An analytical study of foreign direct investment in india

“AN ANALYTICAL STUDY OF FOREIGN DIRECT INVESTMENT IN INDIA

1.1 Introduction and overview

What is Foreign Direct Investment?

Meaning:

These three letters stand for foreign direct investment. The simplest explanation of

FDI would be a direct investment by a corporation in a commercial venture in another

country. A key to separating this action from involvement in other ventures in a foreign

country is that the business enterprise operates completely outside the economy of the

corporation’s home country. The investing corporation must control 10 percent or more of the

voting power of the new venture.

According to history the United States was the leader in the FDI activity dating back as far

as the end of World War II. Businesses from other nations have taken up the flag of FDI,

including many who were not in a financial position to do so just a few years ago.

The practice has grown significantly in the last couple of decades, to the point that FDI has

generated quite a bit of opposition from groups such as labor unions. These organizations

have expressed concern that investing at such a level in another country eliminates jobs.

Legislation was introduced in the early 1970s that would have put an end to the tax incentives

of FDI. But members of the Nixon administration, Congress and business interests rallied to

make sure that this attack on their expansion plans was not successful. One key to

understanding FDI is to get a mental picture of the global scale of corporations able to make

such investment. A carefully planned FDI can provide a huge new market for the company,

perhaps introducing products and services to an area where they have never been available.

Not only that, but such an investment may also be more profitable if construction costs and

labor costs are less in the host country.

ALLIANCE BUSINESS ACADEMY

AN ANALYTICAL STUDY OF FOREIGN DIRECT INVESTMENT IN INDIA

The definition of FDI originally meant that the investing corporation gained a significant

number of shares (10 percent or more) of the new venture. In recent years, however,

companies have been able to make a foreign direct investment that is actually long-term

management control as opposed to direct investment in buildings and equipment.

FDI growth has been a key factor in the “international” nature of business that many

are familiar with in the 21st century. This growth has been facilitated by changes in

regulations both in the originating country and in the country where the new installation is to

be built. Corporations from some of the countries that lead the world’s economy have found

fertile soil for FDI in nations where commercial development was limited, if it existed at all.

The dollars invested in such developing-country projects increased 40 times over in less than

30 years. The financial strength of the investing corporations has sometimes meant failure for

smaller competitors in the target country. One of the reasons is that foreign direct investment

in buildings and equipment still accounts for a vast majority of FDI activity. Corporations

from the originating country gain a significant financial foothold in the host country. Even

with this factor, host countries may welcome FDI because of the positive impact it has on the

smaller economy.

Foreign direct investment (FDI) is a measure of foreign ownership of productive

assets, such as factories, mines and land. Increasing foreign investment can be used as

one measure of growing economic globalization. Figure below shows net inflows of

foreign direct investment as a percentage of gross domestic product (GDP). The largest

flows of foreign investment occur between the industrialized countries (North

America, Western Europe and Japan).But flows to non-industrialized countries are


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increasing sharply. Foreign direct investment (FDI) refers to long term participation by

country A into country B.

It usually involves participation in management, joint-venture, transfer of

technology and expertise. There are two types of FDI: inward foreign

direct investment and outward foreign direct investment, resulting in

a net FDI inflow (positive or negative) .Foreign direct investment reflects the objective of

obtaining a lasting interest by a resident entity in one economy (‘‘direct investor’’) in an

entity resident in an economy other than that of the investor (‘‘direct investment

enterprise’’).The lasting interest implies the existence of a long-term relationship between the

direct investor and the enterprise and a significant degree of influence on the management of

the enterprise. Direct investment involves both the initial transaction between the two entities

and all subsequent capital transactions between them and among affiliated enterprises, both

incorporated and unincorporated.

• Foreign Direct Investment – when a firm invests directly in production or other

facilities, over which it has effective control, in a foreign country.

• Manufacturing FDI requires the establishment of production facilities.

• Service FDI requires building service facilities or an investment foothold via capital

contributions or building office facilities.

• Foreign subsidiaries – overseas units or entities.

• Host country – the country in which a foreign subsidiary operates.

• Flow of FDI – the amount of FDI undertaken over a given time.

• Stock of FDI – total accumulated value of foreign-owned assets.

• Outflows/Inflows of FDI – the flow of FDI out of or into a country.


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• Foreign Portfolio Investment – the investment by individuals, firms, or public

bodies in foreign financial instruments.

• Stocks, bonds, other forms of debt.

• Differs from FDI, which is the investment in physical assets.

1.2 Definition

Foreign direct investment is that investment, which is made to serve the business

interests of the investor in a company, which is in a different nation distinct from the

investor's country of origin. A parent business enterprise and its foreign affiliate are the two

sides of the FDI relationship. Together they comprise an MNC.

The parent enterprise through its foreign direct investment effort seeks to exercise substantial

control over the foreign affiliate company. 'Control' as defined by the UN, is ownership of

greater than or equal to 10% of ordinary shares or access to voting rights in an incorporated

firm. For an unincorporated firm one needs to consider an equivalent criterion. Ownership

share amounting to less than that stated above is termed as portfolio investment and is not

categorized as FDI.

FDI stands for Foreign Direct Investment, a component of a country's national financial

accounts. Foreign direct investment is investment of foreign assets into domestic structures,

equipment, and organizations. It does not include foreign investment into the stock markets.

Foreign direct investment is thought to be more useful to a country than investments in the

equity of its companies because equity investments are potentially "hot money" which can

leave at the first sign of trouble, whereas FDI is durable and generally useful whether things

go well or badly.

FDI or Foreign Direct Investment is any form of investment that earns interest in enterprises

which function outside of the domestic territory of the investor. FDIs require a business


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relationship between a parent company and its foreign subsidiary. Foreign direct business

relationships give rise to multinational corporations. For an investment to be regarded as an

FDI, the parent firm needs to have at least 10% of the ordinary shares of its foreign affiliates.

1.3 History

In the years after the Second World War global FDI was dominated by the United

States, as much of the world recovered from the destruction brought by the conflict. The US

accounted for around three-quarters of new FDI (including reinvested profits) between 1945

and 1960. Since that time FDI has spread to become a truly global phenomenon, no longer

the exclusive preserve countries.

FDI has grown in importance in the global economy with FDI stocks now constituting

over 20 percent of global GDP. Foreign direct investment (FDI) is a measure of foreign

ownership of productive assets, such as factories, mines and land. Increasing foreign

investment can be used as one measure of growing economic globalization. Figure below

shows net inflows of foreign direct investment as a percentage of gross domestic product

(GDP). The largest flows of foreign investment occur between the industrialized countries

(North America, Western Europe and Japan). But flows to non-industrialized countries are

increasing sharply.

Foreign Direct investor

A foreign direct investor is an individual, an incorporated or unincorporated public or

private enterprise, a government, a group of related individuals, or a group of related

incorporated and/or unincorporated enterprises which has a direct investment enterprise – that

is, a subsidiary, associate or branch – operating in a country other than the country or

countries of residence of the foreign direct investor or investors.


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1.4 Main Theories of FDI

There have been a prolific number of empirical studies on the determinants and motives of

FDI. Some studies have concentrated upon the ownership specific advantages of the foreign

Firms which are necessary to out weigh the disadvantage of being foreign. These studies

have tried to find out the significance of various ownership advantages arising due to

propriety knowledge, financial assets, product differentiation, plant economic of scale, size of

the firm and multi-plant operations etc. We hereby categorizes such theories as external

(supply-side) approaches. Other studies have focused on the location specific advantages as

low cost of labor, reduced tariffs, fiscal incentives, market size and characteristics of the host

economy, favorable FDI policies of the host government, political stability and other

locational. Here this study categorizes such theories as internal (demand-side) approaches. In

sum, the external factors include economic conditions outside the host country, while internal

factors include the economic conditions of the host country. Traditionally, most empirical

papers have focused on the role of the external factors in determining FDI flows into

developing countries. These theories so far mainly stress on the ownership specific

advantages of the firms and three of them are examined as follows.

1.4.1 Industrial Organization Theory



Hymer and Kindleberger argue that the ‘ownership advantages’ (including inventory,

cost, financial or marketing advantages) motivate them to establish subsidiaries in the host

countries. These advantages which they assume to be exclusive to the firm owing them

explain why American-type FDI is predominant in a particular sector of industry but it may

be unable to portray a general pattern of FDI. Another industrial organization approach,

developed by Caves, is based on models of ‘oligopolistic competition’. He treats a MNC as a

creature of market imperfections that lead a firm to possess specific advantages over local

firms in the host country (Caves 1982).

1.4.2 Internalization Theory

The internationalization theory, created by Buckley and Casson, and developed by Rugman

and Hennart, is primarily concerned with the transactions cost approach.

The basic hypothesis of this theory is that MNEs emerge when it is more beneficial to

internalize the use of such intermediate goods as technology than externalize them

through the market.

The core prediction of the theory is that, given a particular distribution of factor

endowments, MNE activity will be positively related to the costs of organizing cross-

border markets in intermediate products.

1.4.3 Product Life-cycle Theory

In a classic article published in 1966, Vernon was the first to investigate the

relationship between FDI and technology. He uses a microeconomic concept, ‘the product



cycle’, to explain a macroeconomic phenomenon, which is the foreign activity of US MNCs

in the postwar period (Vernon1966). He argues that the product life-cycle can be divided into

three stages as new product stage, matured product stage and standardized product stage. In

the early new product stage, firms place factories in the home country since the demand for a

new product is too small elsewhere. Therefore it develops into the second stage of matured

product.

As the product turns into increasingly standardized and its competition is

based on price, the product is manufactured in less developed countries (LDCs) for export.

Although this theory considers changes in technology and implicitly assumes that the MNCs

would acquire the manufacturing plants in the countries with abundant low-cost workers, it is

not a dynamic theory for the rate of change and the time-lag between product stages are not

considered. Chen rebuts that it is also unable to explain FDI in non-standardized products and

special products for overseas markets. The theories explained above mention only the home

country macro-economic, industry specific and firm specific external (supply-side) factors.

But it is necessary to bear in mind that the host country must possess certain locational

advantages to attract FDI. The O-L-I paradigm developed by Dunning seeks to offer a

comprehensive framework by combining the company comparative advantages and host

country location endowments.

1.4.4 Eclectic Theory of International Production

The eclectic paradigm of international production, which postulates that FDI is

determined by three sets of factors, namely ownership (firm-specific) advantage,



internalization advantage and location (country-specific) advantage, is developed by Dunning

and modified by associate Narula.

According to Dunning, the rationales of FDI can be well-defined by O-L-I paradigm:

Ownership (O) advantages: economies of scale, exclusive production and technical

expertise, managerial and marketing skills. These are the prerequisite to ensure or

enable the MNCs to recover the costs of investing abroad. Itaki further argues that

these O advantages largely take the form of privileged possession of intangible assets

and the use made of them are assumed to increase the wealth-creating capacity of a

MNC hence the value of its assets.

Location (L) factors: low labor costs, potential foreign market, favorable investment

incentives. These pull factors of host country contribute to the MNCs’ decision to

employ ownership advantages to produce aboard.

Internalization (I) factors: Comparing with licensing and exporting, by using greater

organizational efficiency or ability to exercise monopoly power over the assets under

the governance, an internal market is created between parent-company and affiliates

to control key resources of competitiveness or to reduce the risk of selling them as

well as the right of use of them, to foreign firms. Compared with the above theories,

which were founded on ownership in the form of technology and finance, transaction

costs and differential factor endowments, the unique feature of Dunning’s O-L-I

paradigm is to unify and summarize the various theories, although it is still a frame

which synthesizes most FDI theories rather than a new theory per se.

