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Streamlining outbound investments

Outbound investments from India. have been traditionally governed by the Foreign Exchange Management (Transfer or Issue of Any Foreign Security) Regulations, 2004 (FEMA 120).

Now, the Reserve Bank of India (RBI) has brought in a Draft Foreign Exchange Management (Overseas Investment) Regulations, 2021, and Draft Foreign Exchange Management (Non-debt Instruments - Overseas Investment) Rules, 2021. It has invited public comments on these. The new regime would bring about a sea change. However, there is scope for more refinement before it comes into effect.

Overseas direct investment

This concept from FEMA 120 has been expanded by the 2021 Rules. FEMA 120 broadly covered the primary and secondary acquisition of shares in a foreign entity but did not include portfolio investments. Under the 2021 Rules, "overseas direct investment" (ODI) distinguishes between investment in unlisted and listed entities; and includes sponsor contribution to fund vehicles.

For listed entities, the investment size should be equal to or more than 10 per cent, mirroring the definition of FDI. Investments in energy and agricultural space are specifically addressed. This poses interpretation challenges and is discussed contextually.

Energy sector

Acquisition of "Participating interest/ right" in the energy sector constitutes ODI. There are multiple questions that arise from here. In the first instance, "Participating interest/right" is not defined. It would be important for the 2021 Rules to specify that this would imply some form of management control and/or economic interest in a foreign entity (as defined in the 2021 Rules), rather than a commercial/contractual right to use energy assets such as gas pipelines or power distribution cables.

The 2021 Rules also define "strategic sectors" to include energy and natural resources sectors such as oil, gas, coal and mineral ores or any other sector that may be advised by the Central government. However, the definition of ODI singles out only the energy sector, not the "strategic sector"; thereby excluding the natural resources sector. Not only is the reason for this unclear, but the practical distinction would also be difficult.

For instance, is coal to be counted as energy sector or natural resources sector? Furthermore, it is unclear whether overseas investments in non-energy strategic sectors should only be through routes other than ODI - such as overseas portfolio investment (thus, largely in listed securities and governed by Schedule II of the 2021 Rules) or other forms of financial commitments (which the 2021 Regulations cover as debt, guarantee, pledge or charge).

Under the circumstances, it is to be considered whether the construct of participating interest/rights and energy sector at all need to remain specifically in the definition of ODI.


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