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1. THE INHERENT CONTRADICTIONS IN THE INDIAN ECONOMIC SCENE
6. SOME EXAMPLES OF JUDGEMENTS BY INDIAN COURTS INVOLVING FOREIGN ENTITIES
9. THE ECONOMIC REFORMS OF 1991
To the discerning foreign investor, the Indian economy has always presented a baffling paradox.
These and other contradictions highlight an essential feature of the Indian business scene; and that is that there can be no standard ground rules or guidelines to inform the investor or businessman.
Each business situation has to be separately considered and a solution found according to its special requirements. This is not to say that India lacks a basic legal structure or that government's decisions are made on the basis of ad hoc views or opinions. But, the all pervasive role of the federal government in according approvals to significant foreign investment proposals is a key factor in doing business in India.
It is essential for a foreigner who is trying to do business in India to understand the essential of its legal system. This system is one of the positive features that attracts foreign investment to India.
India has inherited from Britain a very strong and efficient legal system. The history of the present day Indo-British legal system goes back to the charters granted in 1600 and 1609 by Elizabeth I and James I of England to the East India Company under which the Company was authorized "... to make, ordain and constitute such and so many reasonable laws, constitutions, orders and ordinances as to them ... shall seem necessary ... so always that the said laws, orders, ordinances, imprisonments, fines and amercements be reasonable and not contrary or repugnant to the laws, statutes, customs of this Our realm". The Mogul rulers of India permitted the Company to establish trading outposts or factories in various places in India. By a treaty between England and the Moguls signed in 1618, the Company was given the privilege of adjudicating the disputes between the English employees of the Company and other Englishmen dwelling in the Company's first factory, which was located in Surat. In due course, the Company extended its commercial, and subsequently its political interests in India, to such an extent that it assumed, for all practical purposes, the powers of a sovereign ruler over the territories under its control. After the crushing of the Indian Mutiny in 1857, the British Parliament, by the Government of India Act, 1858, at one legislative stroke, took over from the Company, and transferred to the Crown, the sovereignty over large tracts of the territory of India.
In 1947, the process was reversed. The British Parliament passed the historic Indian Independence Act, 1947 by which India and Pakistan were declared to be separate and independent Dominions.
Direct or indirect British rule in India for nearly three hundred years has made a durable impact on many Indian institutions. When the British left India in 1947, they left behind a well organized economic and administrative infrastructure, a widespread network of roads and railways, a well trained bureaucracy, universities and educational institutions, the English language, which continues to be used for official and business purposes, and the legal system.
In 1950, the Constituent Assembly enacted the Constitution of India. The Constitution has a federal structure, but, unlike certain other constitutions, notably the constitution of the United States, the residuary powers are vested in the Center, and not in the States. The Constitution embodies a bill of rights, some of which include the right to equality before the law and the equal protection of the law, (article 14); freedom of speech and expression, (article 18(1)(a)); freedom of assembly, (article 19(1)(b)); the right to form associations or unions, (article 19(1)(c)); freedom of movement in India, (article 19(1)(d)); freedom of residence, (article 19(1)(e); the right to practice any profession, or to carry on any occupation, trade or business, (article 19(1)(g)); protection in respect of conviction and punishment in respect of certain offenses, (article 20(1)); protection against double jeopardy in matters concerning criminal prosecution, (article 20(2)); protection against testimonial compulsion, (article 20(3)); protection of life and personal liberty, (article 21); and, the right to constitutional remedies, (article 32).
As may be expected, these fundamental rights are not absolute. Their enforceability is restricted in certain cases on certain grounds expressly specified in the articles of the Constitution where the rights are set forth.
The Supreme Court has power to issue directions or orders or writs, including writs in the nature of habeas corpus, mandamus, certiorari, prohibition, and quo warranto, for the enforcement of these fundamental rights, and the High Courts have the same powers to issue these writs. But, they may do so not only for the enforcement of the fundamental rights, but, for any other purpose. All legislation and executive actions, whether federal or state, are subject to judicial review if they, in any way, infringe any of the fundamental rights guaranteed by the Constitution.
A great body of jurisprudence has developed on the interpretation and enforcement of these fundamental rights. The Supreme Court of India has played the principal role in interpreting the Constitution and in maintaining a just balance between the rights of citizens and the requirements of the State. The Supreme Court has developed or improved upon many principles of constitutional and administrative law, some of them borrowed from other countries, such as audi alteram partem, promissory estoppel, the right to have access to the rules of natural justice, and so on. The law declared by the Supreme Court is binding on all courts in India. The Supreme Court of India has held that it has the right to review and overrule its own decisions - Bengal Immunity Co. Ltd. v State of Bihar, (1955) 2SCR 603, 628.