It signified the ownership, locational and internalization advantages of the

firm and, by extension, the ownership and internalization advantages of the home country,



and locational advantages of the host country of FDI, which Dunning stipulates that O-L-I is

applicable to ‘home country’ and ‘host country FDI’ (Dunning 1981). According to this

theory, FDI is chosen as a market entry strategy so that a firm can exploit its ownership

advantages through internalizing transaction costs in a specific location, which possess

locational advantages.

1.4.5 The Dynamic Capability Perspective

• A firm’s ability to diffuse, deploy, utilize and rebuild firm-specific resources for a

competitive advantage.

• Ownership specific resources or knowledge are necessary but not sufficient for

international investment or production success.

• It is necessary to effectively use and build dynamic capabilities for quantity and/or

quality based deployment that is transferable to the multinational environment.

• Firms develop centers of excellence to concentrate core competencies to the host

environment.

1.4.6 Monopolistic Advantage Theory

• An MNE has and/or creates monopolistic advantages that enable it to operate

subsidiaries abroad more profitably than local competitors.

• Monopolistic Advantage comes from:

– Superior knowledge – production technologies, managerial skills, industrial

organization, knowledge of product.

– Economies of scale – through horizontal or vertical FDI

Internationalization Theory



• When external markets for supplies, production, or distribution fails to provide

efficiency, companies can invest FDI to create their own supply, production, or

distribution streams.

• Advantages

– Avoid search and negotiating costs

– Avoid costs of moral hazard (hidden detrimental action by external partners)

– Avoid cost of violated contracts and litigation

– Capture economies of interdependent activities

– Avoid government intervention

– Control supplies

– Control market outlets

– Better apply cross-subsidization, predatory pricing and transfer pricing

Summary

To conclude, the relative significance of the motives and determinants as contained in the

above theories differs not only between firms and regions but also from time to time for a

particular firm or region. It is very difficult to generalize about the determinants of FDI and it

is true that most firms are influenced in their behavior by more than one objective and

sometimes different values are placed on the same objective.

The difference in the strength of the determinants is most marked in India which differ

radically with regard to economic structure, development characteristics and socio-economic

profiles



2.1 Introduction

“An analytical study of Foreign Direct Investment in India”

This study aims to provide a perspective on to know in which sector we can get more foreign

currency in terms of investment in India. It Examine the trends and patterns in the FDI across

different sectors and from different countries in India.

2.2 Review of Literature:

The comprehensive literature centered on economies pertaining

to empirical findings and theoretical rationale tends to demonstrate that

FDI is necessary for sustained economic growth and development of any

economy in this era of globalization. The reviewed

Literature is divided under the following heads:

• Temporal studies

• Inter – Country studies

• Inter – Industry studies

• Studies in Indian Context

Temporal Studies



Study of “Institutional Reform, FDI and European Transition Economics”

studied the significance of institutional infrastructure and development as

a determinant of FDI inflows into the European Transition Economies. The

study examines the critical role of the institutional environment

(comprising both institutions and the strategies and policies of

organizations relating to these institutions) in reducing the transaction

costs of both domestic and cross border business activity. By setting up

an analytical framework the study identifies the determinants of FDI, and

how these had changed over recent years.

“The Value of Diversity: Foreign Direct Investment and Employment in

Central

Europe during Economic Recovery”, examine the role of FDI in job

creation and job preservation as well as their role in changing the

structure of employment. Their analysis refers to Czech Republic,

Hungary, Slovakia and Estonia. They present descriptive stage model of

FDI progression into Transition economy. They analyzed the employment

aspects of the model. The study concluded that the role of FDI in

employment creation/preservation has been most successful in Hungary

than in Estonia. The paper also find out that the increasing differences in

sectoral distribution of FDI employment across countries are closely

relates to FDI inflows per capita. The bigger diversity of types of FDI is

more favorable for the host economy. There is higher likelihood that it will

lead to more diverse types of spillovers and skill transfers. If policy is



unable to maximize the scale of FDI inflows then policy makers should

focus much more on attracting diverse types of FDI Iyare Sunday O,

Bhaumik Pradip K, Banik Arindam, in their work “Explaining FDI Inflows to

India, China and the Caribbean: An Extended Neighborhood Approach”

find out that FDI flows are generally believed to be influenced by

economic indicators like market size, export intensity, institutions, etc,

irrespective of the source and destination countries. This paper looks at

FDI inflows in an alternative approach based on the concepts of

neighborhood and extended neighborhood. The study shows that the

neighborhood concepts are widely applicable in different contexts

particularly for China and India, and partly in the case of the Caribbean.

There are significant common factors in explaining FDI inflows in select

regions. While a substantial fraction of FDI inflows may be explained by

select economic variables, country – specific factors and the idiosyncratic

component account for more of the investment inflows in Europe, China

and India.

“Foreign Direct Investment and Employment in the Industrial Countries”

point out that while looking for evidence regarding a possible relationship

between foreign direct investment and employment, in particular between

outflows and employment in the source countries in response to outflows.

They also find that high labor costs encourage outflows and discourage

inflows and that such effect can be reinforced by exchange rate

movements. The distribution of FDI towards services also suggests that a

large proportion of foreign investment is undertaken with the purpose of



expanding sales and improving the distribution of exports produced in the

source countries. According to this study the principle determinants of FDI

flows are prior trade patterns, IT related investments and the scopes for

cross – border mergers and acquisitions. Finally, the authors find clear

evidence that outflows complement rather than substitute for exports and

thus help to protect rather than destroy jobs.

“The Effects of FDI Inflows on Host Country Economic Growth” discusses

the potential of FDI inflows to affect host country economic growth. The

paper argues that FDI should have a positive effect on economic growth

as a result of technology spillovers and physical capital inflows.

Performing both cross – section and panel data analysis on a dataset

covering 90 countries during the period 1980 to 2002, the empirical part

of the paper finds indications that FDI inflows enhance economic Growth

in developing economies but not in developed economies. This paper has

assumed that the direction of causality goes from inflow of FDI to host

country economic growth. However, economic growth could itself cause

an increase in

FDI in flows. Economic growth increases the size of the host country

market and strengthens the incentives for market seeking FDI. This could

result in a situation where FDI and economic growth are mutually

supporting. However, for the ease of most of the developing economies

growth is unlikely to result in market – seeking FDI due to the low income

levels. Therefore, causality is primarily expected to run from FDI inflows to

economic growth for these economies.



“Foreign Direct investment in Emerging Economies” focuses on the

impact of FDI on host economies and on policy and managerial

implications arising from this (potential) impact. The study finds out that

as emerging economies integrate into the global economies international

trade and investment will continue to accelerate. MNEs will continue to act

as pivotal interface between domestic and international markets and their

relative importance may even increase further. The extensive and variety

interaction of MNEs with their host societies may tempt policy makers to

micro – manage inwards foreign investment and to target their

instruments at attracting very specific types of projects. Yet, the potential

impact is hard to evaluate ex ante (or even ex post) and it is not clear if

policy instruments would be effective in attracting specifically the

investors that would generate the desired impact. The study concluded

that the first priority should be on enhancing the general institutional

framework such as to enhance the efficiency of markets, the effectiveness

of the public sector administration and the availability of infrastructure.

On that basis, then, carefully designed but flexible schemes of promoting

new industries may further enhance the chances of developing

internationally competitive business clusters.

“Foreign Direct Investment in Emerging Markets: A Comparative Study in

Egypt, India, South Africa and Vietnam” show considerable variations of

the characteristics of FDI across the four countries, all have had restrictive

policy regimes, and have gone through liberalization in the early 1990. Yet

the effects of this liberalization policy on characteristics of inward



investment vary across countries. Hence, the causality between the

institutional framework, including informal institutions, and entry

strategies merits further investigation. This analysis has to find

appropriate ways to control for the determinants of mode choice, when

analyzing its consequences. The study concludes that the policy makers

need to understand how institutional arrangements may generate

favorable outcomes for both the home company and the host economy.

Hence, we need to better understand how the mode choice and the

subsequent dynamics affect corporate performance and how it influences

externalities generated in favor of the local economy.

It is concluded from the above studies that market size, fiscal

incentives, lower tariff rates, export intensity, availability of

infrastructure, institutional environment, IT related investments and cross

– border mergers and acquisitions are the main determinants of FDI flows

at temporal level. FDI helps in creation/preservation of employment. It

also facilitates exports. Diverse types of FDI lead to diverse types of

spillovers, skill transfers and physical capital flows. It enhances the

chances of developing internationally competitive business clusters. The

increasing numbers of BITs (Bilateral Investment Treaties among nations,

which emphasizes non – discriminatory treatment of FDI) between nations

are found to have a significant impact on attracting aggregate FDI flow as

the concepts of neighborhood and extended neighborhood are widely

applicable in different contexts for different countries. It is concluded that



FDI plays a positive role in enhancing the economic growth of the host

country.



2.3 Statement of the Problem

To analyse FDI across different sectors from different countries in India and which sector we

can get more foreign currency in terms of investment in India.

2.4 Scope of the study:

To know the reason for investment in India.

Influence of FII on movement of Indian stock exchange.

To understand the FII & FDI policy in India.

The study attempts to analyze the important dimensions of FDI in

India. The study works out the trends and patterns, investment

flows to India.

The study also examines the role of FDI on economic growth in

India for the period 1991-2012. The period under study is important

for a variety of reasons. First of all, it was during July 1991 India

opened its doors to private sector and liberalized its economy.

India’s experience with its first generation economic reforms and

the country’s economic growth performance were considered safe

havens for FDI which led to second generation of economic reforms

in India in first decade of this century.

There is a considerable change in the attitude of both the

developing and developed countries towards FDI. They both

consider FDI as the most suitable form of external finance.

Increase in competition for FDI inflows particularly among the

developing nations. The shift of the power center from the western



countries to the Asia sub –continent is yet another reason to take

up this study.

The study is important from the view point of the macroeconomic

variables included in the study as no other study has included the

explanatory variables which are included in this study. The study is

appropriate in understanding inflows.

2.5 Objectives of the study:

Primary objective

To know in which sector we can get more foreign currency in terms of investment in

India.

To know the flow of investment in India

To know how can India Grow by Investment.

To Examine the trends and patterns in the FDI across different sectors and from

different countries in India

Secondary objectives

To know the reason for investment in India

Influence of FII on movement of Indian stock exchange

To understand the FII & FDI policy in India.

2.6 Hypotheses:



The study has been taken up for the period 1991-2012 with the following

hypotheses:

Hypothesis Test: If the hypothesis holds good then we can infer that FIIs have significant

impact on the Indian capital market. This will help the investors to decide on their

investments in stocks and shares. If the hypothesis is rejected, or in other words if the null

hypothesis is accepted, then FIIs will have no significant impact on the Indian bourses.

Flow of FDI shows a positive trend over the period 2004-2009, after

this speriod FDI shows a negative trend upto Dec 2011 .

FDI has a positive impact on economic growth of the country.

2.7 Research methodology

Data collection

This study is based on secondary data. The required data have been

collected from various sources i.e. World Investment Reports, Asian

Development Bank’s Reports, various Bulletins of Reserve Bank of India,

publications from Ministry of Commerce, Govt. of India, Economic and

Social Survey of Asia and the Pacific, United Nations, Asian Development

Outlook, Country Reports on Economic Policy and Trade Practice- Bureau

of Economic and Business Affairs, U.S. Department of State and from

websites of World Bank, IMF, WTO, RBI, UNCTAD, EXIM Bank etc.. It is a

time series data and the relevant data have been collected for the period

1991 to 2012.

Data collection:



Secondary Data:

Internet, Books, newspapers, journals and books, other reports and projects, literatures

Tools and techniques of analyzing data-

FII:

Correlation: We have used the Correlation tool to determine whether two ranges of

data move together — that is, how the Sensex, Bankex, IT, Power and Capital Goods

are related to the FII which may be positive relation, negative relation or no relation.

