The COVID-19 pandemic and resultant nationwide lockdown announced by the Central government has brought the Indian economy to a grinding standstill.

This has adversely impacted businesses across all sectors and thrown challenges such as cash crunch/liquidity issue, working capital requirement, reduction in demand for goods and services.

These issues have made several Indian enterprises financially weak and susceptible of being acquired/taken over by other businesses, especially foreign conglomerates/entrepreneurs.

The issues set forth above grabbed the spotlight when on April 13, it was widely reported across the media that Bank of China had acquired approximately 1% shares in HDFC Bank Limited,one of the largest private commercial banks in India.

Bank of China already owned 0.8% shares in HDFC Bank, and approximately 1% shareholding in such a big listed entity does not give any authority to the Bank of China in the management of HDFC Bank.

However, strong global as well as domestic anti-China sentiment sparked fears that Chinese investors/businesses will take advantage of the COVID-19 pandemic to acquire financially weak businesses in India, and Indian companies and businesses are vulnerable to such hostile takeover.

Consequently, in a prompt and swift move, the Department for Promotion of Industry and Internal Trade issued Press Note No.3 amending the Consolidated FDI Policy, 2017. Now, investment from any country sharing land borders with India or investment by entities whose ultimate beneficiary are persons from any country sharing land borders with India, shall require prior government approval for making such investment.

Thus, the Press Note states FDI investment from China, Pakistan, Nepal, Bhutan, Bangladesh and Myanmar, through subscription of shares or transfer of existing shareholding, will require prior government approval regardless of the sector in which such investment is proposed, nature of project, nature of entity etc.

Impact of the Press Note

The Press Note is categorically adverse to the business ethos and corporate environment. Not only does it impact the future inflow of the foreign capital from certain jurisdictions, it also creates an adverse business environment for existing investors from the said countries.

Needless to say, the Press Note is arbitrary in nature and has been issued on the basis of general public sentiment, on a presumption that investors from land bordering nations of India will attempt at hostile takeover.

Certain adverse effects of the Press Note have been provided below:

(a) Firstly, the requirement of government approval alters the position in law on the basis of which foreign investors have invested in India. There are several leading Indian businesses which are backed by Chinese funds and requirement of government approval even for transfer of shares creates unnecessary fetters and bottlenecks for such foreign investors in exiting from the companies.

(b) Secondly, the government has failed to acknowledge the fact that medium and large businesses have multiple investors and such requirement of government approval without threshold affects the manner in which these investors undertake inter se transfers, without affecting the control of the investee entities.

(c) Thirdly, amidst the COVID-19 pandemic, the existing investors which have already invested in companies and run a risk of decreasing valuations are more incentivised to make further investments in India to assist businesses to remain afloat rather than new investors. However, the Press Note creates a negative investor sentiment and discourages existing investors to pump further funds.

(d) Fourthly, the Press Note fails to acknowledge that large Chinese MNCs have invested in India through FDI mode by setting up their subsidiaries in India. Such a move by the government directly affects the financing abilities of such subsidiaries operational in India.

(e) Fifthly, the Press Note does not define the term “takeover/acquisition”. It solely construes takeover by way of acquisition of shareholding in an entity. However, it must be noted that an investor may acquire control/takeover in several other ways such as acquisition of management rights, appointment of directors, voting rights etc.

(f) Lastly, whilst the intent to even include investor entities whose ultimate beneficiaries are residents of border sharing countries, the Press Note fails to acknowledge that a large number of investments are being made through funds, venture capital, private equity or otherwise, where the investor is merely an investment pooling vehicle.

In such a case, the fund may in effect merely have a minority of its unitholders from border sharing countries and it is wholly arbitrary that even such entities are required to obtain government approval before investing.

Whilst the intent of the government to protect the Indian businesses from being a casualty of the lockdown may be noble, from a constitutional viewpoint, it appears that the Press Note creates unreasonable class which is devoid of any nexus with the object being sought to be achieved by it. Furthermore, the Press Note also affects the right of Indian entrepreneurs to conduct their businesses as per their choice.

Manifest Arbitrariness – Ground for Judicial Review of Policy decision

The amendments to the Consolidated FDI Policy have been backed by another delegated legislation in the form of FEM (NDI) Amendment Rules. Ordinarily, the government is responsible to the Parliament and accordingly, the judiciary does not sit to adjudicate the question over the vires of the policy.

However, in the case of Ehsan Khalid v. Union of India & Ors., the Supreme Court held that when the economic policy is manifestly arbitrary, the same can be set aside by it. Similarly, the Supreme Court in Manohar Lal Sharma v. Union of India held as under:

“14. On matters affecting policy, this Court does not interfere unless the policy is unconstitutional or contrary to the statutory provisions or arbitrary or irrational or in abuse of power. The impugned Policy that allows FDI up to 51% in multi-brand retail trading does not appear to suffer from any of these vices.”

