEGE OF COMMERCE and no business activity/transaction will be allowed outside the SEZ in India, which include branches/subsidiaries of their parent office in India. No approval shall be necessary from RBI for a company to establish a branch/unit in SEZs to undertake manufacturing and service activities, subject to specified conditions.
6. Investment in a Firm or a Proprietary Concern by NRIs: A Non-

Resident Indian (NRI) or a Person of Indian Origin (PIO) resident outside India may invest by way of contribution to the capital of a firm or a proprietary concern in India on non-repatriation basis provided:

The amount is invested by inward remittance or out of specified account types (NRE/FCNR/NRO accounts) maintained with an Authorized Dealer.

• The

firm

or

proprietary

concern

is

not

engaged

in

any

agriculture/plantation or real estate business, i.e. dealing in land and immovable property with a view to earning profit or earning income there from. • The amount invested shall not be eligible for repatriation outside India. NRIs/PIOs may invest in sole proprietorship concerns/partnership firms with repatriation benefits with the approval of Government/ RBI.
7. Investment in a Firm or a Proprietary concern Other Than NRIs:

No person resident outside India other than NRI/PIO shall make any investment by way of contribution to the capital of a firm or a Foreign Direct Investment in India Page | 37

VIVEK COLLEGE OF COMMERCE proprietorship concern or any association of persons in India. The RBI may, on an application made to it, permit a person resident outside India to make such an investment subject to such terms and conditions as may be considered. Other Modes of Foreign Direct Investments 1. Global Depository Receipts (GDR)/American Deposit Receipts (ADR)/Foreign Currency Convertible Bonds (FCCB): Foreign Investment through GDRs/ADRs, Foreign Currency Convertible Bonds (FCCBs) are treated as Foreign Direct Investment. Indian companies are allowed to raise equity capital in the international market through the issue of GDR/ADRs/FCCBs. These are not subject to any ceilings on investment. An applicant company seeking Government's approval in this regard should have a consistent track record for good performance (financial or otherwise) for a minimum period of 3 years. This condition can be relaxed for infrastructure projects such as power generation, telecommunication, petroleum exploration and refining, ports, airports and roads. There is no restriction on the number of GDRs/ADRs/FCCBs to be floated by a company or a group of companies in a financial year. A company engaged in the manufacture of items covered under Automatic Route is likely to exceed the percentage limits under the Automatic Route, whose direct foreign investment after a proposed GDR/ADR/FCCBs issue is likely to exceed 50 per cent/51 per cent/74 per cent as the case may be, or which is implementing a project not contained in project falling under Government Foreign Direct Investment in India Page | 38

VIVEK COLLEGE OF COMMERCE Approval route, would need to obtain prior Government clearance through FIPB before seeking final approval from the Ministry of Finance. There are no end-use restrictions on GDR/ADR issue proceeds, except for an express ban on investment in real estate and stock markets. The FCCB issue proceeds need to conform to external commercial borrowing end use requirements; in addition, 25 per cent of the FCCB proceeds can be used for general corporate restructuring. 2. Preference Shares: Foreign investment through preference shares is treated as foreign direct investment. Proposals are processed either through the automatic route or FIPB as the case may be. The following guidelines apply to issue of such shares:•

Foreign investment in preference share are considered as part of share capital and fall outside the External Commercial Borrowing (ECB) guidelines/cap

Preference shares to be treated as foreign direct equity for purpose of sectoral caps on foreign equity, where such caps are prescribed, provided they carry a conversion option. If the preference shares are structured without such conversion option, they would fall outside the foreign direct equity cap.

Duration for conversion shall be as per the maximum limit prescribed under the Companies Act or what has been agreed to in the share holders agreement whichever is less.

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VIVEK COLLEGE OF COMMERCE

The dividend rate would not exceed the limit prescribed by the Ministry of Finance.

• Issue of Preference Shares should conform to guidelines prescribed by the SEBI and RBI and other statutory requirements. Foreign Technology Agreements Foreign technology induction is encouraged both through FDI and through foreign technology agreements. India has one of the most liberal policy regimes in regard to technology agreements. Foreign technology collaboration is permitted either through automatic route or through FIPB. 1. Automatic Approval: RBI accords automatic approval for foreign technology collaboration agreements for all industries subject to the following: • The lump sum payment should not exceed US$ 2 million.