We will use this model for understanding the relationship between FII and stock

indices returns. FII is taken as independent variable. Stock indices are taken as

dependent variable

2.8 Limitations of the study

All the economic / scientific studies are faced with various limitations and

this study is no exception to the phenomena. The various limitations of

the study are:

The analysis was purely based on the secondary data. So, any error in the secondary

data might also affect the study undertaken.

Research is done during college hence no exclusive time dedicated for this research.

At various stages, the basic objective of the study is suffered due to

inadequacy of time series data from related agencies. There has

also been a problem of sufficient homogenous data from different

sources. For example, the time series used for different variables,

the averages are used at certain occasions. Therefore, the trends,



growth rates and estimated regression coefficients may deviate

from the true ones.

The assumption that FDI was the only cause for development of

Indian economy in the post liberalized period is debatable. No

proper methods were available to segregate the effect of FDI to

support the validity of this assumption.

Above all, since it is a MBA project and the research was faced with

the problem of various resources like time and money.

2.9 Chapter Scheme:

Chapter No. 1: Introduction

Chapter No. 2: Research Design

Chapter No. 3: Profiles.

Chapter No.4: Applicability of foreign rating models to Indian microfinance institutions

- An Analysis

Chapter No. 5: Summary of Findings, Conclusions, and Suggestions



3.1 Introduction

One of the most striking developments during the last two decades is the

spectacular growth of FDI in the global economic landscape. This

unprecedented growth of global FDI in 1990 around the world make FDI

an important and vital component of development strategy in both

developed and developing nations and policies are designed in order to

stimulate inward flows. In fact, FDI provides a win – win situation to the

host and the home countries. Both countries are directly interested in

inviting FDI, because they benefit a lot from such type of investment. The

‘home’ countries want to take the advantage of the vast markets opened

by industrial growth. On the other hand the ‘host’ countries want to

acquire technological and managerial skills and supplement domestic

savings and foreign exchange.

Moreover, the paucity of all types of resources viz. financial, capital,

entrepreneurship, technological know- how, skills and practices, access to

markets- abroad- in their economic development, developing nations

accepted FDI as a sole visible panacea for all their scarcities. Further, the

integration of global financial markets paves ways to this explosive growth

of FDI around the globe.

The historical background of FDI in India can be traced back with the

establishment of East India Company of Britain. British capital came to

India during the colonial era of Britain in India. However, researchers

could not portray the complete history of FDI pouring in India due to lack

of abundant and authentic data. Before independence major amount of



FDI came from the British companies. British companies setup their units

in mining sector and in those sectors that suits their own economic and

business interest. After Second World War, Japanese companies entered

Indian market and enhanced their trade with India, yet U.K. remained the

most dominant investor in India. Further, after Independence issues

relating to foreign capital, operations of MNCs, gained attention of the

policy makers. Keeping in mind the national interests the policy makers

designed the FDI policy which aims FDI as a medium for acquiring

advanced technology and to mobilize foreign exchange resources. The

first Prime Minister of India considered foreign investment as “necessary”

not only to supplement domestic capital but also to secure scientific,

technical, and industrial knowledge and capital equipments. With time

and as per economic and political regimes there have been changes in the

FDI policy too.

The industrial policy of 1965, allowed MNCs to venture through technical

collaboration in India. However, the country faced two severe crisis in the

form of foreign exchange and financial resource mobilization during the

second five year plan (1956 -61). Therefore, the government adopted a

liberal attitude by allowing more frequent equity participation to foreign

enterprises, and to accept equity capital in technical collaborations. The

government also provides many incentives such as tax concessions,

simplification of licensing procedures and de- reserving some industries

such as drugs, aluminum, heavy electrical equipments, fertilizers, etc in

order to further boost the FDI inflows in the country. This liberal attitude of



government towards foreign capital lures investors from other advanced

countries like USA, Japan, and Germany, etc. But due to significant outflow

of foreign reserves in the form of remittances of dividends, profits,

royalties etc, the government has to adopt stringent foreign policy in

1970s. During this period the government adopted a selective and highly

restrictive foreign policy as far as foreign capital, type of FDI and

ownerships of foreign companies was concerned. Government setup

Foreign Investment Board and enacted Foreign Exchange Regulation Act

in order to regulate flow of foreign capital and FDI flow to India. The

soaring oil prices continued low exports and deterioration in Balance of

Payment position during 1980s forced the government to make necessary

changes in the foreign policy. It is during this period the government

encourages FDI, allow MNCs to operate in India.Thus resulting in the

partial liberalization of Indian Economy. The government introduces

reforms in the industrial sector, aimed at increasing competency,

efficiency and growth in industry through a stable, pragmatic and non-

discriminatory policy for FDI flow.

3.2 Foreign Investment Promotion Board

The FIPB (Foreign Investment Promotion Board) is a government body that offers a

single window clearance for proposals on foreign direct investment in the country that are not

allowed access through the automatic route. Consisting of Senior Secretaries drawn from

different ministries with Secretary ,Economic Affairs in the chair, this high powered body

discusses and examines proposals for foreign investment in the country for restricted sectors (



as laid out in the Press notes and extant foreign investment policy) on a regular basis.

Currently proposals for investment beyond 600 crores require the concurrence of the CCEA

(Cabinet Committee on Economic Affairs). The threshold limit is likely to be raised to 1200

crore soon. The Board thus plays an important role in the administration and implementation

of the Government’s FDI policy. In circumstances where there is ambiguity or a conflict of

interpretation, the FIPB has stepped in to provide solutions. Through its fast track working it

has established its reputation as a body that does not unreasonably delay and is objective in

its decision making. It therefore has a strong record of actively encouraging the flow of FDI

into the country. The FIPB is assisted in this task by a FIPB Secretariat. The launch of e-

filing facility is an important initiative of the Secretariat to further the cause of enhanced

accessibility and transparency.

3.3 Types of FDI:



Figure 3.3



Types of Foreign Direct Investment: An Overview

FDIs can be broadly classified into two types:

1 Outward FDIs

2 Inward FDIs

This classification is based on the types of restrictions imposed, and the various prerequisites

required for these investments.

Outward FDI: An outward-bound FDI is backed by the government against all types of

associated risks. This form of FDI is subject to tax incentives as well as disincentives of

various forms. Risk coverage provided to the domestic industries and subsidies granted to the

local firms stand in the way of outward FDIs, which are also known as 'direct investments

abroad.'

Inward FDIs: Different economic factors encourage inward FDIs. These include interest

loans, tax breaks , grants, subsidies, and the removal of restrictions and limitations. Factors

detrimental to the growth of FDIs include necessities of differential performance and

limitations related with ownership patterns.

Other categorizations of FDI

Other categorizations of FDI exist as well. Vertical Foreign Direct Investment takes place when

a multinational corporation owns some shares of a foreign enterprise, which supplies input for it

or uses the output produced by the MNC.

Horizontal foreign direct investments happen when a multinational company carries out a

similar business operation in different nations.

• Horizontal FDI – the MNE enters a foreign country to produce the same products

product at home.

• Conglomerate FDI – the MNE produces products not manufactured at home.





• Vertical FDI – the MNE produces intermediate goods either forward or backward in

the supply stream.

• Liability of foreignness – the costs of doing business abroad resulting in a competitive

disadvantage.

3.4 Methods of Foreign Direct Investments

The foreign direct investor may acquire 10% or more of the voting power of an enterprise in

an economy through any of the following methods:

by incorporating a wholly owned subsidiary or company

by acquiring shares in an associated enterprise

through a merger or an acquisition of an unrelated enterprise

participating in an equity joint venture with another investor or enterprise

Foreign direct investment incentives may take the following forms:

Low corporate tax and income tax rates

tax holidays

other types of tax concessions

preferential tariffs

special economic zones

investment financial subsidies

soft loan or loan guarantees

free land or land subsidies

relocation & expatriation subsidies

job training & employment subsidies


http://en.wikipedia.org/wiki/Guarantees

http://en.wikipedia.org/wiki/Soft_loan

http://en.wikipedia.org/wiki/Special_economic_zone

http://en.wikipedia.org/wiki/Tariffs

http://en.wikipedia.org/wiki/Tax_holiday

http://en.wikipedia.org/wiki/Income_tax

http://en.wikipedia.org/wiki/Corporate_tax

http://en.wikipedia.org/wiki/Joint_venture

http://en.wikipedia.org/wiki/Takeover

http://en.wikipedia.org/wiki/Merger

http://en.wikipedia.org/wiki/Company

http://en.wikipedia.org/wiki/Subsidiary


infrastructure subsidies

R&D support

derogation from regulations (usually for very large projects)

3.5 Entry Mode

• The manner in which a firm chooses to enter a foreign market through FDI.

– International franchising

– Branches

– Contractual alliances

– Equity joint ventures

– Wholly foreign-owned subsidiaries

• Investment approaches:

– Greenfield investment (building a new facility)

– Cross-border mergers

– Cross-border acquisitions

– Sharing existing facilities.

3.6 Why is FDI important for any consideration of going Global?

The simple answer is that making a direct foreign investment allows companies to

accomplish several tasks:


http://en.wikipedia.org/wiki/Infrastructure


1 .Avoiding foreign government pressure for local production.

2. Circumventing trade barriers, hidden and otherwise.

3. Making the move from domestic export sales to a locally-based national sales office.

4. Capability to increase total production capacity.

5.Opportunities for co-production, joint ventures with local partners, joint marketing

arrangements, licensing, etc;

A more complete response might address the issue of global business partnering in

very general terms. While it is nice that many business writers like the expression, “think

globally, act locally”, this often used cliché does not really mean very much to the average

business executive in a small and medium sized company. The phrase does have significant

connotations for multinational corporations. But for executives in SME’s, it is still just

another buzzword. The simple explanation for this is the difference in perspective between

executives of multinational corporations and small and medium sized

companies. Multinational corporations are almost always concerned with worldwide

manufacturing capacity and proximity to major markets. Small and medium sized companies

tend to be more concerned with selling their products in overseas markets. The advent of the

Internet has ushered in a new and very different mindset that tends to focus more on access

issues. SME’s in particular are now focusing on access to markets, access to expertise and

most of all access to technology.

3.6.1 The Strategic Logic behind FDI

• Resources seeking – looking for resources at a lower real cost.



• Market seeking – secure market share and sales growth in target foreign market.

• Efficiency seeking – seeks to establish efficient structure through useful factors,

cultures, policies, or markets.

• Strategic asset seeking – seeks to acquire assets in foreign firms that promote

corporate long term objectives.

3.6.2 Enhancing Efficiency from Location Advantages

• Location advantages - defined as the benefits arising from a host country’s

comparative advantages.- Better access to resources

– Lower real cost from operating in a host country

– Labor cost differentials

– Transportation costs, tariff and non-tariff barriers

– Governmental policies

3.6.3 Improving Performance from Structural Discrepancies

• Structural discrepancies are the differences in industry structure attributes between

home and host countries. Examples include areas where:

– Competition is less intense

– Products are in different stages of their life cycle

– Market demand is unsaturated

– There are differences in market sophistication

3.6.4 Increasing Return from Ownership Advantages



• Ownership Advantages come from the application of proprietary tangible and

intangible assets in the host country.

– Reputation, brand image, distribution channels

– Technological expertise, organizational skills, experience

• Core competence – skills within the firm that competitors cannot easily imitate or

match.

3.6.5 Ensuring Growth from Organizational Learning

• MNEs exposed to multiple stimuli, developing:

– Diversity capabilities

– Broader learning opportunities

• Exposed to:

– New markets

– New practices

– New ideas

– New cultures

– New competition

3.7 The Impact of FDI on the Host Country

3.7.1 Employment

– Firms attempt to capitalize on abundant and inexpensive labor.