The Constitution has special features for the maintenance of the independence of the judiciary. It contains adequate provisions to maintain the separation of powers, legislative, executive and judicial.
The principal features of the Indo-British legal system are: the common law, the enactment by the Indian legislature of statutes which are very similar to the corresponding statutes enacted by the British Parliament, an independent judiciary, the organization and functioning of the High Courts, the influence of the Privy Council as the last court of appeals over the decisions of the High Courts in India, and the training, traditions, privileges and duties of the Indian bar.
Prior to 1947, Britain imposed the English common law system in India and the courts observed this system of law except where indigenous Indian law was more appropriate, as in the case of family law and the law of succession.
The law of torts in India continues to be based on the English common law, and has not been codified. The horrendous disaster at Bhopal in 1984 prompted the central government to enact special legislation called the Bhopal Gas Disaster (Processing of Claims) Act, 1985, to protect the interests of the victims and their families. The Supreme Court in Charan Lal v Union of India, AIR 1990 S.C. 1480, held that this act was constitutionally valid. In M.C. Mehta v Union of India, AIR 1987 S.C. 1086, ("Mehta"), Chief Justice Bhagwati of the Supreme Court of India laid down an unprecedented and highly controversial principle to the effect that an Indian enterprise, engaged in hazardous activities, which result in death, injury or damage to property can, under certain circumstances, be held, without exception, strictly and absolutely liable in tort to a third party. In Mehta, Bhagwati C.J. also laid down two very radical and startling rules - the deep pocket theory and the enterprise theory. The ramifications of Mehta caused a lot of alarm among foreign investors who feared that they might be held liable for damages in tort if the Indian company in which they might have invested were involved in a disaster resulting in death or injury to third parties. Fortunately, in two subsequent cases, the Supreme Court itself has considered these observations of Bhagwati C.J. in Mehta to be obiter. In Charan Lal v. Union of India, AIR 1990 S.C. 1480, 1545, Sabyasachi Mukherji C.J. said:
"On behalf of the victims, it was suggested that the basis of damages in view of the observations made by this Court in M.C. Mehta's (AIR 1987 S.C. 1086) (supra) against the victims of UCC or UCIL would be much more than normal damages suffered in similar case against any other company or party which is financially not so solvent or capable. It was urged that it is time in order to make damages deterrent the damages must be computed on the basis of the capacity of a delinquent made liable to pay such damages and on the monetary capacity of the delinquent the quantum of the damages awarded would vary and not on the basis of actual consequences suffered by the victims. This is an uncertain promise of law. On the basis of evidence available and on the basis of the principles so far established, it is difficult to foresee any reasonable possibility of acceptance of this yardstick. And even if it is accepted, there are numerous difficulties of getting that view accepted internationally as a just basis in accordance with law. These, however, are within the realm of possibility."
In Union Carbide Corporation v. union of India, AIR 1992 S.C. 248, 261 the Supreme Court of India said:
"In M.C. Mehta's case no compensation was awarded as this Court could not reach the conclusion that Shriram (the delinquent company) came within the meaning of "State" in Article 12 so as to be liable to the discipline of Article 21 and to be subjected to a proceeding under Article 32 of the Constitution. Thus what was stated was essentially obiter."
It is therefore submitted that foreign investors (actual or potential) in industries which produce hazardous products or where the manufacturing process may give rise to hazardous accidents need no longer have any apprehension of unlimited civil liability to pay damages on the basis of the observations in Mehta.
However, by the National Environment Tribunal Act, 1995, Parliament has imposed an absolute liability on the person concerned (defined in that Act as the "owner") to pay compensation in respect of death or injury caused by an accident involving a fortuitous or sudden or unintended occurrence while handling any hazardous substance resulting in continuous or intermittent or repeated exposure. An accident caused by war or radio-activity is excepted. The definition of "owner" includes a director of a company who is directly in charge of, and is responsible to, the company for the conduct of its business.
Between 1860 and 1882, a succession of law commissions proposed elaborate draft codes of law which were later enacted, embodying the essential features of the English common law on subjects like criminal law, criminal and civil procedures, and statutes on subjects like contracts, evidence, negotiable instruments, succession, trusts and property law. Lord Macaulay, the chairman of the first Law Commission said: "I believe that no country ever stood so much in need of a code of law as India, and I believe also that there never was a country in which the want might be so easily supplied. The principle is simply this - uniformity when you can have it; diversity when you must have it; but, in all cases, certainty."