Royalty payable is limited to 5 percent for domestic sales and 8 percent for exports subject to total payment of 8 percent on sales over a 10 year period.

• The period for payment of royalty not exceed 7 years from the date of commencement of commercial production, or 10 years from the date of agreement whichever is earlier. 2. FIPB Route: For the following categories, Government approval is necessary: • Proposals attracting compulsory licensing. Foreign Direct Investment in India Page | 40

VIVEK COLLEGE OF COMMERCE • Items of manufacture reserved for small-scale sector.

Proposals involving any previous joint venture or technology transfer/trade mark agreement in the same or allied field in India.

• Extension of foreign technology collaboration agreements. • Proposals not meeting any or all of the parameters for automatic approval. The different components of foreign technology collaboration such as technical know how fees, payment for design and drawing, payment for engineering service and royalty are eligible for approval through the automatic route, and by the Government.

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VIVEK COLLEGE OF COMMERCE CHAPTER-8: SECTOR SPECIFIC GUIDELINES FOR FDI IN INDIA Hotel & Tourism Sector 100% FDI is permissible in the sector on the automatic route. The term hotels include restaurants, beach resorts, and other tourist complexes providing accommodation and/or catering and food facilities to tourists. Tourism related industry include travel agencies, tour operating agencies and tourist transport operating agencies, units providing facilities for cultural, adventure and wild life experience to tourists, surface, air and water transport facilities to tourists, leisure, entertainment, amusement, sports, and health units for tourists and Convention/Seminar units and organizations. For foreign technology agreements, automatic approval is granted if
1. Up to 3% of the capital cost of the project is proposed to be paid for

technical and consultancy services including fees for architects, design, supervision, etc.
2. Up

to

3%

of net

turnover

is

payable

for

franchising

and

marketing/publicity support fee, and up to 10% of gross operating profit is payable for management fee, including incentive fee. Private Sector Banking: 49% FDI is allowed from all sources on the automatic route subject to guidelines issued from RBI from time to time. Foreign Direct Investment in India Page | 42

VIVEK COLLEGE OF COMMERCE 1. FDI/NRI/OCB investments allowed in the following 19 NBFC activities shall be as per levels indicated below: a. Merchant banking b. Underwriting c. Portfolio Management Services d. Investment Advisory Services e. Financial Consultancy f. Stock Broking g. Asset Management h. Venture Capital i. Custodial Services j. Factoring k. Credit Reference Agencies l. Credit rating Agencies m. Leasing & Finance n. Housing Finance o. Foreign Exchange Brokering p. Credit card business q. Money changing Business r. Micro Credit s. Rural Credit 2. Minimum Capitalization Norms for fund based NBFCs: a. For FDI up to 51% - US$ 0.5 million to be brought upfront

Foreign Direct Investment in India

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VIVEK COLLEGE OF COMMERCE b. For FDI above 51% and up to 75% - US $ 5 million to be brought upfront c. For FDI above 75% and up to 100% - US $ 50 million out of which US $ 7.5 million to be brought upfront and the balance in 24 months
3. Minimum

capitalization norms for non-fund based activities:

Minimum capitalization norm of US $ 0.5 million is applicable in respect of all permitted non-fund based NBFCs with foreign investment.
4. Foreign investors can set up 100% operating subsidiaries without the

condition to disinvest a minimum of 25% of its equity to Indian entities, subject to bringing in US$ 50 million as at 2.(c) above (without any restriction on number of operating subsidiaries without bringing in additional capital)
5. Joint Venture operating NBFC's that have 75% or less than 75%

foreign investment will also be allowed to set up subsidiaries for undertaking other NBFC activities, subject to the subsidiaries also complying with the applicable minimum capital inflow i.e. 2.(a) and 2.(b) above. 6. FDI in the NBFC sector is put on automatic route subject to compliance with guidelines of the Reserve Bank of India. RBI would issue appropriate guidelines in this regard.