– Host countries seek to have firms develop labor skills and sophistication.



– Host countries often feel like “least desirable” jobs are transplanted from

home countries.

– Home countries often face the loss of employment as jobs move.

–

3.7.2 FDI Impact on Domestic Enterprises

– Foreign invested companies are likely more productive than local competitors.

– The result is uneven competition in the short run, and competency building

efforts in the longer term.

– It is likely that FDI developed enterprises will gradually develop local

supporting industries, supplier relationships in the host country.

3.8 Foreign Direct Investment in India

The economy of India is the third largest in the world as measured by purchasing power

parity (PPP), with a gross domestic product (GDP) of US $3.611 trillion. When measured in

USD exchange-rate terms, it is the tenth largest in the world, with a GDP of US $800.8

billion (2006). is the second fastest growing major economy in the world, with a GDP growth

rate of 8.9% at the end of the first quarter of 2006-2007. However, India's huge population

results in a per capita income of $3,300 at PPP and $714 at nominal.

The economy is diverse and encompasses agriculture, handicrafts, textile, manufacturing,

and a multitude of services. Although two-thirds of the Indian workforces still earn their

livelihood directly or indirectly through agriculture, services are a growing sector and are

playing an increasingly important role of India's economy. The advent of the digital age, and

the large number of young and educated populace fluent in English, is gradually transforming



India as an important 'back office' destination for global companies for the outsourcing of

their customer services and technical support.

India is a major exporter of highly-skilled workers in software and financial services, and

software engineering. India followed a socialist-inspired approach for most of its independent

history, with strict government control over private sector participation, foreign trade, and

foreign direct investment. However, since the early 1990s, India has gradually opened up its

markets through economic reforms by reducing government controls on foreign trade and

investment. The privatization of publicly owned industries and the opening up of certain

sectors to private and foreign interests has proceeded slowly amid political debate. India faces

a burgeoning population and the challenge of reducing economic and social inequality.

Poverty remains a serious problem, although it has declined significantly since independence,

mainly due to the green revolution and economic reforms. FDI up to 100% is allowed under

the automatic route in all activities/sectors except the following which will require approval

of the Government: Activities/items that require an Industrial License; Proposals in which the

foreign collaborator has a previous/existing venture/tie up in India

FDI in India includes FDI inflows as well as FDI outflow from India. Also FDI foreign

direct investment and FII foreign institutional investors are a separate case study while

preparing a report on FDI and economic growth in India. FDI and FII in India have registered

growth in terms of both FDI flows in India and outflow from India. The FDI statistics and

data are evident of the emergence of India as both a potential investment market and

investing country. FDI has helped the Indian economy grow, and the government continues

to encourage more investments of this sort - but with $5.3 billion in FDI . India gets less than

10% of the FDI of China. Foreign direct investment (FDI) in India has played an important



role in the development of the Indian economy. FDI in India has - in a lot of ways - enabled

India to achieve a certain degree of financial stability, growth and development. This money

has allowed India to focus on the areas that may have needed economic attention, and address

the various problems that continue to challenge the country. India has continually sought to

attract FDI from the world’s major investors.

In 1998 and 1999, the Indian national government announced a number of reforms

designed to encourage FDI and present a favorable scenario for investors. FDI investments

are permitted through financial collaborations, through private equity or preferential

allotments, by way of capital markets through Euro issues, and in joint ventures. FDI is not

permitted in the arms, nuclear, railway, coal & lignite or mining industries. A number of

projects have been announced in areas such as electricity generation, distribution and

transmission, as well as the development of roads and highways, with opportunities for

foreign investors. The Indian national government also provided permission to FDIs to

provide up to 100% of the financing required for the construction of bridges and tunnels, but

with a limit on foreign equity of INR 1,500 crores, approximately $352.5m. Currently, FDI is

allowed in financial services, including the growing credit card business.

These services include the non-banking financial services sector. Foreign investors can

buy up to 40% of the equity in private banks, although there is condition that stipulates that

these banks must be multilateral financial organizations. Up to 45% of the shares of

companies in the global mobile personal communication by satellite services (GMPCSS)

sector can also be purchased. By 2004, India received $5.3 billion in FDI, big growth

compared to previous years, but less than 10% of the $60.6 billion that flowed into China.

Why does India, with a stable democracy and a smoother approval process, lag so far behind



China in FDI amounts? Although the Chinese approval process is complex, it includes both

national and regional approval in the same process.

3.9 Investment Risks in India

3.9.1 Sovereign Risk

India is an effervescent parliamentary democracy since its political freedom from

British rule more than 50 years ago. The country does not face any real threat of a serious

revolutionary movement which might lead to a collapse of state machinery. Sovereign risk in

India is hence nil for both "foreign direct investment" and "foreign portfolio investment."

Many Industrial and Business houses have restrained themselves from investing in the North-

Eastern part of the country due to unstable conditions. Nonetheless investing in these parts is

lucrative due to the rich mineral reserves here and high level of literacy. Kashmir on the

northern tip is a militancy affected area and hence investment in the state of Kashmir are

restricted by law.

3.9.2 Political Risk

India has enjoyed successive years of elected representative government at the Union

as well as federal level. India suffered political instability for a few years in the sense there

was no single party which won clear majority and hence it led to the formation of coalition

governments. However, political stability has firmly returned since the general elections in

1999, with strong and healthy coalition governments emerging. Nonetheless, political



instability did not change India's bright economic course though it delayed certain decisions

relating to the economy. Economic liberalization which mostly interested foreign investors

has been accepted as essential by all political parties including the Communist Party of India

Though there are bleak chances of political instability in the future, even if such a situation

arises the economic policy of India would hardly be affected.. Being a strong democratic

nation the chances of an army coup or foreign dictatorship are minimal. Hence, political risk

in India is practically absent.

3.9.3 Commercial Risk

Commercial risk exists in any business ventures of a country. Not each and every

product or service is profitably accepted in the market. Hence it is advisable to study the

demand / supply condition for a particular product or service before making any major

investment. In India one can avail the facilities of a large number of market research firms in

exchange for a professional fee to study the state of demand / supply for any product. As it is,

entering the consumer market involves some kind of gamble and hence involves commercial

risk

3.9.4 Risk Due To Terrorism

In the recent past, India has witnessed several terrorist attacks on its soil which could

have a negative impact on investor confidence. Not only business environment and return on

investment, but also the overall security conditions in a nation have an effect on FDI's.

Though some of the financial experts think otherwise. They believe the negative impact of

terrorist attacks would be a short term phenomenon. In the long run, it is the micro and macro

economic conditions of the Indian economy that would decide the flow of Foreign investment

and in this regard India would continue to be a favorable investment destination.



3.10 Foreign direct investments in India are approved through two routes –

3.10.1 Automatic approval by RBI –

The Reserve Bank of India accords automatic approval within a period of two weeks (subject

to compliance of norms) to all proposals and permits foreign equity up to 24%; 50%; 51%;

74% and 100% is allowed depending on the category of industries and the sectoral caps

applicable. The lists are comprehensive and cover most industries of interest to foreign

companies. Investments in high priority industries or for trading companies primarily

engaged in exporting are given almost automatic approval by the RBI.

3.10.2 The FIPB Route – Processing of non-automatic approval cases –

FIPB stands for Foreign Investment Promotion Board which approves all other cases where

the parameters of automatic approval are not met. Normal processing time is 4 to 6 weeks. Its

approach is liberal for all sectors and all types of proposals, and rejections are few. It is not

necessary for foreign investors to have a local partner, even when the foreign investor wishes

to hold less than the entire equity of the company. The portion of the equity not proposed to

be held by the foreign investor can be offered to the public.



4.1 Government Approvals for Foreign Companies Doing Business in India

Government Approvals for Foreign Companies Doing Business in India or Investment

Routes for Investing in India, Entry Strategies for Foreign Investors India's foreign

trade policy has been formulated with a view to invite and encourage FDI in India. The

Reserve Bank of India has prescribed the administrative and compliance aspects of FDI. A

foreign company planning to set up business operations in India has the following options:

Investment under automatic route; and

Investment through prior approval of Government.

4.1.1 Procedure under automatic route

FDI in sectors/activities to the extent permitted under automatic route does not require any

prior approval either by the Government or RBI. The investors are only required to notify the

Regional office concerned of RBI within 30 days of receipt of inward remittances and file the

required documents with that office within 30 days of issue of shares to foreign investors.

List of activities or items for which automatic route for foreign investment is not available,

include the following:

Banking

NBFC's Activities in Financial Services Sector



Civil Aviation

Petroleum Including Exploration/Refinery/Marketing

Housing & Real Estate Development Sector for Investment from Persons other

than NRIs/OCBs.

Venture Capital Fund and Venture Capital Company

Investing Companies in Infrastructure & Service Sector

Atomic Energy & Related Projects

Defense and Strategic Industries

Agriculture (Including Plantation)

Print Media

Broadcasting

Postal Services

4.1.2 Procedure under Government approval

FDI in activities not covered under the automatic route, requires prior Government approval

and are considered by the Foreign Investment Promotion Board (FIPB). Approvals of

composite proposals involving foreign investment/foreign technical collaboration are also



granted on the recommendations of the FIPB. Application for all FDI cases, except Non-

Resident Indian (NRI) investments and 100% Export Oriented Units (EOUs), should be

submitted to the FIPB Unit, Department of Economic Affairs (DEA), Ministry of Finance.

Application for NRI and 100% EOU cases should be presented to SIA in Department of

Industrial Policy & Promotion.

4.1.3 Investment by way of Share Acquisition

A foreign investing company is entitled to acquire the shares of an Indian company

without obtaining any prior permission of the FIPB subject to prescribed parameters/

guidelines. If the acquisition of shares directly or indirectly results in the acquisition of a

company listed on the stock exchange, it would require the approval of the Security

Exchange Board of India.

4.1.4 New investment by an existing collaborator in India

A foreign investor with an existing venture or collaboration (technical and financial)

with an Indian partner in particular field proposes to invest in another area, such type of

additional investment is subject to a prior approval from the FIPB, wherein both the parties

are required to participate to demonstrate that the new venture does not prejudice the old one.

4.1.5 General Permission of RBI under FEMA

Indian companies having foreign investment approval through FIPB route do not

require any further clearance from RBI for receiving inward remittance and issue of shares to

the foreign investors. The companies are required to notify the concerned Regional office of

the RBI of receipt of inward remittances within 30 days of such receipt and within 30 days of

issue of shares to the foreign investors or NRIs.



4.1.6 Participation by International Financial Institutions

Equity participation by international financial institutions such as ADB, IFC, CDC, DEG,

etc., in domestic companies is permitted through automatic route, subject to SEBI/RBI

regulations and sector specific cap on FDI.

4.1.7 FDI in Small Scale Sector (SSI) Units

A small-scale unit cannot have more than 24 per cent equity in its paid up capital from any

industrial undertaking, either foreign or domestic.

If the equity from another company (including foreign equity) exceeds 24 per cent, even if

the investment in plant and machinery in the unit does not exceed Rs 10 million, the unit

loses its small-scale status and shall require an industrial license to manufacture items

reserved for small-scale sector. See also FDI in Small Scale Sector in India Further

Liberalized.

