The government on Monday reversed a month-old order that said equity shares issued by Indian companies to foreign investors with a put option will not be considered as foreign direct investment (FDI) after it faced stiff opposition from foreign investors, including private equity firms.
A put option gives an investor the right, but not the obligation, to sell a specified amount of an underlying security at a specified price within a specified time.
The department of industrial policy and promotion (DIPP) in its mid-year review of FDI policy on 1 October had made the change which has now been annulled, the department said in a statement.
The earlier restriction issued as a part of the consolidated FDI policy held that only equity shares which are fully, compulsorily and mandatorily convertible preference shares, with no in-built options would qualify as eligible instruments for FDI.
Equity instruments with in-built options would be considered as debt and have to comply with the external commercial borrowing guidelines issued by the Reserve Bank of India.
Earlier this month, in a letter to the finance ministry, the DIPP had said that it had tightened the rules at the instance of the Reserve Bank India.
Following the change, “we have received feedback from a number of stakeholders stating it could have negative fallout, particularly for the SME (small and medium enterprises) sector,” the letter said.
While foreign investors such as private equity firms considered the change as an end to a legitimate exit option for them, RBI has been arguing that such investments are actually debt masquerading as equity investments and hence need to be plugged.
“The amendment was very ambiguous and it was leading to drastic intepretations. It is good that the deletion of the relevant clause has come pretty soon and hopefully it will provide some protection to private equity investors as per internationally acceptable practice,” said Rustom Batlivala, chief finance officer with Matrix India Asset Advisors Pvt. Ltd.
Ganesh Raj, partner at the Ernst and Young said while this is an welcome move from the investor point of view, the central bank never wanted put or call options to be considered as FDI.
“It always considered it as debt. That concern continues,” he said.
Foreign direct investment in India surged 50% to $20.76 billion in the first eight months of 2011 from a year earlier, according to the industry ministry’s latest data.
During the same period last year, the country attracted FDI worth $13.85 billion. The sectors that attracted maximum FDI this year include financial and non-financial services, telecom, property, construction and power.
PTI contributed to this story.