Foreign Direct Investment in India

Page | 44

VIVEK COLLEGE OF COMMERCE Insurance Sector FDI up to 26% in the Insurance sector is allowed on the automatic route subject to obtaining licence from Insurance Regulatory & Development Authority (IRDA) Telecommunication sector 1. In basic, cellular, value added services and global mobile personal communications by satellite, FDI is limited to 49% subject to licensing and security requirements and adherence by the companies (who are investing and the companies in which investment is being made) to the license conditions for foreign equity cap and lock- in period for transfer and addition of equity and other license provisions. 2. ISPs with gateways, radio-paging and end-to-end bandwidth, FDI is permitted up to 74% with FDI, beyond 49% requiring Government approval. These services would be subject to licensing and security requirements. 3. No equity cap is applicable to manufacturing activities. 4. FDI up to 100% is allowed for the following activities in the telecom sector : a. ISPs not providing gateways (both for satellite and submarine cables); b. Infrastructure Providers providing dark fiber (IP Category 1); c. Electronic Mail; and Foreign Direct Investment in India Page | 45

VIVEK COLLEGE OF COMMERCE d. Voice Mail The above would be subject to the following conditions: • FDI up to 100% is allowed subject to the condition that such companies would divest 26% of their equity in favor of Indian public in 5 years, if these companies are listed in other parts of the world. • The above services would be subject to licensing and security requirements, wherever required. Proposals for FDI beyond 49% shall be considered by FIPB on case to case basis. Trading Companies Trading is permitted under automatic route with FDI up to 51% provided it is primarily export activities, and the undertaking is an export house/trading house/super trading house/star trading house. However, under the FIPB route:1. 100% FDI is permitted in case of trading companies for the following activities: a. exports; b. bulk imports with ex-port/ex-bonded warehouse sales; c. cash and carry wholesale trading;
d. Other import of goods or services provided at least 75% is for

procurement and sale of goods and services among the companies of the same group and not for third party use or onward transfer/distribution/sales.

Foreign Direct Investment in India

Page | 46

VIVEK COLLEGE OF COMMERCE 2. The following kinds of trading are also permitted, subject to provisions of EXIM Policy: a. Companies for providing after sales services (that is not trading per se) b. Domestic trading of products of JVs is permitted at the wholesale level for such trading companies who wish to market manufactured products on behalf of their joint ventures in which they have equity participation in India. c. Trading of hi-tech items/items requiring specialized after sales service d. Trading of items for social sector e. Trading of hi-tech, medical and diagnostic items. f. Trading of items sourced from the small scale sector under which, based on technology provided and laid down quality specifications, a company can market that item under its brand name. g. Domestic sourcing of products for exports. h. Test marketing of such items for which a company has approval for manufacture provided such test marketing facility will be for a period of two years, and investment in setting up manufacturing facilities commences simultaneously with test marketing. FDI up to 100% permitted for e-commerce activities subject to the condition that such companies would divest 26% of their equity in favor of the Indian public in five years, if these companies are listed in other parts of the world. Such companies would engage only in business to business (B2B) ecommerce and not in retail trading. Foreign Direct Investment in India Page | 47

VIVEK COLLEGE OF COMMERCE Power Sector Up to 100% FDI allowed in respect of projects relating to electricity generation, transmission and distribution, other than atomic reactor power plants. There is no limit on the project cost and quantum of foreign direct investment. Drugs & Pharmaceuticals FDI up to 100% is permitted on the automatic route for manufacture of drugs and pharmaceutical, provided the activity does not attract compulsory licensing or involve use of recombinant DNA technology, and specific cell / tissue targeted formulations. FDI proposals for the manufacture of licensable drugs and pharmaceuticals and bulk drugs produced by recombinant DNA technology, and specific cell / tissue targeted formulations will require prior Government approval. Infrastructure Sector FDI up to 100% under automatic route is permitted in projects for construction and maintenance of roads, highways, vehicular bridges, toll roads, vehicular tunnels, ports and harbors. Pollution Control and Management FDI up to 100% in both manufacture of pollution control equipment and consultancy for integration of pollution control systems is permitted on the automatic route.

