International Business

Foreign Direct Investment

Prof Bharat Nadkarni

International Business : Prof Bharat Nadkarni

One of the most interesting phenomena in the contemporary world economy is the explosive growth of foreign direct investment. Regional integration typically leads to reductions in tariffs and other barriers to trade between the member states and this liberalisation has a number of effects on both trade and an FDI. To the extent that firms increase their investment in response to a larger market or rationalise their production to lower cost locations within the block, then there will be benefits of efficiency and welfare. The removal of restrictions on the movement of factors of production should facilitate both intra block FDI and FDI from third countries. FDI should also be stimulated by the relaxation of ownership and entry requirements and other liberalising measures to open markets to greater competition.

International Business : Prof Bharat Nadkarni

The firms are motivated to invest overseas for a variety of reasons such as access to factors of production, cheaper factors of production, access to products, access to markets and customers, present and future. Foreign Direct Investment (FDI) Direct investment represents acquisition of some amount of permanent interest in the enterprise, implying a degree of control over the management of the company in which the investment is made. FDI involves the ownership and control of a foreign company in a foreign country. In exchange, for this ownership, the investing country usually transfers some of its financial, technical, managerial trademark and other resources to the foreign country.

International Business : Prof Bharat Nadkarni Foreign Direct Investment (FDI) has been defined to include investment in : 1. Indian companies which were subsidiaries of foreign companies. 2. Indian companies in which 40 percent or more of the equity capital was held outside India in any one country. 3. Indian companies in which 25 percent or more of the equity capital was held by a single investor abroad. The objective criteria for identifying FDI from 1992 was fixed at 10 percent ownership of ordinary share capital for a single investor in keeping with the IMF guidelines. Portfolio investment is the most popular form of FDI in India. This is followed by direct investment and foreign institutional investment. This refers to the participation of a foreign undertaking in the risk capital of a existing or a new undertaking. The most common system of FDI flow is through participation in risk capital and gaining control in management of the host country enterprise.

International Business : Prof Bharat Nadkarni

Foreign Investment policy in India The Indian Governments attitude towards foreign direct investment can be divided into two phases. The first phase is the period from independence to the late 1980s where gradual liberation of attitude towards FDI and the second phase is the period from 1980s onwards where a liberal policy towards FDI was accepted, with independence, India became host to a large body of foreign capital. As a result of the policy changes in 1991 and active promotion of India as a destination, the amount of FDI approved and received has increased sharply. The foreign investment policy was revised in 1980 in order to encourage direct and portfolio investment by NRIs and Overseas Commercial Borrowings OCBs and investors on Oil Exporting Development countries to invest their money in India.

International Business : Prof Bharat Nadkarni

The following Foreign Direct Investment Schemes were introduced : 1. 40 percent equity on repatriation basis for investment in new issues of new or existing companies in manufacturing sectors. 2. 100 percent equity participation in housing and real estate development with a lock-in period of 3 years and a ceiling of 16 percent on remittable profit. 3. Sick unit scheme in which NRIs and OCBs are allowed to make investment on repatriation basis upto 100 percent subject to certain conditions like lock in period of 5 years and the shares of the company should be quoted below par for 2 years. 4. 100 percent equity participation by NRIs on repatriation basis under the air taxi scheme.

International Business : Prof Bharat Nadkarni

5. 40 percent participation on repatriation basis in private banks. 6. 100 percent equity on repatriation basis in any company, proprietary or partnership concerns engaged in any industrial, commercial or trading activities. Similarly the following schemes were introduced for portfolio Investment: 1. Non-Resident Indians or OCB were allowed to acquire up to 1 percent of paid up capital of an Indian company with an aggregate ceiling of 5 percent for all NRIs/ OCBs. 2. Portfolio investment from OECDs were allowed in new companies engaged in exports, manufacturing activities, hotels, hospitals and shipping. Thus, 1980s witnessed a gradual sign of easing of restrictions on foreign investment inflows in India.

International Business : Prof Bharat Nadkarni

The policy relating to foreign investments was radically changed in 1991 with the introduction of structural changes in the economy. A three-tier systems for approvals for foreign investments was introduced i.e. (a) Reserve Bank of India. (b) Secretariat for industrial approvals (SIA) and (c) Foreign Investment Promotion Board (FIPB). The existing companies in India with foreign equity participation wishing to increase 51% will be granted automatic approvals provided that the expansion programme is in the high priority industries and the cost of import of capital goods is covered by foreign equity. The proposals for foreign investment within the general policy framework but outside the powers delegated to the RBI would be considered by the SIA. FIPB was specifically created to invite, negotiate and facilitate substantially large investment by international companies which would provide access to high technology and world markets. Foreign Institutional investors such as Mutual funds,

International Business : Prof Bharat Nadkarni

pension funds were permitted to invest in Indian Stock Markets. However, such investment would be subject to a ceiling of 24% of the issued share capital of a company for all FIIs put together. An individual FII can invest up to 10 percent of the issued capital. In 1995, a working group was set up to examine the existing schemes and incentives available to NRIs for investment in India and make recommendations for attracting larger NRI investment. The group made various recommendations, some of which have been implemented are as follows: 1. OCBs are allowed to sell, transfer shares, bonds, debentures of Indian companies required with repatriation benefits through stock exchange under portfolio investment scheme.

International Business : Prof Bharat Nadkarni

2. Foreign investors are allowed to disinvest equity shares through stock exchanges in India. 3. Permission is also granted to foreign investors for disinvestments of listed equity shares through private placement subject to certain conditions. 4. Restrictions relating to 5 years lock-in period for issue of equity shares on preferential basis are removed except in these cases where preferential issue of securities is in favour of promoters.