Reserve Bank of India updates the Master Direction on Foreign Investment in India

On 20^th January 2025, the Reserve Bank of India has updated ‘Master Direction on Foreign Investment in India [January 12, 2018]’ (“Master Direction”) issued under Section 10(4) and 11(1) of the Foreign Exchange Management Act, 1999 (“FEMA”) read with Rule 2(a)(2) of the Foreign Exchange Management (Non-Debt Instruments) Rules, 2019 (“NDI Rules”).

The revised Master Direction aims to introduce crucial changes, especially in the context of downstream investments, and stock transactions, and further clarifies the regulatory framework for the Foreign-Owned or Controlled Companies in India (“FOCCs”) which are willing to acquire stakes in domestic businesses in India.

Foreign Owned And/or Controlled Company (“FOCC”)

Let us first understand the definition of FOCC as under:

An FOCC is defined as a company where foreign ownership exceeds 50% or where foreign entities exercise control through management rights or board representation.

Key changes as per the revised Master Direction

• Clarification regarding downstream investments: Prior to the revised Master Direction, FEMA and NDI Rules allowed buyers in cross-border equity transfers to defer up to 25% of the total consideration for a period not exceeding 18 months from the date of the transfer agreement. However, the eligibility of FOCCs to utilize this deferred consideration was unclear, leading to divergent interpretations.

  Now, the Master Direction expressly states that arrangements permitted for direct investment under the NDI Rules—such as investment through equity instrument swaps and deferred payment arrangements—are also available for downstream investments by FOCCs, provided they comply with the relevant provisions stipulated under NDI Rules.

• Stock Swap Transactions Approved for Foreign-Owned Companies: Prior to the revised Master Direction, FOCC had limited options when it came to acquiring stakes in local companies. Such acquisitions required specific regulatory clearances or were structured as cash transactions, with FOCCs either bringing in foreign capital or utilizing retained earnings in India.

  The new Master Direction allows the FOCCs to acquire local companies through both stock purchases and share swaps, thereby streamlining the acquisition process.

• Form DI Filing Requirement: as per the revised Master Direction, Investor entities that initially made investments as residents but later become FOCCs are now required to report the reclassification of their investments into downstream investments within 30 days of the change in status.
• Minimum Net Owned Fund (NOF) Criteria: Revised Master direction now allows Indian companies regulated by financial sector regulators to receive foreign investment to meet the minimum NOF or capitalization requirements set by their respective regulators. Such investments are restricted to fulfilling these specific criteria and cannot be utilized for other purposes. If the company fails to obtain the necessary registration or license, the received investment must be repatriated or treated as an investment in a non-operational Indian company.
• Transfer on Deferred Payment Basis: With revised directions, transactions involving deferred payment arrangements, indemnification, or escrow mechanisms are required to be clearly outlined in the share purchase or transfer agreement, including all related conditions.
• Acquisition through Rights Issue: Prior to the revised Master Direction, rights issue over and above the rights entitlement of a person resident outside India could be done on an application made to the Indian investee company and such issuance was subject only to individual or sectoral caps.

  Now, Indian companies can issue equity instruments to non-residents (excluding Overseas Corporate Bodies) during rights issues, provided they adhere to entry routes, sectoral caps, pricing guidelines, and other conditions under the NDI Rules.

• Role of Authorized Dealer Banks: Authorized Dealer Banks are now designated as the primary channel for requests seeking clarification on the foreign investment framework. They have the discretion to forward such requests to the relevant Regional Office of the RBI for further guidance
• Employee Stock Options and Share-Based Benefits: The percentage of foreign investment in Indian companies issuing employee stock options, sweat equity shares, or share-based employee benefits must now be calculated on a fully diluted basis at the time of issuance.

Source:

Reserve Bank of India, Master Direction – Foreign Investment in India, RBI/FED/2017-18/60, Master Direction No.11/2017-18 as updated as on January 20, 2025

https://www.rbi.org.in/Scripts/BS_ViewMasDirections.aspx?id=11200#