The Press Note propagates unreasonable classification and arbitrariness

It is trite law that the protection under Article 14 is available to all persons and is not restricted only to the citizens of this country.Though Article 14 forbids class legislation, it does not forbid reasonable classification for the purposes of a law.

In the case of AP Dairy Development Corporation Federation v. B Narasimha Reddy, the Supreme Court held that it is permissible in law to have class legislation provided that classification is founded on intelligible differentia and that differentia must have a rational relation to the object sought to be achieved by the statute in question.

The Press Note creates a classification qua the entities/investors requiring prior government approval for FDI in India basis its territorial location. However, there is no intelligible differentia in classifying the foreign investors on the basis of their territoriality.

It must be noted that as per Quarterly Fact Sheet on FDI for December 2019 released by the Department for Promotion of Industry and Internal Trade, total FDI equity inflow from April 2000 to December 2019 for countries sharing land borders with India are:

(a) China – Rs.14,846.01 crores (0.51% of total inflows);

(b) Nepal – Rs.18.18 crores (0%);

(c) Bangladesh – Rs.0.48 crores (0%) and;

(d) Myanmar – Rs.35.78 crores (0%).

On the other hand, jurisdictions such as Mauritius (31% of total inflows), Singapore (21% of total inflows), Japan (7% of total inflows), from where majority of FDI comes into the country, are outside the purview of the government approval for making investment through FDI route.

Simultaneously, sight must not be lost of the object of the Press Note which is provided in the subject of the Press Note and is extracted hereinbelow:

“Review of Foreign Direct Investment (FDI) policy for curbing opportunistic takeovers / acquisitions of Indian companies due to the current COVID-19 pandemic.”

It is evident that the object sought to be achieved is to curb opportunistic takeover/acquisition of Indian companies. However, the classification created by the Press Note has no nexus with the said object. It puts an embargo on the countries which have minimal FDI investment in India, while countries from where there is maximum inflow of FDI are not covered thereby rendering the object of the Press Note wholly redundant.

Additionally, the Press Note puts a blanket embargo on primary as well as secondary transactions without distinguishing between unlisted and listed entities, private limited companies and public companies, brownfield projects and greenfield projects, and micro enterprises and multinational conglomerate etc.

All foreign investments are made in a country upon presumption of stability of the business environment. The Press Note alters the whole premise upon which a foreign investor has invested in India, as it unilaterally alters the manner in which an existing foreign investor may exit from any Indian entity.

In catena of Judgments, the Supreme Court has held that any law which is arbitrary shall be violative of Article 14 of the Constitution. From the foregoing, it is amply clear that the Press Note grants uncanalised discretion upon the government to approve or reject a particular transaction and hence is wholly arbitrary.

The Press Note is violative of the Right to Conduct Business

Article 19(1)(g) of the Constitution provides to all citizens, a right to practice any occupation, trade or business of their choice. However, the Press Note transgresses the right of the entrepreneurs to freely and liberally seek funding from investors located in certain jurisdictions.

The Press Note directly creates a hostile business environment and discourages investors from investing in India, thereby depriving the Indian businessmen from raising funds, especially amidst the COVID-19 pandemic, when several businesses are facing liquidity crunch and investor sentiment is by and large negative.

Moreover, the Press Note directly affects businesses that already have FDI from investors of countries sharing land borders with India. A large number of Indian businesses such as PayTM, OLA, Swiggy etc. have received investments from Chinese investors.

In crisis times such as these, it is very difficult for businesses to scout for new investors. Thus, the Press Note is directly in violation of Article 19(1)(g) of the Indian entrepreneurs.

It must also be noted that the Press Note requires all investors from countries sharing land borders with India to seek permission of the government before investing. Such a blanket requirement without any guidance or thresholds cannot fall within the ambit of reasonable restrictions under Article 19(6) of the Constitution.

However, I believe that the intent of the government to protect Indian companies from foreign conglomerates seeking to takeover viable but struggling businesses during the COVID-19 pandemic is not misplaced. The Press Note ought to be tweaked to achieve the purpose.

Accordingly, it is suggested that the FDI policy need not be based on territory, but on shareholding thresholds proposed to be acquired by the investor and exercise of “control” by such investor over Indian investee companies, regardless of the nationality of the investor.

The FDI policy can be amended in a manner such that any transactions which exceed the aggregate shareholding of the foreign investor above 26%, or any transaction wherein the investor shall have ‘control’ over the Indian investee company (except where Indian investee company is a subsidiary), shall be required to obtain approval from the government.

The author is an Associate at Wadia Ghandy & Co.