4.2 Sector-wise FDI allowance in India

Is the process whereby residents of one country (the source country) acquire ownership of

assets for the purpose of controlling the production, distribution, and other activities of a firm

in another country (the host country). The international monetary fund’s balance of payment

manual defines FDI as an investment that is made to acquire a lasting interest in an enterprise

operating in an economy other than that of the investor. The investors’ purpose being to have

an effective voice in the management of the enterprise’. The united nations 1999 world


http://madaan.com/sectors.html#SSI

http://madaan.com/sectors.html#SSI


investment report defines FDI as ‘an investment involving a long term relationship and

reflecting a lasting interest and control of a resident entity in one economy (foreign direct

investor or parent enterprise) in an enterprise resident in an economy other than that of the

foreign direct investor ( FDI enterprise, affiliate enterprise or foreign affiliate).

Foreign direct investment: Indian scenario

FDI is permitted as under the following forms of investments –

· Through financial collaborations.

· Through joint ventures and technical collaborations.

· Through capital markets via Euro issues.

· Through private placements or preferential allotments.

Sector Specific Foreign Direct Investment in India

4.2.1 Hotel & Tourism: FDI in Hotel & Tourism sector in India

100% FDI is permissible in the sector on the automatic route,the term hotels include

restaurants, beach resorts, and other tourist complexes providing accommodation and/or

catering and food facilities to tourists. Tourism related industry include travel agencies, tour

operating agencies and tourist transport operating agencies, units providing facilities for

cultural, adventure and wild life experience to tourists, surface, air and water transport

facilities to tourists, leisure, entertainment, amusement, sports, and health units for tourists

and Convention/Seminar units and organizations.



For foreign technology agreements, automatic approval is granted if

i. Up to 3% of the capital cost of the project is proposed to be paid for technical and

consultancy services including fees for architects, design, supervision, etc.

ii. Up to 3% of net turnover is payable for franchising and marketing/publicity support

fee, and up to 10% of gross operating profit is payable for management fee, including

incentive fee.

4.2.2 Private Sector Banking:

Non-Banking Financial Companies (NBFC)

49% FDI is allowed from all sources on the automatic route subject to guidelines issued from

RBI from time to time.

a. FDI/NRI/OCB investments allowed in the following 19 NBFC activities shall be as

per levels indicated below:

i. Merchant banking

ii. Underwriting

iii. Portfolio Management Services

iv. Investment Advisory Services

v. Financial Consultancy

vi. Stock Broking

vii. Asset Management

viii. Venture Capital



ix. Custodial Services

x. Factoring

xi. Credit Reference Agencies

xii. Credit rating Agencies

xiii. Leasing & Finance

xiv. Housing Finance

xv. Foreign Exchange Brokering

xvi. Credit card business

xvii. Money changing Business

xviii. Micro Credit

xix. Rural Credit

b. Minimum Capitalization Norms for fund based NBFCs:

i) For FDI up to 51% - US$ 0.5 million to be brought upfront

ii) For FDI above 51% and up to 75% - US $ 5 million to be brought upfront

iii) For FDI above 75% and up to 100% - US $ 50 million out of which US $ 7.5

million to be brought up front and the balance in 24 months

c. Minimum capitalization norms for non-fund based activities:



Minimum capitalization norm of US $ 0.5 million is applicable in respect of all permitted

non-fund based NBFCs with foreign investment.

d. Foreign investors can set up 100% operating subsidiaries without the condition to

disinvest a minimum of 25% of its equity to Indian entities, subject to bringing in US$ 50

million as at b) (iii) above (without any restriction on number of operating subsidiaries

without bringing in additional capital)

e. Joint Venture operating NBFC's that have 75% or less than 75% foreign investment will

also be allowed to set up subsidiaries for undertaking other NBFC activities, subject to the

subsidiaries also complying with the applicable minimum capital inflow i.e. (b)(i) and (b)(ii)

above.

f. FDI in the NBFC sector is put on automatic route subject to compliance with guidelines

of the Reserve Bank of India. RBI would issue appropriate guidelines in this regard.

4.2.3 Insurance Sector

FDI in Insurance sector in India

FDI up to 26% in the Insurance sector is allowed on the automatic route subject to obtaining

license from Insurance Regulatory & Development Authority (IRDA)

4.2.4 Telecommunication:

FDI in Telecommunication sector

i. In basic, cellular, value added services and global mobile personal communications

by satellite, FDI is limited to 49% subject to licensing and security requirements and

adherence by the companies (who are investing and the companies in which



investment is being made) to the license conditions for foreign equity cap and lock- in

period for transfer and addition of equity and other license provisions.

ii. ISPs with gateways, radio-paging and end-to-end bandwidth, FDI is permitted up to

74% with FDI, beyond 49% requiring Government approval. These services would be

subject to licensing and security requirements.

iii. No equity cap is applicable to manufacturing activities.

iv. FDI up to 100% is allowed for the following activities in the telecom sector :

a. ISPs not providing gateways (both for satellite and submarine cables);

b. Infrastructure Providers providing dark fiber (IP Category 1);

c. Electronic Mail; and

d. Voice Mail

The above would be subject to the following conditions:

e. FDI up to 100% is allowed subject to the condition that such companies would

divest 26% of their equity in favor of Indian public in 5 years, if these

companies are listed in other parts of the world.

f. The above services would be subject to licensing and security requirements,

wherever required.

Proposals for FDI beyond 49% shall be considered by FIPB (Foreign Investment Promotion

Board) on case to case basis.

4.2.5 Trading:



FDI in Trading Companies in India

Trading is permitted under automatic route with FDI up to 51% provided it is primarily

export activities, and the undertaking is an export house/trading house/super trading

house/star trading house. However, under the FIPB route:-

i. 100% FDI is permitted in case of trading companies for the following activities:

exports;

bulk imports with ex-port/ex-bonded warehouse sales;

cash and carry wholesale trading;

Other import of goods or services provided at least 75% is for procurement and sale

of goods and services among the companies of the same group and not for third party

use or onward transfer/distribution/sales.

ii. The following kinds of trading are also permitted, subject to provisions of EXIM Policy:

a. Companies for providing after sales services (that is not trading per se)

b. Domestic trading of products of JVs is permitted at the wholesale level for such

trading companies who wish to market manufactured products on behalf of their joint

ventures in which they have equity participation in India.

c. Trading of hi-tech items/items requiring specialized after sales service

d. Trading of items for social sector

e. Trading of hi-tech, medical and diagnostic items.



f. Trading of items sourced from the small scale sector under which, based on

technology provided and laid down quality specifications, a company can market that

item under its brand name.

g. Domestic sourcing of products for exports.

h. Test marketing of such items for which a company has approval for manufacture

provided such test marketing facility will be for a period of two years, and investment

in setting up manufacturing facilities commences simultaneously with test marketing

FDI up to 100% permitted for e-commerce activities subject to the condition that such

companies would divest 26% of their equity in favor of the Indian public in five years, if

these companies are listed in other parts of the world. Such companies would engage only in

business to business (B2B) e-commerce and not in retail trading.

4.2.6 Power:

FDI in Power Sector in India

Up to 100% FDI allowed in respect of projects relating to electricity generation, transmission

and distribution, other than atomic reactor power plants. There is no limit on the project cost

and quantum of foreign direct investment.

4.2.7 Drugs & Pharmaceuticals

FDI up to 100% is permitted on the automatic route for manufacture of drugs and

pharmaceutical, provided the activity does not attract compulsory licensing or involve use of

recombinant DNA technology, and specific cell / tissue targeted formulations.



FDI proposals for the manufacture of licensable drugs and pharmaceuticals and bulk drugs

produced by recombinant DNA technology, and specific cell / tissue targeted formulations

will require prior Government approval.

4.2.8 Roads, Highways, Ports and Harbors

FDI up to 100% under automatic route is permitted in projects for construction and

maintenance of roads, highways, vehicular bridges, toll roads, vehicular tunnels, ports and

harbors.

Pollution control and management

FDI up to 100% in both manufacture of pollution control equipment and consultancy for

integration of pollution control systems is permitted on the automatic route.



4.2.9 Call Centers in India / Call Centre’s in India

FDI up to 100% is allowed subject to certain conditions.

Business Process Outsourcing BPO in India

FDI up to 100% is allowed subject to certain conditions.

Special Facilities and Rules for NRI's and OCB's

NRI's and OCB's are allowed the following special facilities:

1. Direct investment in industry, trade, infrastructure etc.

2. Up to 100% equity with full repatriation facility for capital and dividends in the

following sectors

i. 34 High Priority Industry Groups

ii. Export Trading Companies

iii. Hotels and Tourism-related Projects

iv. Hospitals, Diagnostic Centers

v. Shipping

vi. Deep Sea Fishing

vii. Oil Exploration

viii. Power

ix. Housing and Real Estate Development



x. Highways, Bridges and Ports

xi. Sick Industrial Units

xii. Industries Requiring Compulsory Licensing

3. Up to 40% Equity with full repatriation: New Issues of Existing Companies raising

Capital through Public Issue up to 40% of the new Capital Issue.

4. On non-repatriation basis: Up to 100% Equity in any Proprietary or Partnership

engaged in Industrial, Commercial or Trading Activity.

5. Portfolio Investment on repatriation basis: Up to 1% of the Paid up Value of the

equity Capital or Convertible Debentures of the Company by each NRI. Investment in

Government Securities, Units of UTI, National Plan/Saving Certificates.

6. On Non-Repatriation Basis: Acquisition of shares of an Indian Company, through a

General Body Resolution, up to 24% of the Paid Up Value of the Company.

7. Other Facilities: Income Tax is at a Flat Rate of 20% on Income arising from Shares

or Debentures of an Indian

India further opens up key sectors for Foreign Investment

India has liberalized foreign investment regulations in key sectors, opening up commodity

exchanges, credit information services and aircraft maintenance operations. The foreign

investment limit in Public Sector Units (PSU) refineries has been raised from 26% to 49%.

An additional sweetener is that the mandatory disinvestment clause within five years has

been done away with. FDI in Civil aviation up to 74% will now be allowed through the

automatic route for non-scheduled and cargo airlines, as also for ground handling



activities. 100% FDI in aircraft maintenance and repair operations has also been allowed. But

the big one, allowing foreign airlines to pick up a stake in domestic carriers has been given a

miss again. India has decided to allow 26% FDI and 23% FII investments in commodity

exchanges, subject to the proviso that no single entity will hold more than 5% of the stake.

Sectors like credit information companies, industrial parks and construction and development

projects have also been opened up to more foreign investment. Also keeping India's civilian

nuclear ambitions in mind, India has also allowed 100% FDI in mining of titanium, a mineral

which is abundant in India.

Sources say the government wants to send out a signal that it is not done with reforms yet. At

the same time, critics say contentious issues like FDI and multi-brand retail are out of the

policy radar because of political compulsions.

4.3 Sector-wise FDI Inflows ( From April 2000 to January 2012)

Sector-wise FDI Inflows ( From April 2000 to January 2012)

SECTOR

AMOUNT OF FDI

INFLOWS PERCENT OF

TOTAL FDI

INFLOWS (In terms

of Rs)

Sl.noIn Rs

CRORE

In US$

Million

1. Services Sector 124219.33 27806.80 20.22

2. Housing & Real estate 47,380.95 10,630.25 7.73

3. Telecommunications 48,369.49 10,622.99 7.73

4. Computer Software &

hardware46,723.09 10,500.16

7.64



5. Construction Activities 39,686.54 8,885.38 6.46

6. Automobile 28,274.31 6,246.48 4.54

7. Power 28,135.78 6,228.33 4.53

8. Drugs & Pharmaceuticals 21,640.48 4,839.11 3.52

9. Metallurgical industries 18,767.82 4,295.18 3.12

10. Petroleum & Natural Gas 13,687.09 3,142.64 2.29

11.Trading

12,893.24 2,913.67 2.12

12. Chemicals (Other than

Fertilizers)

12,366.34 2,745.84 2.00

13. Hotel and Tourism 12,108.20 2,687.51 1.95

14. Electrical Equipments 11,778.25 2,605.69 1.90

15. Cement & Gypsum

Products

10,525.91 2,370.501.72

16. Information &

Broadcasting (Incl. Print

media)

10,165.24 2,239.76 1.63

17 Consultancy Services 7,793.24 1,714.31 1.25

18. Ports 6,717.36 1,635.08 1.19

19 Industrial Machinery 6,540.34 1,451.66 1.06

20. Agriculture Services 6,763.07 1,413.41 1.03

21 Food Processing

Industries

5,798.95 1,270.24 0.92

22. Non-Conventional Energy 5,102.91 1,113.89 0.81



23. Sea Transport 4,900.83 1,080.93 0.79

24. Hospital & diagnostic

centres

4,635.83 1,056.93 0.77

25.

