What is Foreign Direct Investment ?

Foreign Direct Investment (FDI) is when a company or individual from one country invests in business interests located in another country. It typically involves establishing foreign business operations or acquiring assets in a foreign company, rather than simply buying securities of foreign-based companies.FDI is crucial for India's economic growth and is considered an attractive location for investment. Japan's Bank of International Cooperation consistently rates India as a promising country for overseas business operations.

Foreign direct investments are commonly made in open economies with skilled workforces and growth prospects. They often involve more than just capital investment, including management and technology transfer. FDI aims to establish control or substantial influence over foreign businesses.

In 2018, the Bureau of Economic Analysis reported $253.6 billion in FDI in the U.S., with the chemicals industry being the top recipient.FDI can occur through subsidiary creation, acquiring a controlling interest in a foreign company, or mergers and joint ventures. A minimum 10% ownership stake in a foreign company is a common threshold for establishing controlling interest.

Who can invest in India depends on the Foreign Direct Investment (FDI) policy. Non-residents can invest, except in prohibited sectors. Foreign Institutional Investors (FII) or Foreign Portfolio Investors (FPI) can invest in Indian companies within specified limits. Special permissions are needed for citizens and entities from Bangladesh.Recent FDI policy amendments aim to discourage opportunistic investments in Indian companies by neighboring countries like China during the COVID-19 pandemic. Investments from countries sharing land borders with India now require government approval.

India has two routes for FDI: 

1. Automatic Route

• No Prior Approval: Under the Automatic Route, foreign investors do not need prior approval from the Reserve Bank of India (RBI) or the Indian government to make investments in most sectors.
• Simplified Process: This route simplifies the process for foreign investors, making it relatively quick and straightforward to invest in India.
• Sectors Covered: Many sectors fall under the Automatic Route, including agriculture, automobile, biotechnology, construction, healthcare, information technology, and more.
• Percentage of Ownership: In some sectors, foreign investors can have 100% ownership of the business without seeking prior approval.

2. Government Route:

• Mandatory Approval: The Government Route requires foreign investors to obtain approval from the Indian government, specifically the respective ministry or department, before making an investment in certain sectors.
• Controlled Process: This route involves a more controlled and regulated process, where the government assesses the investment proposal in detail.
• Sectors Covered: Sectors that are considered more sensitive or strategic often fall under the Government Route. Examples include banking and the public sector, broadcasting content services, defense, and more.
• Ownership Caps: In these sectors, there are ownership caps, and foreign investors must abide by these limits. The percentage of foreign ownership allowed may vary from sector to sector

It's important to note that the Indian government periodically reviews and updates the sectors that fall under the Automatic and Government Routes. Foreign investors should always check the latest FDI policy and guidelines to ensure compliance.In summary, the Automatic Route allows foreign investors to invest in most sectors without prior approval, while the Government Route requires mandatory approval for investments in specific sensitive sectors. The choice of route depends on the sector and the percentage of foreign ownership desired by the investor.

There are different caps on FDI in various sectors under these routes, ranging from 100% in some sectors to 26% in others. Some industries have strict prohibitions against FDI.In summary, Foreign Direct Investment is a significant driver of India's economic growth, and its regulations are designed to attract foreign investors while protecting certain sectors from undue influence or control. India offers both automatic and government routes for FDI, with various sector-specific caps and prohibitions. These regulations are subject to changes over time, so it's essential to stay updated with the latest policies.

How a Foreign Direct Investment Works

Foreign direct investments are commonly made in open economies that offer a skilled workforce and above- average growth prospects for the investor, as opposed to tightly regulated economies. Foreign direct investment frequently involves more than just a capital investment. It may include provisions of management or technology as well. The key feature of foreign direct investment is that it establishes either effective control of or at least substantial influence over the decision-making of a foreign business. The Bureau of Economic Analysis (BEA), which tracks expenditures by foreign direct investors into U.S. businesses, reported total FDI into U.S. businesses of $253.6 billion in 2018. Chemicals represented the top industry, with $109 billion in FDI for 2018. Foreign direct investments can be made in a variety of ways, including the opening of a subsidiary or associate company in a foreign country, acquiring a controlling interest in an existing foreign company, or by means of a merger or joint venture with a foreign company. The threshold for a foreign direct investment that establishes a controlling interest, per guidelines established by the Organisation of Economic Co-operation and Development (OECD), is a minimum 10% ownership stake in a foreign-based company. However, that definition is flexible, as there are instances where effective controlling interest in a firm can be established with less than 10% of the company's voting shares.

Who can invest in India?

A non-resident can invest in India subject to FDI policy except in those sectors which are prohibited. An FII or FPI may invest In the capital of an Indian economy under the portfolio investment schemes which limits the individual holding FII or FPI below 10% of the capital of the Company. The aggregate limit of investment is 24% of the capital of the company. The aggregate limit can be increased to the sectorial cap as applicable by Indian company concerned through a resolution by its bord of director followed by special resolution to that effect and subject to prior intimation to RBI. However, a citizen of Bangladesh or an entity established in Bangladesh can invest only under government route.