Rahul Sinha*
According to a report by Business line, the government is thinking to cap royalty payment to foreign firms. This move is expected to be taken up in cabinet sometime soon. As the same report, “Increased royalty payments deplete forex reserve. Also, we should not forget that as royalty payments are charged to revenue, it results in reduced or even no distribution of dividend which means domestic shareholders are at loss while foreign shareholders are in advantageous position”. This however could go against the investment scenario that India is building to the very programs that it has started to attract foreign players.
The Statement on Industrial Policy, 1991, tabled in Parliament in 1991, prescribed 5 per cent of royalty for domestic sales and 8 per cent for exports subject to total payments of 8 per cent of sales over a 10-year period from date of agreement or 7 years from commencement of production. This was applicable on automatic permission for any FDI proposal with lumpsum payment not exceeding Rs. 1 crore. This limit was raised to $2 million in 1996 and time limit for royalty payment was removed in 2003.
“Make in India” was started 4 years back by our prime minister, Mr. Narendra Modi with a view that it will attract foreign manufacturers to come and set up in India. This would have led to increase in GDP, employment opportunity and forex. The initiative received praises everywhere and India received close to 1 lakh of investment inquiry. But this whole initiative could come under standstill if the cap on royalty payment is made.
December 26, 2018 DIPP issued Press note no 2 (2018 series) which clarified that e commerce market players cannot sell their own products online, which though was praised by small traders and the ministry stated that it will allow a level playing field. It didn’t stand true and it will hamper the Start Up India as the laws are not looking to be stable. Both Amazon and Flipkart stated that they were not consulted and have asked for more time to comply as they will not only have to re-negotiate every contract the whole business model must be revamped. And it’s not that offline stores do not have their own brand selling in the store. Croma a brand owned by TATA also sells Voltas products in their store, another brand owned by TATA, same goes true for Fashion Big Bazaar or More or others.
Similarly, an exclusive agreement is a business decision that a company takes based on various factors. A blanket ban on such agreements is not right. When Oppo and Vivo were launched they expanded in the offline market first where the incentive was being paid for getting the best shelf, the most viewing, and high commission on every sale, all of that has stopped now. Business should be free to take business decisions.
The capping on royalty payment could be another move that could hamper the investment scenario in India. Existing regulations permit all companies, irrespective of the extent of foreign equity in the shareholding, to pay royalty of up to 5 per cent on domestic sales and 8 per cent on exports without any restriction on the duration of payment. This is applicable to technical collaborations with technology transfer. There is no need to take approval from the government. However, all payments will be subjected to FEMA (Foreign Exchange Management Act) Regulations.
This move is not fair to the foreign companies itself. They have made billions of investments in the country and the shareholders should except the return on investment. HUL raised the royalty payment to 3.5% last year, which is well below the 5% limit. Vodafone have made investment in billions of dollars and has committed to make investment in the future too which will lead to job creation, they need to be rewarded for their efforts.
Another legality to be taken into consideration is sheer number of Free Trade Agreements that India has. The chances are that the royalty payment to foreign corporation are being taxed in one or other jurisdiction, hence putting a cap on royalty payment may not be feasible at all. Also, a cap on royalty payment may discourage FDI inflow which would further deplete the foreign reserve.
The move should be made after a thorough study of the feasibility of such efforts and incentive have to be given to foreign counterparts for them to continue investment in India.
{Author Rahul Sinha is a consultant in EY}
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