Foreign Direct Investment in India

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VIVEK COLLEGE OF COMMERCE Call Centers in India / Call Centres in India FDI up to 100% is allowed subject to certain conditions. Business Process Outsourcing BPO in India FDI up to 100% is allowed subject to certain conditions. Special Facilities and Rules for NRI's and OCB's NRI's and OCB's are allowed the following special facilities: 1. Direct investment in industry, trade, infrastructure etc. 2. Up to 100% equity with full repatriation facility for capital and dividends in the following sectors: a. 34 High Priority Industry Groups b. Export Trading Companies c. Hotels and Tourism-related Projects d. Hospitals, Diagnostic Centers e. Shipping f. Deep Sea Fishing g. Oil Exploration h. Power i. Housing and Real Estate Development j. Highways, Bridges and Ports k. Sick Industrial Units l. Industries Requiring Compulsory Licensing
m. Industries Reserved for Small Scale Sector

Foreign Direct Investment in India

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VIVEK COLLEGE OF COMMERCE n. Up to 40% Equity with full repatriation: New Issues of Existing Companies raising Capital through Public Issue up to 40% of the new Capital Issue. o. On non-repatriation basis: Up to 100% Equity in any Proprietary or Partnership engaged in Industrial, Commercial or Trading Activity. p. Portfolio Investment on repatriation basis: Up to 1% of the Paid up Value of the equity Capital or Convertible Debentures of the Company by each NRI. Investment in Government Securities, Units of UTI, National Plan/Saving Certificates. q. On Non-Repatriation Basis: Acquisition of shares of an Indian Company, through a General Body Resolution, up to 24% of the Paid Up Value of the Company. r. Other Facilities: Income Tax is at a Flat Rate of 20% on Income arising from Shares or Debentures of an Indian Company. Certain terms and conditions do apply. Foreign Direct Investment in Small Scale Industries (SSI's) in India Recently, India has allowed Foreign Direct Investment up to 100% in many manufacturing industries which were designated as Small Scale Industries. India further ended in February 2008 the monopoly of small-scale units on 79 items, leaving just 35 on the reserved list that once had as many as 873 items.

Foreign Direct Investment in India

Page | 50

VIVEK COLLEGE OF COMMERCE CHAPTER-9: FACTORS AFFECTING FDI The factors that can narrow the gap between FDI approvals and actual foreign direct investment inflows and indeed make India a preferred destination for global capital are, 1. Availability of infrastructure in all areas i.e. transports hospitality, telecom, power, etc.
2. Transparency of processes, policies and decision making and

reduction of government decision making lead time.
3. Stability of policies i.e. entry, exit, labour laws, etc. over a definite

time horizon so that definite plans can be made. 4. Acceptance of International Standards including accounting standards. 5. Capital account convertibility so that all capital and payments can flow easily in and out of the economy. 6. Simplification of the regulatory framework in general and tax laws. 7. Improvement in bandwidth for internet and data communication. 8. Improvement in the enforcement of intellectual property rights. 9. Implementation of the WTO agreement full. All investments foreign and domestic are made under the expectation of future profits. The economy benefits if economy policy fosters competition, creates a well functioning modern regulatory system and discourages artificial monopolies created by the government through entry barriers. A Foreign Direct Investment in India Page | 51

VIVEK COLLEGE OF COMMERCE recognition and understanding of these facts can result in a more positive attitude towards FDI. The future policies should be designed in the light of the above observations. The most important initiatives that need attention are: 1. Empowering the State Governments with regard to FDI. 2. Developing fast track clearance system for legal disputes. 3. Changing the mind set of bureaucracy through HR practices. 4. Developing basic infrastructure.
5. Improving India’s image as an investment destination.

