Possible Liberalization in FDI Pricing Guidelines

Despite the progressive opening up
of the Indian economy to foreign investment in 1991, there has been tight
control over the entry and exit prices for foreign investors into and from
investments in Indian companies through the foreign direct investment route
(FDI). While the initial approach was to benchmark the transaction prices to
the erstwhile formula prescribed by the Controller of Capital Issues (CCI),
more lately (since 2010) the benchmark was altered
to the discounted cash flow (DCF) valuation. While unlisted company investments
were subject to these benchmarks, listed companies were entitled to the benefit
of market efficiency and prevailing stock exchange prices that provided proxies
for company valuation. Further
were made more recently in January this year.
Latest reports and analyses (here
and here)
have alerted us to the possibility that the Reserve Bank of India (RBI) is set
to further rationalize the pricing of entry and exit of foreign investment into
Indian companies. This is based on a statement in the First Bi-monthly Monetary
Policy Statement, 2014-15 by Dr. Raghuram Rajan, Governor of the RBI, as
As regards foreign
direct investment (FDI), it has been decided to withdraw all the existing
guidelines relating to valuation in case of any acquisition/sale of shares and
accordingly, such transactions will henceforth be based on acceptable market
practices. Operating guidelines will be notified separately.
This potential change represents an
important development in FDI structuring. Hitherto, investors have been
hamstrung by unduly stringent pricing norms that have adversely affected the
commercials of investment transactions. While entry-pricing norms for FDI have
imposed floor prices on foreign investors thereby disabling them from investing
at low prices (that may be necessary for specific types such as early-stage
investments), the exit pricing norms have imposed caps that disallow foreign
investors from exiting their Indian investments at commercially attractive
prices. The policy rationale for the pricing norms is understandable – as it is
a measure of regulating the inflow and outflow of foreign exchange. However,
the rigidity in its implementation acts as a disincentive to foreign
investments and not only curbs foreign investors from investing into India but
also limits the availability of foreign capital to Indian companies.
The regulatory progression in the
recent years coupled with the latest announcement seems to rationalize the
policy in a manner that favours foreign investment. It is certainly not the
case that FDI pricing must be free from any regulation whatsoever so as to
permit the parties to contractually determine any manner of pricing conditions.
That might move matters away from the policy goal of regulating foreign
exchange, a role that the RBI has discharged quite effectively over the years.
However, the pricing norms must be in tune with reality and must provide the necessary
flexibility to promote ordinary commercial transactions without imposing
unnecessary hindrances.

the same time, what we currently have is only a broad policy pronouncement. It is
necessary to await the details in the form of “operating guidelines” before
their efficacy or impact can be judged more specifically.

About the author

Umakanth Varottil

Umakanth Varottil is an Associate Professor at the Faculty of Law, National University of Singapore. He specializes in corporate law and governance, mergers and acquisitions and cross-border investments. Prior to his foray into academia, Umakanth was a partner at a pre-eminent law firm in India.

1 comment

    'Liberalisation'!- Concerned/responsible authorities or bureaucrats, for that matter even the self-professed 'economic experts' all around, may, to save own face(s), choose to SO call or dub the foreseen new developments. Nonetheless, the fact of life/the underlying truth, easily decipherable if were to care to be guided by common sense, in one's long-standing conviction, is , – this is yet another instance of its not-so unfamiliar type but off and on come across, – a 'climb down' or 'roll back' of decisions taken earlier in the name of 'policy making' , with no proper application of mind /home work- any second opinion ?
    But then all such ongoing experiments('shifting sands' or 'turn coat'!) are, from the viewpoint of the national economic welfare, at WHAT/WHOSE COST is the intricate point for deliberation ? Any 'intelligent' thoughts?

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