1.1. The regulatory regime governing foreign portfolio investors (“FPIs”) in India has been in the process of overhauling since a while. While the regulator has been focusing on providing continuous guidance (circulars/ consultation papers) to keep in line with the changing trends and economic outlooks; the support systems, through the working committees, have been providing recommendations on how the FPI regulatory landscape can be made more robust and business friendly.
1.2. In line with the recommendations and to cater to the market needs, the Securities and Exchange Board of India (“SEBI”) has, on September 23, 2019, notified the (Foreign Portfolio Investors) Regulations, 2019 (“2019 FPI Regulations”).
1.3. To facilitate implementation of the 2019 FPI Regulations, SEBI has also, on November 5, 2019, issued the consolidated operational guidelines (“Operational Guidelines”), collectively with 2019 FPI Regulations, referred to as the “2019 FPI Regime”.
2. What changes are we looking at in the 2019 FPI Regime ?
2.1. The categorization of FPIs and the criteria for categorization, both of which form the core of an FPI, have been overhauled. Under the 2019 FPI Regime, there are only 2 categories of FPIs, i.e. Category I and Category II FPIs. The erstwhile Category I and II have been broadly clubbed under Category I FPIs under the 2019 FPI Regime and Category III has now become Category II.
In terms of the criteria for FPI categorisation, the focus has, to a certain extent, moved to entities which are from a Financial Action Task Force (“FATF”) member country. For example, a FPI entity which is not from a FATF member country would generally not obtain Category I FPI registration unless such an entity is (i) controlled by an investment manager, from a FATF member jurisdiction, which is registered as a Category I FPI, and/or (ii) owned atleast 75% by certain specified Category I eligible entities. This certainly will be a breather for entities coming from such non FATF member jurisdictions, which jurisdictions may continue to be one of the top picks for FPIs even today for tax or other reasons.
2.2. Given the role of the investment manager becoming even more relevant under the 2019 FPI Regime, the definition of investment manager has also been relooked at, to ensure that an investment advisor, typically having a limited or no discretionary powers, does not fall within the definition of an investment manager.
2.3. Another key change has been the removal of concepts (and related restrictions and requirements) relating to ‘broad based funds’ and ‘opaque structures’ under the 2019 FPI Regime. Structures such as protected cell companies, segregated portfolio companies, etc. which permit ring-fencing of asset / liabilities’ across cells / share classes can now seek registration as an FPI, subject to beneficial ownership details being provided for each ring fenced structure that invests in India.
2.4. In terms of investments made under this route, the 2019 FPI Regime has provided clarity on certain key aspects which were subject to multiple interpretations in the market, for eg. clarification on the scope of entities which would be covered to be a part of the FPI investor group and other permissible investments which an entity registered as FPI is permitted to make under the Indian foreign exchange laws, etc.
2.5. In terms of investment limits, the 2019 FPI Regime reiterates the earlier position which provided that if the total investments of the FPI (including its investor group) exceeded 10% of the target company, then the excess investments will either have to be divested within 5 trading days or the entire investment by the FPI in such target company would be categorised as a foreign direct investment. This is also in alignment with the recently revised foreign exchange laws with respect to non debt instruments.
2.6. Even in terms of the nature of transactions that can now be undertaken by a FPI without a stock broker, a number of exemptions have been added. Transactions in unlisted securities obtained by FPIs through involuntary corporate actions (mergers / demergers), transaction in delisted/ illiquid securities, are some examples of such transactions that feature in the new exemption list.
2.7. Not only this, under the 2019 FPI Regime, SEBI has, for the first time permitted certain specified appropriately regulated entities (such as banks, investment managers, broker dealers, etc.), to invest on behalf of their clients, subject to such entities seeking a separate Category II FPI registration and meeting certain conditions specified by SEBI.
2.8. On the offshore derivative instrument (“ODI”) front, the 2019 FPI Regime has liberalized types of entities who are now permitted to subscribe to ODIs. SEBI has provided that ODIs can now be held by persons eligible to obtain registration as Category I FPI, as opposed to erstwhile provisions, which required every ODI holder to be an ‘appropriately regulated’ entity.
2.9. Further, while the earlier restrictions imposed by SEBI with respect to ODIs with derivatives as underlying continue to prevail, SEBI has provided certain exceptions where derivatives could be held as underlyer for ODIs. A key requirement for issuing such ODIs is that the ODI issuer needs to obtain a separate FPI license for taking such derivative positions.
3. What next?
The 2019 FPI Regime definitely creates a considerably different and welcoming regulatory framework for FPIs today. With requirements relating to broad based criteria and opaque structure being done away with, FPIs can now focus more on the investments it makes, rather than the number of its investors. Moving away from the requirement of ODI holders being required to be regulated entities is also a positive change by SEBI under the new regime. Entities offshore can also consider multiple routes for investment in India through the same (FPI) entity, so long as the routes are permitted under FEMA.
Needless to add, the Operatiional Guidelines, which are a consolidation of all guidance issued by SEBI for FPIs till date, will work as an easy ready reckoner for the markets, going forward.
The amendments have been a welcome change for the market. The growth numbers, both in terms of business and foreign investments in India will certainly help in evaluating in future, the practical impact of this new regime. While the 2019 FPI Regime certainly provides the Indian markets with a wide array of options, what needs to be seen is what best the market makes out of it.
Rushabh Maniar, Partner
Nikita Chawla, Senior Associate
Sonali Ladha, Associate