Foreign investments into India to acquire equity instruments of an Indian company are primarily regulated in terms of the Foreign Exchange Management (Non-debt Instruments) Rules, 2019 (NDI Rules). ‘Equity Instruments’ means equity shares, convertible debentures, preference shares and share warrants issued by an Indian company. [Rule 2(k) of NDI Rules]

Pursuant to the amendments to Foreign Exchange Management Act, 1999 (“FEMA”) through Finance Act, 2015, the Ministry of Finance notified the said NDI Rules vide Notification No. 3732(E) dated 17th October, 2019. These NDI Rules subsequently were amended by the Foreign Exchange Management (Non-debt Instruments) (Amendment) Rules, 2019 issued on 5th December, 2019.

Also, the RBI issued Foreign Exchange Management (Debt Instrument) Regulations, 2019 (“Debt Instruments Regulations”). Further, consequent to issue of aforesaid NDI Rules by Finance Ministry, RBI has issued Foreign Exchange Management (Mode of Payment and Reporting of Non-Debt Instruments) Regulations, 2019 vide Notification No. G.S.R 795(E) dated 17th October, 2019.

It is pertinent to mention that NDI Rules superseded the Foreign Exchange Management (Transfer or Issue of Security by a Person Resident Outside India) Regulations, 2017 (“TISPRO Regulations”) as well as Foreign Exchange Management (Acquisition and Transfer of Immovable Property in India) Regulations, 2018 (“ATIP Regulations”), whereas, Debt Instruments Regulations only superseded the TISPRO Regulations.

Rule 7 of NDI Rules permits Person Resident outside India (“PROI”) to acquire equity instruments (other than share warrants) issued by Indian Company as right issue or a bonus issue subject to certain conditions thereunder.

The conditions inter alia include-

i. the offer being compliant with the provisions of the Companies Act, 2013;

ii. such issue shall not result in a breach of the sectoral cap applicable to the company;

iii. the shareholding on the basis of which the right issue or the bonus issue has been made must have been acquired and held as per the provisions of these rules;

iv. in case of a listed Indian Company, the rights issue to persons resident outside India shall be at price determined by the company;

v. in case of unlisted Indian company, the rights issue to persons resident outside India shall not be at a price less than the price offered to person resident in India.

vi. such investment made through rights issue or bonus issue shall be subject to the conditions as are applicable at the time of such issue;

vii. the mode of payment and attendant conditions for such transactions shall be specified by the Reserve Bank.

viii. an individual who is a person resident outside India exercising a right which was issued when he or she was a person resident in India shall hold the equity instruments (other than share warrants) so acquired on exercising the option on a non-repatriation basis.

Earlier, an explanation to the said Rule (i.e. Rule 7) clarified that these conditions would apply to a PROI acquiring equity instruments pursuant to renunciation of a rights issue as well. This meant that a PROI, not even being an existing shareholder, could acquire equity instruments under the renunciation route at the applicable rights issue price.

Explanation to Rule 7 of NDI Rules read as –

“The above conditions shall also applicable in case of person resident outside India makes investment in equity instruments (other than share warrants) issued by an Indian Company as a rights issue that are renounced by the person to whom it was offered.”

It is clear that the Companies Act, 2013 does not prescribe any valuation norms for a rights issue and the board of directors of a company is free to determine the same. Therefore, the same can be an easier route for the company to issued shares to PROI without following the pricing guidelines provided in Rule 21 of NDI Rules.

Now, a recent amendment to NDI Rules has clarified that any acquisition of shares by PROI pursuant to renunciation of rights by a resident will be subject to FEMA pricing guidelines. The Department of Economic Affairs, Ministry of Finance, on 27 April 2020 notified the Foreign Exchange Management (Non-debt Instruments) (Second Amendment) Rules, 2020 (“NDI Amendment”) which inter alia amended Rule 7 of the NDI Rules.

The NDI Amendment has omitted the aforesaid explanation and further a new Rule 7A has been inserted which states that ‘a person resident outside India who has acquired a right from a person resident in India who has renounced it may acquire equity instruments (other than share warrants) against the said rights as per pricing guidelines specified under rule 21 of these rules’.

Disclaimer: Nothing contained in this document is to be construed as a legal opinion or view of either of the authors whatsoever and the content is to be used strictly for educative purposes only.

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