Electronics 4,442.61981.55

0.71

26 Misc. Mechanical &

Engineering industries

4,369.66 978.05 0.71

27. Fermentation Industries 4,213.30 967.12 0.70

28. Textiles (Incl. Dyed,

Printed)

4,355.71 966.20 0.70

29 Mining 3,846.52 896.04 0.65

30.Ceramics

2,155.67 500.40 0.36

31. Paper & Pulp 1,973.48 453.17 0.33

32.Education

1,955.35 419.92 0.31

33. Air Transport ( Incl. air

freight)

1,821.97 409.40 0.30

34. Machine Tools 1,810.72 398.26 0.29

35. Medical And Surgical

Appliances

1,760.35 380.03 0.28

36. Prime Mover (Other Than

Electrical Generators)

1,705.87 379.05 0.28

37. Diamond & Gold

Ornaments

1,393.82 311.21 0.23



38.Rubber Goods

1,423.46 307.670.22

39. Soaps, Cosmetics and

Toilet Preparations

1,136.52 252.45 0.18

40. Vegetable oils and

Vanaspati

1,067.17 230.60 0.17

41. Printing of Books (Incl.

Litho printing industry)

1,032.89 228.27 0.17

42.Fertilizers

1,046.02 224.97 0.16

43. Commercial, Office &

Household Equipments

968.39 214.16 0.16

44. Railway related

components

925.43 206.75 0.15

45. Agriculture Services 894.40 198.25 0.14

46. Earth Moving Machinery 697.87 160.55 0.12

47.Glass

673.12 148.71 0.11

48. Tea & Coffee 446.61 99.38 0.07

49 Retail Trading (Single

brand)

317.61 69.26 0.05

50. Photographic Raw Film

And Paper

269.26 66.54 0.05

51. Industrial instruments 291.47 63.07 0.05

52. Leather, Leather goods & 234.69 52.43 0.04



Packers

53. Sugar 169.89 38.50 0.03

54. Timber products 130.89 27.76 0.02

55. Coal Production 103.11 24.78 0.02

56. Dye-Stuffs 84.42 18.92 0.01

57. Scientific instruments 66.21 15.00 0.01

58. Boilers & steam

generating plants

45.22 9.98 0.01

59. Glue and Gelatine 39.88 8.71 0.01

60. Coir 6.67 1.47 0.00

61. Mathematical, Surveying

& drawing instruments

5.04 1.27 0.00

62. Defence Industries 0.24 0.05 0.00

63. Misc. industries 32,658.73 7,294.89 5.28

Sub Total 615,514.83137,501.53

100.00

RBI's NRI Schemes 5330.06 121.33 -

Grand Total 616,047.89 137,622.86 -

Sector wise FDI inflows

SOURCE: DIPP, Federal Ministry of Commerce and Industry,

Government of India

I



4.4 AS PER INTERNATIONAL BEST PRACTICES:

(Amount US$ million)

Sl.n

o

Financial

Year

(April-

March

FIPB

Route/

RBI’s

Automatic

Route/

Acquisitio

n Route

Equity

capital

ofuninc

o

rporate

d

bodies

Re-

investe

d

earning

s

+

Other

capital

+

FDI

FLOW

S INTO

INDIA

Investmen

t by FII’s

Foreign

Institution

al

Investors

Fund

1 2000-01 2,339 61 1

,350

279 4,029 - 1,847

2. 2001-02 3,904 191 1,645 390 6,130 (+) 52

%

1,505

3. 2002-03 2,574 190 1,833 438 5,035 (-) 18

%

377



4. 2003-04 2,197 32 1,460 633 4,322 (-) 14

%

10,918

5. 2004-05 3,250 528 1,904 369 6,051 (+) 40

%

8,686

6. 2005-06 5,540 435 2,760 226 8,961 (+) 48

%

9,926

7. 2006-07 15,585 896 5,828 517 22,826 (+) 146

%

3,225

8. 2007-08 24,573 2,291 7,679 292 34,835 (+) 53

%

20,328

9. 2008-09 27,329 702 9,030 777 37,838 (+) 09

%

(-) 15,017

10. 2009-10

(P) (+)

25,609 1,540 8,669 1,94

5

37,763 (-) 0.2

%

29,048

11. 2010-11

(P) (+)

19,430 874 9,424 652 30,380

(-) 20

%

29,422

1

2.

2011-2012 7,785 0 0 0

7,785

-

1,731

Cumulativ

e

Total

(from

April

2000 to

May 2011

140,115

7740 51,528 6518 20,595

5

- 101,996

4.5 DIPP’S – FINANCIAL YEAR-WISE FDI EQUITY INFLOWS:

(As per DIPP’s FDI data base – equity capital components only):

%age growth



S.no Financial Year

(April – March)

Amount of FDI

Inflows

over /

previous

year/

(in terms of

US $)

In

crores In US$

million

1 2000-01 10,733 2,463 -

2 2001-02 18,654 4,065 ( + ) 65 %

3 2002-03 12,871 2,705 ( - ) 50 %

4 2003-04 10,064 2,188 ( - ) 19 %

5 2004-05 14,653 3,219 ( + ) 47 %

6 2005-06 24,584 5,540 ( + ) 72 %

7 2006-07 56,390 12,492 (+ )125 %

8 2007-08 98,642 24,575 ( + ) 97 %

9 2008-09 123,025 27,330 ( + ) 11 %

10 2009-10 123,120 25,834 ( - ) 05 %

11 2010-11 88,520 19,427 -

12 2011-12 34,792 7,785 -

Cumulative

Total

616,048 137,623

Forbidden Territories:

Arms and ammunition

Atomic Energy

Coal and lignite

Rail Transport



Mining of metals like iron, manganese, chrome, gypsum, sulfur, gold, diamonds,

copper, zinc.

4.6 Foreign Investment through GDRs (Euro Issues) –

Indian companies are allowed to raise equity capital in the international market through the

issue of Global Depository Receipt (GDRs). GDR investments are treated as FDI and are

designated in dollars and are not subject to any ceilings on investment. An applicant company

seeking Government's approval in this regard should have consistent track record for good

performance (financial or otherwise) for a minimum period of 3 years. This condition would

be relaxed for infrastructure projects such as power generation, telecommunication,

petroleum exploration and refining, ports, airports and roads.

4.6.1. Clearance from FIPB –

There is no restriction on the number of Euro-issue to be floated by a company or a group of

companies in the financial year. A company engaged in the manufacture of items covered

under Annex-III of the New Industrial Policy whose direct foreign investment after a

proposed Euro issue is likely to exceed 51% or which is implementing a project not contained

in Annex-III, would need to obtain prior FIPB clearance before seeking final approval from

Ministry of Finance.

4.6.2. Use of GDRs –

The proceeds of the GDRs can be used for financing capital goods imports, capital

expenditure including domestic purchase/installation of plant, equipment and building and

investment in software development, prepayment or scheduled repayment of earlier external

borrowings, and equity investment in JV/WOSs in India.

4.7 Analysis of sector specific policy for FDI

Sr. No. Sector/Activity FDI cap/Equity Entry/Route



1. Hotel & Tourism 100% Automatic

2. NBFC 49% Automatic

3. Insurance 26% Automatic

4. Telecommunication:

cellular, value added services

ISPs with gateways, radio-

paging

Electronic Mail & Voice Mail

49%

74%

100%

Automatic

Above 49% need Govt.

licence

5. Trading companies:

primarily export activities

bulk imports, cash and carry

wholesale trading

51%

100%

Automatic

Automatic

6. Power(other than atomic reactor

power plants) 100% Automatic

7. Drugs & Pharmaceuticals 100% Automatic

8. Roads, Highways, Ports and

Harbors

100% Automatic

9. Pollution Control and

Management

100% Automatic

10 Call Centers 100% Automatic

11. BPO 100% Automatic

12. For NRI's and OCB's:

i. 34 High Priority

Industry Groups

ii. Export Trading

Companies

iii. Hotels and

Tourism-related Projects

iv. Hospitals,

100% Automatic



Diagnostic Centers

v. Shipping

vi. Deep Sea Fishing

vii. Oil Exploration

viii. Power

ix. Housing and Real

Estate Development

x. Highways,

Bridges and Ports

xi. Sick Industrial

Units

xii. Industries

Requiring Compulsory

Licensing

xiii. Industries

Reserved for Small Scale

Sector

13. Airports:

Greenfield projects

Existing projects

100%

100%

Automatic

Beyond 74% FIPB

14 Assets reconstruction company 49% FIPB

15. Cigars and cigarettes 100% FIPB

16. Courier services 100% FIPB

17. Investing companies in

infrastructure (other than

telecom sector)

49% FIPB



4.8 Analysis of FDI inflow in India From April 2000 to August 2012

(Amount US$ in Millions)

S.No Financial Year Total FDI Inflows % Growth Over Previous Year

1. 2000-01 4,029 ----

2. 2001-02 6,130 (+) 52

3. 2002-03 5,035 (-) 18

4. 2003-04 4,322 (-) 14

5. 2004-05 6,051 (+) 40

6. 2005-06 8,961 (+) 48

7. 2006-07 22,826 (+) 146

8. 2007-08 34,362 (+) 51

9. 2008-09 35,168 (+) 02

10. 2009-10 25069 (-) 0.2

11. 2010-11 19,430 (-) 20

12. 2011-12 7,785 ---



4.9 Analysis of share of top ten investing countries FDI equity in flows From

April 2000 to January 2012

(Amount in crore)

Sr. No Country Amount of FDI Inflows % As To

Total FDI

Inflow

1. Mauritius 252056.85 40.95

2. Singapore 58891.77 9.64

3. U.S.A. 43730.15 7.06

4. U.K. 40494.00 6.62

5. Netherlands 26658.28 4.31

6. Japan 25592.86 4.10

7. Cyprus 22748.19 3.63

8. Germany 13751.34 2.24

9. France 11468.89 1.84

10. U.A.E. 8757.33 1.41

4.9.1 Mauritius



Mauritius invested Rs. 252056.85 crore in India Up to the January 2011-12, equal to 40.95

percent of total FDI inflows. Many companies based outside of India utilize Mauritian

holding companies to take advantage of the India- Mauritius Double Taxation Avoidance

Agreement (DTAA). The DTAA allows foreign firms to bypass Indian capital gains taxes,

and may allow some India-based firms to avoid paying certain taxes through a process known

as “round tripping.”

The extent of round tripping by Indian companies through Mauritius is unknown. However,

the Indian government is concerned enough about this problem to have asked the government

of Mauritius to set up a joint monitoring mechanism to study these investment flows. The

potential loss of tax revenue is of particular concern to the Indian government. These are the

sectors which attracting more FDI from Mauritius Electrical equipment Gypsum and cement

products Telecommunications Services sector that includes both non- financial and financial

Fuels.