While the magnitudes of inflows have recorded impressive growth, they are still at a small level compared to India’s potential. The policy reforms undertaken have undoubtedly enabled the country to widen the sectoral and source composition of FDI inflows. Within a generation, the countries of East Asian transformed themselves. China, Indonesia, Korea, Thailand and Malaysia today have living standards much above ours. When competing for FDI, policy makers have to be aware that various measures intended to induce FDI are necessary. These include liberalisation of FDI regulations and various business facilitation measures. Other reforms, such as privatization, tend to be more effective in stimulating FDI inflows, but need to be complemented by reform in other areas, in order to ensure that FDI inflows are beneficial. Other determinants of FDI, which were sufficient in the past, may prove to be less relevant in the future

Foreign Direct Investment in India

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VIVEK COLLEGE OF COMMERCE CHAPTER-10: FDI TRENDS IN INDIA India is the second most populous country and the largest democracy in the world. The far reaching and sweeping economic reform undertaken since 1991 have unleashed the enormous growth potential of the economy. There has been a rapid, yet calibrated, move towards deregulation and liberalisation, which has resulted in India becoming a favourite destination for investment. Undoubtedly, India has emerged as one of the most vibrant and dynamic of the developing economies. India as an Investment Destination FDI is seen as a means to supplement domestic investment for achieving a higher level of economic growth and development. FDI benefits domestic industry as well as the Indian consumers by providing opportunities for technological upgradation, access to global managerial skills and practices, optimal utilization of human and natural resources, making Indian industry internationally competitive, opening up export markets, providing backward forward linkages and access to international quality goods and services. FDI policy has been constantly reviewed and necessary steps have been taken to make India a most favourable destination for FDI. There are several good reasons for investing in India. 1. Third largest reservoir of skilled manpower in the world. 2. Large and diversified infrastructure spread across the country. Foreign Direct Investment in India Page | 53

VIVEK COLLEGE OF COMMERCE 3. Abundance of natural resources and self-efficiency in agriculture. 4. Package of fiscal incentives for foreign investors. 5. Large and rapidly growing consumer market. 6. Democratic government with independent judiciary. 7. English as the preferred business language. 8. Developed commercial banking network of over 63000 branches supported by a number of National and State level financial institutions. 9. Vibrant capital market consisting of 22 stock exchanges with over 9400 listed companies. 10.Congenial foreign investment environment that provides freedom of entry, investment, location, choice of technology, import and export, and 11.Easy access to markets of Bangladesh, Bhutan, Maldives, Nepal, Pakistan and Sri Lanka. India’s Performance in the Global Context According to UNCTAD World Investment Report, 2007, FDI inflows to South Asia surged by 126% amounting to $22 billion in 2006, mainly due to investment in India. The country received more FDI than ever before equivalent to the total inflows during 2003-2005. Inward FDI inflows to China declined for the first time in 7years. The modest decline by 4% or $69 billion was mainly due to reduced inflows of financial services. UNCTAD’s World Investment Report publishes a set of benchmarks for inward FDI performance that ranks countries by how they do in attracting Foreign Direct Investment in India Page | 54

VIVEK COLLEGE OF COMMERCE inward direct investment. In contrast, despite enjoying a healthy rate of economic growth India ranked 120th on UNCTAD’s inward FDI performance index 1999-2001, far below China which ranked 59th and lower than both Pakistan (116th) and Srilanka (111th). As far as inward FDI potential index is concerned, India ranks 84th as against China’s 40th rank. The World Investment Report, 2005 noted, “While India has been catching up in inward FDI, it still ranks near the bottom”. Top Investing Countries FDI Inflows in India In FDI equity investments Mauritius tops the list of first ten investing countries followed by US, UK, Singapore, Netherlands, Japan, Germany, France, Cyprus and Switzerland. Between April 2000 and July 2008 FDI inflows from Mauritius stood at $ 30.18 billion followed by $5.80 billion from Singapore; $ 5.47 billion from the US; $ 4.83 billion from the UK; $ 3.12 billion from the Netherlands; $ 2.26 billion from Japan; $1.83 billion from Germany; $ 1.41 billion from Cyprus; and $1.02 billion from France.

