Government approval mandatory for FDI from neighbouring countries

In the past years, United Kingdom, United States of America, Australia, Canada and other European countries have revised their foreign investment policies to protect their domestic firms from hostile takeovers by foreign investors. Following their footsteps, the Government of India announced scrutiny of investments from neighbouring countries to curtail any possibility of opportunistic takeovers of the Indian firms during this period of massive economic slowdown in the country due to COVID-19 pandemic. While such a change in the FDI policy was being considered by the Government for a while now, increase in stake (equity shares) from 0.8% to 1.01% by the People’s Bank of China in HDFC, set the alarm bells ringing.


The Department for Promotion of Industry and Internal Trade, agency responsible for foreign direct investment  (“FDI”) policy issued a press note on 17 April 2020 which states that entities of countries which share land border with India will have to seek approval from the Government before investing in India, instead of taking the automatic route. Such a regulatory condition has already been imposed on investments from Pakistan and Bangladesh. 


While the extant FDI policy permits a non-resident entity, except a citizen or an entity incorporated in Bangladesh or Pakistan, to invest in India under the automatic route subject to FDI policy, this amendment seeks to include countries which share land border with India within the ambit of approval route. This means that an entity from either China, Nepal, Myanmar, Bhutan or Afghanistan will not be allowed to invest in India except with approval of the Government of India.


Although this change is seen as move to ward off Chinese takeovers in strategic sectors of the country, with the market value of companies having taken a severe hit because of COVID19 related uncertainties, India has avoided a direct conflict with China by imposing the regulatory restriction on all its neighbouring countries.


The revised policy states that investments from neighbouring countries which were allowed under the automatic route shall now be subject to scrutiny by the Government. This regulatory requirement also extends to such investments, the beneficial ownership of which can be traced to an entity or a citizen of such listed neighbouring countries. In addition, government approval will be mandatory for any transfer of ownership of any existing or future shares relating to FDI in a company in India, which results in change in beneficial ownership, falling under this new restriction.


Even though this new policy can be seen as measure to protect domestic companies from falling prey to opportunistic foreign takeovers at their most vulnerable time, it may also result in a financial drain in the entire Indian Startup ecosystem which derives regular and majority of funding from investors based out of China. Currently, Paytm, BigBasket, Delhivery, Flipkart, Hike, Byju’s, Ola, Oyo and Snapdeal all have been funded by investors based out of China. Further, including beneficial investment in the amendment would mean bringing investments by Alternate Investment Funder, Venture Capital Funds which have pooled capital from amongst others, investors of the listed countries, within the scope of the new FDI policy. Presently, investment from China stands at $6.2 billion, which is more than cumulative investments from remaining neighbour countries. Tightening the FDI policy for them might cause friction between the Chinese investors and Indian regulators impacting future Chinese FDI into India.


Another concern in the new policy is the ambiguity in interpretation of the term “Beneficial Owner” in Para 3.1.1(b) of the revised policy. Since the term “Beneficial Owner”/ “Beneficial Ownership” has not been defined under the FEMA regulations, the definition of the term under the Companies (Significant Beneficial Owners) Rules 2018 and/or the Prevention of Money-laundering (Maintenance of Records) Rules, 2005 (“PMLA Rules”), may be referred to determine beneficial ownership in an investment.


The Prevention of Money Laundering Rules 2005 defines the term beneficial owner as a natural person who ultimately owns or controls a client and/or the person on whose behalf the transaction is being conducted, and includes a person who exercises ultimate effective control over a juridical person. It identifies beneficial ownership as ownership of/entitlement to more than 25 percent of shares or capital or profits of a company. However, under the Companies (SBO) Rules, a beneficial owner is an individual who acting alone or together, or through one or more persons or trust holds more than 10% of shares / voting rights or exercises significant control.


Given the inconsistency in the thresholds for determining beneficial ownership, under the Companies Act and Prevention of Money Laundering Rules, 2005, there may be difficulty in implementation of the FDI policy unless the impending FDI notification gives clarity in this regard.


This amendment will be effective from the date of FEMA notification.








Similar Articles

Contact us for a Solution

Contact us for more information about our services and how we can help


As per the rules of the Bar Council of India, we are not permitted to advertise or solicit work. By accessing and browsing through this website, all users agree and acknowledge that the content of this website is for informational purposes only and that there has been no form of solicitation, advertisement or inducement by NovoJuris Legal or its members, in any form. No information provided on this website should be construed as legal advice and NovoJuris Legal shall not be liable for consequences of any action taken by relying on the information provided on this website.