4.9.2 Singapore

Singapore continues to be the single largest investor in India amongst the Singapore with FDI

inflows into Rs. 58891.77 crores up to January 2012

Sector-wise distribution of FDI inflows received from Singapore the highest inflows have

been in the services sector (financial and non financial), which accounts for about 9.64% of

FDI inflows from Singapore. Petroleum and natural gas occupies the second place followed

by computer software and hardware, mining and construction.

4.9.5 United States



The United States is the third largest source of FDI in India (7.06 % of the total), valued at

43730.15 crore in cumulative inflows up to January 2012. According to the Indian

government, the top sectors attracting FDI from the United States to India are fuel,

telecommunications, electrical equipment, food processing, and services. According to the

available M&A data, the two top sectors attracting FDI inflows from the United States are

computer systems design and programming and manufacturing

4.9.4 U.K

The United Kingdom is the fourth largest source of FDI in India (6.62% of the total), valued

at 40494.00 crores in cumulative inflows up to January 2012 Over 17 UK companies under

the aegis of the Nuclear Industry Association of UK have tied up with Ficci to identify joint

venture and FDI possibilities in the civil nuclear energy sector.UK companies and policy

makers the focus sectors for joint ventures, partnerships, and trade are non-conventional

energy, IT, precision engineering, medical equipment, infrastructure equipment, and creative

industries.

4.9.5 Netherlands

FDI from Netherlands to India has increased at a very fast pace over the last few years.

Netherlands ranks fifth among all the countries that make investments in India. The total flow

of FDI from Netherlands to India came to Rs. 26658.28 crores between 1991 and 2002. The

total percentage of FDI from Netherlands to India stood at 4.31% out of the total foreign

direct investment in the country up to January 2012.

Following Various industries attracting FDI from Netherlands to India are:

Food processing industries



Telecommunications that includes services of cellular mobile, basic telephone, and

radio paging

Horticulture

Electrical equipment that includes computer software and electronics

Service sector that includes non- financial and financial services

4.10 Analysis of sectors attracting highest FDI equity inflows

From April 2000 to March 2012

(Amount in Millions)

Sr. No Sector Amount of FDI

Inflows

% As To

Total FDI

Inflow

1. Service Sector

(Financial & Non Financial)

124219.33 20.22

2 Housing & Real Estate 47,380.95 7.73

3 Telecommunication 48,369.49 7.73

4 Computer Software & Hardware 46,723.09 7.64

5. Construction Activities 39,686.54 6.46

6. Automobile Industry 28,274.31 4.54

7. Power 28,135.78 4.53

8. Drugs & pharmaceuticals 21,640.48 3.52

9. Metallurgical Industries 18,767.82 3.12

10. Petroleum & Natural Gas 13,687.09 2.29



The sectors receiving the largest shares of total FDI inflows up to arch 2012 were the

service sector and Housing & Real Estate, each accounting for 20.22 and 7.73 percent

respectively. These were followed by the telecommunications, real estate, construction and

automobile sectors. The top sectors attracting FDI into India via M&A activity were

manufacturing; information; and professional, scientific, and technical services. These sectors

correspond closely with the sectors identified by the Indian government as attracting the

largest shares of FDI inflows overall.

4.11 Foreign Institutional Investment

4.11.1 Introduction to FII



Since 1990-91, the Government of India embarked on liberalization and economic reforms

with a view of bringing about rapid and substantial economic growth and move towards

globalization of the economy. As a part of the reforms process, the Government under its

New Industrial Policy revamped its foreign investment policy recognizing the growing

importance of foreign direct investment as an instrument of technology transfer,

augmentation of foreign exchange reserves and globalization of the Indian economy.

Simultaneously, the Government, for the first time, permitted portfolio investments from

abroad by foreign institutional investors in the Indian capital market. The entry of FIIs seems

to be a follow up of the recommendation of the Narsimhan Committee Report on Financial

System. While recommending their entry, the Committee, however did not elaborate on the

objectives of the suggested policy. The committee only suggested that the capital market

should be gradually opened up to foreign portfolio investments.

From September 14, 1992 with suitable restrictions, FIIs were permitted to invest in all the

securities traded on the primary and secondary markets, including shares, debentures and

warrants issued by companies which were listed or were to be listed on the Stock Exchanges

in India. While presenting the Budget for 1992-93, the then Finance Minister Dr. Manmohan

Singh had announced a proposal to allow reputed foreign investors, such as Pension Funds

etc., to invest in Indian capital market.

4.12.2 Market design in India for foreign institutional investors;

Foreign Institutional Investors means an institution established or incorporated outside India

which proposes to make investment in India in securities. A Working Group for Streamlining



of the Procedures relating to FIIs, constituted in April, 2003, inter alia, recommended

streamlining of SEBI registration procedure, and suggested that dual approval process of

SEBI and RBI be changed to a single approval process of SEBI. This recommendation was

implemented in December 2003.

Currently, entities eligible to invest under the FII route are as follows:

i) As FII: Overseas pension funds, mutual funds, investment trust, asset management

company, nominee company, bank, institutional portfolio manager, university

funds, endowments, foundations, charitable trusts, charitable societies, a trustee or

power of attorney holder incorporated or established outside India proposing to

make proprietary investments or with no single investor holding more than 10 per

cent of the shares or units of the fund.

ii) As Sub-accounts: The sub account is generally the underlying fund on whose

behalf the FII invests. The following entities are eligible to be registered as sub-

accounts, viz. partnership firms, private company, public company, pension fund,

investment trust, and individuals.

FIIs registered with SEBI fall under the following categories:

a) Regular FIIs- those who are required to invest not less than 70 % of their investment in

equity-related instruments and 30 % in non-equity instruments.

b) 100 % debt-fund FIIs- those who are permitted to invest only in debt instruments.



The Government guidelines for FII of 1992 allowed, inter-alia, entities such as asset

management companies, nominee companies and incorporated/institutional portfolio

managers or their power of attorney holders (providing discretionary and non-discretionary

portfolio management services) to be registered as FIIs. While the guidelines did not have a

specific provision regarding clients, in the application form the details of clients on whose

behalf investments were being made were sought.

While granting registration to the FII, permission was also granted for making investments in

the names of such clients. Asset management companies/portfolio managers are basically in

the business of managing funds and investing them on behalf of their funds/clients. Hence,

the intention of the guidelines was to allow these categories of investors to invest funds in

India on behalf of their 'clients'. These 'clients' later came to be known as sub-accounts. The

broad strategy consisted of having a wide variety of clients, including individuals,

intermediated through institutional investors, who would be registered as FIIs in India. FIIs

are eligible to purchase shares and convertible debentures issued by Indian companies under

the Portfolio Investment Scheme.

4.12.3 Prohibitions on Investments:

FIIs are not permitted to invest in equity issued by an Asset Reconstruction Company. They

are also not allowed to invest in any company which is engaged or proposes to engage in the

following activities:



1) Business of chit fund

2) Nidhi Company

3) Agricultural or plantation activities

4) Real estate business or construction of farm houses (real estate business does not include

development of townships, construction of residential/commercial premises, roads or

bridges).

5) Trading in Transferable Development Rights (TDRs).

4.12.4 Trends of Foreign Institutional Investments in India.

Portfolio investments in India include investments in American Depository Receipts (ADRs)/

Global Depository Receipts (GDRs), Foreign Institutional Investments and investments in

offshore funds. Before 1992, only Non-Resident Indians (NRIs) and Overseas Corporate

Bodies were allowed to undertake portfolio investments in India. Thereafter, the Indian stock

markets were opened up for direct participation by FIIs. They were allowed to invest in all

the securities traded on the primary and the secondary market including the equity and other

securities/instruments of companies listed/to be listed on stock exchanges in India. It can be

observed from the table below that India is one of the preferred investment destinations for

FIIs over the years. As of March 2009, there were 1609 FIIs registered with SEBI.

SEBI Registered FIIs in India

Year End of March

1992-93 0

1993-94 3

1994-95 156

1995-96 353

1996-97 439



1997-98 496

1998-99 450

1999-00 506

2000-01 527

2001-02 490

2002-03 502

2003-04 540

2004-05 685

2005-06 882

2006-07 996

2007-08 1279

2008-09 1609

2009-10 1805

2010-11 1976

2011-12 2264

4.12.5 FII trend in India

Year Gross Purchases

(a) (Rs. crore)

Gross Sales (b)

(Rs.crore)

Net Investment

(a-b)

(Rs. crore)

% increase in

FII inflow

1994-95 17 4 13 -

1995-96 5593 466 5127 39338.46

1996-97 7631 2835 4796 -6.45

1997-98 9694 2752 6942 44.75

1998-99 15554 6979 8575 23.52

1999-00 18695 12737 5958 -30.52

2000-01 16115 17699 1584 126.59

2001-02 56856 46734 10122 739.02

2002-03 74051 64116 9935 -1.85



2003-04 49920 41165 8755 -11.88

2004-05 47061 44373 2688 69.30

2005-06 144858 99094 45764 1602.53

2006-07 16953 171072 45881 0.26

2007-08 346978 305512 41466 -9.62

2008-09 520508 489667 30841 -25.62

2009-10 896686 844504 52182 69.20

2010-11 548876 594608 -45732 187.64

2011-12 - - - -

2012 data was not available

There may be many other factors on which a stock index may depend i.e. Government

policies, budgets, bullion market, inflation, economic and political condition of the country,



FDI, Re./Dollar exchange rate etc. But for my study I have selected only one independent

variable i.e. FII and dependent variable is indices of nifty.

4.12.6 Co – relation with Indices

Indices Co-relation with FII

Sensex 0.80

Banks 0.18

Power 0.33

IT 0.13

Capital Goods 0.44

From the above table we can say that FII has a positive impact on all the indices which means

that if FIIs come in India then it is goods for the Indian economy. FIIs have more co-relation

with Sensex so we can say that they are mostly invest in big and reputed companies which

are included in Sensex.

Power and Capital Goods sector have more co-relation with FII investment which shows

more interest of FIIs in those sectors.

4.12.7 Difference between FDI and FII

FDI v/s FII---Both FDI and FII are related to investment in a foreign country. FDI or Foreign Direct

Investment is an investment that a parent company makes in a foreign country. On the contrary, FII or

Foreign Institutional Investor is an investment made by an investor in the markets of a foreign nation.

In FII, the companies only need to get registered in the stock exchange to make investments. But FDI

is quite different from it as they invest in a foreign nation. The Foreign Institutional Investor is also

known as hot money as the investors have the liberty to sell it and take it back. But in Foreign Direct

Investment, this is not possible. In simple words, FII can enter the stock market easily and also



withdraw from it easily. But FDI cannot enter and exit that easily. This difference is what makes

nations to choose FDI’s more than then FIIs.

FDI is more preferred to the FII as they are considered to be the most beneficial kind of

foreign investment for the whole economy Specific enterprise. It aims to increase the

enterprises capacity or productivity or change its management control. In an FDI, the capital

inflow is translated into additional production. The FII investment flows only into the

secondary market. It helps in increasing capital availability in general rather than enhancing

the capital of a specific enterprise. The Foreign Direct Investment is considered to be more

stable than Foreign Institutional Investor. FDI not only brings in capital but also helps in

good governance practices and better management skills and even technology transfer.

Though the Foreign Institutional Investor helps in promoting good governance and improving

accounting, it does not come out with any other benefits of the FDI. While the FDI flows into

the primary market, the FII flows into secondary market. While FIIs are short-term

investments, the FDI’s are long term.

1. FDI is an investment that a parent company makes in a foreign country. On

the contrary, FII is an investment made by an investor in the markets of a

foreign nation.

2. FII can enter the stock market easily and also withdraw from it easily. But

FDI cannot enterand exit easily.

3. Foreign Direct Investment targets a specific enterprise .The FII increasing

capital availability in general.