Foreign Direct Investment in India

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VIVEK COLLEGE OF COMMERCE
TOP TEN INVESTING (FDI EQUITY) COUNTRIES (In Rs. Crore) 2008-09 (from AprilMarch, 2009) 50794 (11208) 8002 (1802) 3840 (864) 15727 (3454) 3922 (883) 1889 (405) 2750 (629) 2098 (467) 5983 (1287) 1133 (257) 122919 (27309) Cumulative % with (From April total 2000 to April (inflows 2009) in terms of rupees) 168485 (38305) 28303 (6404) 23002 (5246) 34467 (7934) 15957 (3611) 12041 (2694) 9580 (2191) 5489 (1229) 11140 (2491) 4146 (948) 404728 (92158) 44% 7% 6% 9% 4% 3% 3% 1% 3% 1% -

Country

2005-06

2006-07

2007-08

Mauritius USA UK Singapore Netherlands Japan Germany France Cyprus UAE Total FDI inflows*

11441 (2570) 2210 (502) 1164 (266) 1218 (275) 340 (76) 925 (208) 1345 (303) 82 (18) 310 (70) 219 (49) 24613 (5546)

28759 (6363) 3861 (856) 8389 (1878) 2662 (578) 2905 (644) 382 (85) 540 (120) 528 (117) 266 (58) 1174 (260) 70630 (15726)

44483 (11096) 4377 (1089) 4690 (1176) 12319 (3073) 2780 (695) 3336 (815) 2075 (514) 583 (145) 3385 (834) 1039 (258) 98664 (24579)

Figures in bracket are in US$ million SOURCE: DIPP, Federal Ministry of Commerce & Industry, Government of India

Top Sectors in India attracting FDI Foreign Direct Investment in India Page | 56

VIVEK COLLEGE OF COMMERCE

The average FDI inflows per year during the 9th Plan were $ 3.2 billion and during the 10th Plan it increased manifold to stand at $ 16.33 billion the annual average being $ 6.16 billion. The top five sectors attracting FDI in fiscal 2007-08 included Services sector; Housing and Real Estate; Construction activities; Computer Software & hardware; and Telecommunications. The infrastructure sector that offers massive potential to attract FDI witnessed marked increase in FDI inflows during this fiveyear period. The extant policy for most of the infrastructure sectors permits FDI up to 100 percent on the automatic route. From $ 1902 million in fiscal 2001-02 the foreign investment in India's infrastructure sector increased to $ 2179 million in 2006-07. But fiscal 2007-08 witnessed significant increase in the FDI inflows in the infrastructure. In first nine months till December 2007 of fiscal 2007-08 stood at $ 4095 million. From 2000-01 to December 2007, total FDI in India's infrastructure sector stood at $ 10575 million.

SECTORS ATTRACTING HIGHEST FDI Inflows (In Rs crore)

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VIVEK COLLEGE OF COMMERCE
Cumulat 2008-09 ive % of (April- (Apr.200 total Jan '09) 0- Jan inflows* 2009) 23045 (5061) 6944 (1599) 10797 (2374) 6224 (1483) 1792 (441) 10632 (2408) 4079 (924) 3608 (850) 2561 (579) 1196 (263) 78742 (181189) 39111 (8876) 27544 (6216) 19606 (4646) 11648 (2678) 21794 (5119) 13709 (3130) 10956 (2613) 9442 (2244) 8509 (2043) 22% 11% 8% 6% 4% 6% 4% 3% 2% 3%

SECTOR

2005-06 2006-07

2007-08

Services (Financial & non-financial)

2399 (543)

21047 (4664) 11786 (2614) 2155 (478) 4424 (985) 1254 (276) 2121 (467) 713 (157) 7866 (173) 930 (205) 401 (89)

26589 (6615) 5623 (1410) 5103 (1261) 6989 (1743) 2697 (675) 8749 (2179) 3875 (967) 4686 (1177) 920 (229) 5729 (1427)

Computer Software 6172 & Hardware (1375) Telecommunications Construction Automobile Housing and Real estate Power Metallurgical Chemicals (Other than fertilizers) Petroleum & Natural Gas 2776 (624) 667 (151) 630 (143) 171 (38) 386 (87) 6540 (147) 1731 (390) 64 (14)

Figures in bracket are in US$ million. * In terms of Rs. SOURCE: DIPP, Federal Ministry of Commerce & Industry, Government of India

