INDIA BUSINESS WORLD - APRIL 2007
The Month that was ...

FII TO COMPLY WITH FDI NORMS

IN A move that has major ramifications for foreign institutional investors (FIIs) and real estate companies, the finance ministry has concluded that all pre-IPO placements to FIIs by realty players should adhere to foreign direct investment (FDI) regulations applicable to the sector. This means that all such investments would be subject to three-year lock-in, minimum capitalization of $5 million and development of at least 10 hectares of land.

A detailed proposal to this effect has been sent by the finance ministry for the consideration of the Cabinet Committee on Economic Affairs (CCEA).

The finmin stand-based on inputs provided by the Reserve Bank of India (RBI)-has the potential to slow down FII investment in realty companies.

It runs counter to the views the of Department of Industrial Policy and Promotion (DIPP) and the Securities and Exchange Board of India (Sebi) that pre-IPO placements should be considered as portfolio investment. All FII investments should flow in through the portfolio management scheme, DIPP had said during discussions on FDI in real estate.

Nearly half of the over $4-billion foreign investments that flowed into real estate in 2006 was through private placements. If CCEA endorses North Block's view, all forms of private placements or preferential allotments by real estate firms would be covered under the FDI stipulations, top government sources said.

RBI has opined that pre-IPO FII investments cannot be treated as portfolio investments. Under the Foreign Exchange Management Act (Fema), FII placements were originally envisaged as broker-intermediated transactions on the stock exchange and, therefore, formed part of portfolio flows. This is not the case anymore since regulations have been liberalized over the years to enable FIIs to invest in unlisted securities and private placements which are in the nature of FDI, RBI has emphasized.

The finmin backs this. "...there is a need to interpret the extant Fema regulations with regard to the treatment of FII investments in all pre-IPO private placements in view of the sector specific FDI policy. All pre-IPO private placements with FIIs should be reckoned as FDI and comply with the FDI norms," says a ministry communication.