4. The Foreign Direct Investment is considered to be more stable than Foreign

Institutional Investor.


http://www.differencebetween.net/tag/economy/

http://www.differencebetween.net/business/difference-between-fdi-and-fpi/


5.1 Summery of the Findings

Finally, it may be concluded that developing countries has make their presence felt in the

Economics of developed nations by receiving a descent amount of FDI in the last three

Decades. Although India is not the most preferred destination of global FDI, but there has

been a generous flow of FDI in India since 1991. It has become the 2nd fastest growing

economy of the world. India has substantially increased its list of source countries in the post

– liberalization era. India has signed a number of bilateral and multilateral trade agreements

with developed and developing nations. India as the founding member of GATT, WTO, a

signatory member of SAFTA and a member of MIGA is making its presence felt in the

economic landscape of globalised economies. The economic reform process started in 1991

helps in creating a conducive and healthy atmosphere for foreign investors and thus, resulting

in substantial amount of FDI inflows in the country.

5.1.1 Trends and Patterns of FDI flows at World level:

It is seen from the analysis that large amount of FDI flows are confined to the developed

economies. But there is a marked increase in the FDI inflows to developing economies from

1997 onwards. Developing economies fetch a good share of 40 percent of the world FDI

inflows in 1997 as compared to 26 percent in 1980s.

Among developing nations, Asian countries received maximum share (16%) of FDI

inflows as compared to other emerging developing countries of Latin America (8.7

%) and Africa (2%).



This can be attributed to the economic reform process of the country for the last eighteen

years.

5.1.2 Trends and patterns of FDI flows at Asian level:

India, with a share of nearly 75% emerged as a major recipient of global FDI inflows

in South Asia region in 2012.

As far as South, East and South – East block is concerned India is at 3rd place with a

share of 9.2% while China is at number one position with a share of 33% in 2012.

Other major economies of this block are Singapore, South Korea, Malaysia, Thailand

and Philippines.

While comparing the share of FDI inflows of China and India during this decade (i.e.

2002-20012) it is found that India’s share is barely 2.8 percent while china’s share is

21.7 percent.

5.1.3 Trends and patterns of FDI flows at Indian level:

Although India’s share in global FDI has increased considerably, but the pace of

FDI in flows has been slower than China, Singapore, Brazil, and Russia.

Due to the continued economic liberalization since 1991, India has seen a decade of 7

plus percent of economic growth. In fact, India’s economy has been growing more

than 9 percent for three consecutive years since 2006 which makes the country a

prominent performer among global economies. At present India is the 4th largest and

2nd fastest growing economy in the world. It is the 11th largest economy in terms of

industrial output and has the 3rd largest pool of scientific and technical manpower.



There has been a generous flow of FDI in India since 1991 and its overall direction

also remained the same over the years irrespective of the ruling party.

India has received increased NRI’s deposits and commercial borrowings largely

because of its rate of economic growth and stability in the political environment of the

country.

During the period under study it is found that India’s GDP crossed one trillion dollar

mark in 2011.

An analysis of last eighteen years of trends in FDI inflows in India shows that initially

the inflows were low but there is a sharp rise in investment flows from 2005

onwards.

A comparative analysis of FDI approvals and inflows reveals that there is a huge gap

between the amount of FDI approved and its realization into actual disbursements

It is observed that major FDI inflows in India are concluded through automatic route

and acquisition of existing shares route than through FIPB, SIA route during 1991-

2008.

It is found that India has increased its list of sources of FDI since 1991. There were

just few countries (U.K, Japan) before Independence. After Independence from the

British Colonial era India received FDI from U.K., U.S.A., Japan, Germany, etc.

It is also found that although the list of sources of FDI flows has reached to 120

countries but the lion’s share (66 percent) of FDI flow is vested with just five

countries (viz. Mauritius, USA, UK, Netherlands and Singapore).

Mauritius and United states are the two major countries holding first and the second

position in the investor’s list of FDI in India. While comparing the investment made

by both countries, one interesting fact comes up which shows that there is huge

difference in the volume of FDI received from Mauritius and the U.S. It is found that

FDI inflows from Mauritius are more than double from that of the U.S.



State- wise FDI inflows show that Maharashtra, New Delhi, Karnataka, Gujarat and

Tamil Nadu received major investment from investors because of the infrastructural

facilities and favorable business environment provided by these states.

It is observed that among Indian cities Mumbai received maximum numbers of

foreign collaborations.

5.1.4 Trends and patterns of FDI flows at Sectoral level of Indian Economy:

Infrastructure Sector:

Initially, the inflows were low but there is a sharp rise in FDI inflows from 2005 onwards.

Among the subsectors of Infrastructure sector, telecommunications received the highest

percentage of FDI inflows. Other major subsectors of infrastructure sectors are construction

activities, real estate and power. Mauritius and Singapore are the two major investors in this

sector. In India highest percentage of FDI inflows for infrastructure sector is with New Delhi

and Mumbai.

Services sector:

There is a continuously increasing trend of FDI inflows in services sector with a steep rise in

the inflows from 2005 onwards.. In India, Mumbai and Delhi are the two most attractive

locations which receives heavy investment in services sector. It is found that among the

major investing countries in India Mauritius tops the chart by investing 42.5 percent in

services sector followed by U.K and Singapore.

Trading sector:



The sector shows a trailing pattern upto 2005 but there is an exponential rise in inflows from

2006 onwards. Major investment in this sector came from Mauritius, Japan and Cayman

Island respectively during 2000-2011. In India, Mumbai, Bangalore and New Delhi are the

top three cities which have received highest investment in trading sector upto Dec. 2011.

Consultancy Sector:

Among the subsectors of consultancy sector management services received highest amount of

FDI inflows apart from marketing and design and engineering services. Mauritius invest

heavily in the consultancy sector. In India Mumbai received heavy investment in the

consultancy sector. Consultancy sector shows a continuous increasing trend of FDI inflows

from2005 onwards.

Education sector:

Education sector attracts foreign investors in the present decade. It registered a steep rise in

FDI inflows from 2005. Mauritius remains top on the chart of investing countries investing in

education sector. Bangalore received highest of FDI inflows in India.

Housing and Real Estate Sector:

Housing and Real Estate sector received of total FDI inflows in India upto 2008. Major

investment in this sector came from Mauritius. New Delhi and Mumbai are the two top cities

which received highest percentage of FDI inflows. Housing sector shows an exponentially

increasing trend after 2005.

Construction Activities Sector:

Construction Activities sector received high FDI inflows. Mauritius is the major investment

country in India. New Delhi and Mumbai are the most preferred locations for construction

activities in India.



Automobile Sector:

Earlier Automobile Industry was the part of transportation sector but it became an

independent sector in 2000. Japan (27.59%), Italy (14.66%) and USA (13.88%) are the

prominent investors in this sector. In India Mumbai and New Delhi with investment becomes

favourite’s destination for this sector. Maximum numbers of technical collaborations in this

sector are with Japan.

Computer Hardware and Software Sector:

Computer Software and hardware was the part of electrical and electronics sector. However,

it was segregated from electrical and electronics sector in 2000. This sector received heavy

investment from Mauritius apart from USA and Singapore.

It is observed that major investment in the above sectors came from Mauritius and

investments in these sectors in India are primarily concentrated in Mumbai and New

Delhi.

5.1.5 FDI and Indian Economy

The results of Foreign Direct Investment Model shows that all variables included in

the study are statistically significant. Except the two variables i.e. Exchange Rate and

Research and Development expenditure (R&DGDP) which deviates from their

predicted signs. All other variables show the predicted signs.

Exchange rate shows positive sign instead of expected negative sign. This could be

attributed to the appreciation of Indian Rupee in international market which helped



the foreign firms to acquire the firm specific assets at cheap rates and gain higher

profits.

Research and Development expenditure shows unexpected negative sign as of

expected positive sign. This could be attributed to the fact that R&D sector is not

receiving enough FDI as per its requirement. but this sector is gaining more

attention in recent years.

Another important factor which influenced FDI inflows is the Trade

GDP. It shows the expected positive sign. In other words, the

elasticity coefficient between Trade GDP and FDI inflows is 11.79

percent which shows that one percent increase in Trade GDP causes

11.79 percent increase in FDI inflows to India.

The next important factor which shows the predicted positive sign is

Reserves GDP.

Another important factor which shows the predicted positive sign is

FIN. Position i.e. financial position

In the Economic Growth Model, the variable GDPG (Gross Domestic

Product Growth i.e. level of economic growth) which shows the

market size of the host economy revealed that FDI is a vital and

significant factor influencing the level of economic growth in India.



5.2 Conclusion

A large number of changes that were introduced in the country’s regulatory economic

policies heralded the liberalization era of the FDI policy regime in India and brought about a

structural breakthrough in the volume of the FDI inflows into the economy maintained a

fluctuating and unsteady trend during the study period. It might be of interest to note that

more than 50% of the total FDI inflows received by India came from Mauritius, Singapore

and the USA.

The main reason for higher levels of investment from Mauritius was that the fact

that India entered into a double taxation avoidance agreement (DTAA) with Mauritius were

protected from taxation in India. Among the different sectors, the service sector had received

the larger proportion followed by computer software and hardware sector and

telecommunication sector.

According to findings and results, we have concluded that FII did have significant

impact on Sensex but there is less co-relation with Bankex and IT. One of the reasons for

high degree of any linear relation can also be due to the sample data. The data was taken on

monthly basis. The data on daily basis can give more positive results (may be). Also FII is

not the only factor affecting the stock indices. There are other major factors that influence the

bourses in the stock market.



5.3 Recommendations:

Thus, it is found that FDI as a strategic component of investment is

needed by India for its sustained economic growth and

development. FDI is necessary for creation of jobs, expansion of

existing manufacturing industries and development of the new one.

Indeed, it is also needed in the healthcare, education, R&D,

infrastructure, retailing and in long term financial projects. So, the

study recommends the following suggestions:

The study urges the policy makers to focus more on attracting

diverse types of FDI.

The policy makers should design policies where foreign investment

can be utilised as means of enhancing domestic production,

savings, and exports; as medium of technological learning and

technology diffusion and also in providing access to the external

market.

It is suggested that the government should push for the speedy

improvement of infrastructure sector’s requirements which are

important for diversification of business activities.



Government should ensure the equitable distribution of FDI inflows

among states. The central government must give more freedom to

states, so that they can attract FDI inflows at their own level. The

government should also provide additional incentives to foreign

investors to invest in states where the level of FDI inflows is quite

low.

Government should open doors to foreign companies in the export –

oriented services which could increase the demand of unskilled

workers and low skilled services and also increases the wage level

in these services.

Government must target at attracting specific types of FDI that are

able to generate spillovers effects in the overall economy. This could

be achieved by investing in human capital, R&D activities,

environmental issues, dynamic products, productive capacity,

infrastructure and sectors with high income elasticity of demand.

The government must promote policies which allow development

process starts from within (i.e. through productive capacity and by

absorptive capacity).

It is also suggested that the government must promote sustainable

development through FDI by further strengthening of education,

health and R&D system, political involvement of people and by

ensuring personal security of the citizens.

Government must pay attention to the emerging Asian continent as

the new economic power – house of business transaction and try to



boost the trade within this region through bilateral, multilateral

agreements and also concludes FTAs with the emerging economic

Asian giants.

As the appreciation of Indian rupee in the international market is

providing golden opportunity to the policy makers to attract more

FDI in Greenfield projects as compared to Brownfield investment. So

the government must invite Greenfield investments.

Finally, it is suggested that the policy makers should ensure

optimum utilization of funds and timely implementation of projects.

It is also observed that the realization of approved FDI into actual

disbursement is quite low.


An analytical study of foreign direct investment in india

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