FDI Inflows Year-wise (1990-2009)
Fiscal Year Equity Reinvested Other Total YOY

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VIVEK COLLEGE OF COMMERCE
FDI inflows growth (%)

earnings+ capital+ (AprilMarch) FIPB Equity capital Route/ of RBI's unincorporated Automatic bodies# Route 15483 2339 3904 2574 2197 3250 5540 15585 24575 23885 61 191 190 32 528 435 896 2292 334 1350 1645 1833 1460 1904 2760 5828 7168 3004 279 390 438 633 369 226 517 327 203

1991(Aug)2000 (Mar) 2000-01 2001-02 2002-03 2003-04 2004-05 2005-06 2006-07 2007-08 2008-09 (April-Dec) Cumulative Total (From Aug 1991-Jan 2009)

15483 4029 6130 5035 4322 6051 8961 22826 34362 27426

(+) 52 (-) 18 (-) 14 (+) 40 (+) 48 (+) 146 (+) 51 -

99332

4959

26952

3382

134625

-

SOURCE: DIPP, Federal Ministry of Commerce & Industry, Government of India

Foreign Technology Transfer Country Wise Technology Transfer Approvals (Aug 1991-Feb 2008) Foreign Direct Investment in India Page | 59

VIVEK COLLEGE OF COMMERCE
% with total technical approvals 22.31 13.93 10.93 10.83 6.09 35.91 100.00

COUNTRY USA Germany Japan UK Italy Other countries All Countries

No. of FTA 1772 1106 868 860 484 2851 7941

SOURCE: DIPP, Federal Ministry of Commerce & Industry, Government of India

Sector Wise Technology Transfer Approvals (Aug 1991-Feb 2008)
SECTOR Electrical Equipments (Incl. computer software & electronics) Chemicals (other than fertilizers) Industrial Machinery Transportation Industry Misc. Mach. Engineering Industry Other sectors Total all sectors No. Technical Collaborations approved 1255 886 869 742 442 3747 7941 % of total Technical Collaborations approved 15.80 11.16 10.94 9.34 5.57 47.19 100.00

SOURCE: DIPP, Federal Ministry of Commerce & Industry, Government of India

CHAPTER-11: CONCLUSION

Foreign Direct Investment in India

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VIVEK COLLEGE OF COMMERCE Economic reforms in India have deregulated the economy and stimulated domestic and foreign investment, taking India firmly into the forefront of investment destinations. The Government, keen to promote FDI in the country, has radically simplified and rationalized policies, procedures and regulatory aspects. Foreign direct investment is welcome in almost all sectors; expect those strategic concerns (defence and atomic energy). Since the initiation of the economic liberalisation process in 1991, sectors such as automobiles, chemicals, food processing, oil and natural gas, petrochemicals, power, services, and telecommunications have attracted considerable investments. Today, in the changed investment climate, India offers exciting business opportunities in virtually every sector of the economy. Telecom, electrical equipment (including computer software), energy and transportation sector have attracted the highest FDI. Despite its market size and potential, India has yet to convert considerable favourable investor sentiment into substantial net flows of FDI. Overall, India remains high on corporate investor radar screens, and is widely perceived to offer ample opportunities for investment. The market size and potential give India a definite advantage over most other comparable investment destinations. India’s investment profile, however, is also conditioned by factors that affect the flow of FDI, which are bureaucratic delays, wide spread corruption, poor

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VIVEK COLLEGE OF COMMERCE infrastructure facilities pro-labour laws, political risk and weak intellectual property regime. A perceived slowdown in the process of reforms generates doubts about the market’s long-term potential. To capitalize on its potential for FDI, would seem that India needs to accelerate efforts to institutionalize government efficiency and advance the implementation of promised reforms. Other strategic efforts should include focusing the market on India’s relatively higher rates of return on existing investments and long-term potential, addressing the issue of transforming the country into a viable export platform and encouraging strategic alliances with foreign investors. In short, this means accelerating India’s integration with the global economy.

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VIVEK COLLEGE OF COMMERCE  BIBLIOGRAPHY Books:
 Foreign Investment in India: 1947-48 to 2007-08, Dr. Kamlesh

Gakhar  Foreign Direct Investment in India: 1947 to 2007, Dr. Nitin Bhasin Websites:
 http://business.mapsofindia.com

 http://www.economywatch.com

 http://siadipp.nic.in

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