This process of codification has been continued in modern times in the field of Hindu personal law with the enactment by the Indian Parliament of statutes which include the Hindu Marriage Act 1955, the Hindu Succession Act, 1956, the Hindu Minority and Guardianship Act, 1956, the Hindu Adoptions and Maintenance Act, 1956. But, notwithstanding the brave words of Chief Justice Chandrachud of the Supreme Court of India, in the Shahbano Case, AIR 1985 S.C. 945, (para. 945), and notwithstanding the directive principle of state policy stated in article 44 of the Constitution, no effort has been made to evolve a common civil code of personal law applicable to all communities.
Some of the statutes enacted by Parliament in England relating to business relationships and regulation were re-enacted by the Indian legislature with a few adaptations. These laws included the Indian Companies Act, 1913, (since repealed and re-enacted as the Companies Act, 1956), the Indian Contract Act, 1872, the Sale of Goods Act, 1930, and the Indian Partnership Act, 1932. The similarity between Indian and English law on most commercial matters is important because it helps foreign investors and other foreigners who have business relations with India to have a better understanding of, and confidence in, the Indian legal system.
Before the attainment of Indian independence in 1947, these and other laws relating to commercial matters were administered by a court system in the finest tradition of equal and impartial British justice. The impact of the British judicial system on India is one of the most durable of the western institutions implanted on Indian soil. After independence, the courts in India have continued and improved upon the traditions inherited from the past. Indeed, the Indian judiciary has been rightly acclaimed to be one of the most exemplary and efficient divisions of the Indian polity.
The record of the Indian courts in dealing with disputes between foreign and India businessmen has been most satisfactory. Three examples will suffice to illustrate this point.
In 1983, the Supreme Court of India held that it is lawful for arbitrators to make an award for a sum of money expressed in foreign currency, Forasol v Oil and Natural Gas Commission (1986) 60 Company Cases 286.
In 1993, the Supreme Court of India held in Renusagar Power Co. Ltd. v General Electric Co. (1994) 81 Company Cases 171 that it was not against the public policy of India for a foreign arbitral tribunal to award to a foreign company compound interest on the amount of the damages to which it was entitled for the breach of a contract between it and an Indian company.
The Dabhol Power Company is an Indian joint venture promoted by three multinational companies - ENRON, General Electric and Bechtel. In 1994, the State of Maharashtra, whose legislature and government were then controlled by the Congress Party, awarded a contract to Dabhol to construct one of India's largest electric power generating stations, involving a capacity of 1920 megawatts. The company takes its name from the town of Dabhol on the west coast of Maharashtra. The project was soon embroiled in controversy. Many public interest groups filed petitions in the Bombay High Court and Delhi High Court challenging the validity of the award of the contract without inviting public tenders and the environmental and other regulatory clearances that had been given to it. The courts dismissed all these petitions. In 1995, general elections were held in the State of Maharashtra. Soon after the polling had been closed but before the results were announced, the Government of Maharashtra (which was still controlled by the Congress party), the Maharashtra State Electricity Board and Dabhol signed the final contractual documents. But, the Congress Party lost the elections. A coalition government comprising two political parties the Shiv Sena and the Bharatiya Janata Party ("BJP") assumed power in the State. These parties had been violently opposing the Dabhol power project before and during the election campaign. As soon as the new coalition government took over power, it lost no time in ordering the stoppage of all work on the project and announced that it would review the contract. It then filed a law suit in the Bombay High Court and commenced arbitration proceedings before an arbitration panel appointed by the International Chamber of Commerce against Dabhol. The main charge against Dabhol was that the contract had been fraudulently obtained and that it was void because it was against public policy. In 1996, as a result of protracted negotiations between Dabhol and the Government, the contract was re-negotiated, amended and signed. The structure of the project and the power tariff to the consumers were modified. The law suit and the arbitration proceedings were withdrawn. But, before the long delayed work on the project could re-commence, a public interest group called the Center of Indian Trade Unions ("CITU") filed a petition in the Bombay High Court against the Union of India and many other respondents, including Dabhol, challenging the re-negotiated and modified contract. The Bombay High Court, in a remarkably candid judgment reported in Center of Indian Trade Unions v Union of India (1997) 1 All Maharashtra Reporter, 39, dismissed the petition mainly on the ground that the matters in issue before the court had been heard and finally decided in the previous decisions of the Mumbai and Delhi High Courts. But in doing so, the court made scathing strictures against the Government. This case is a significant example of how the Indian judiciary continues to play an independent role in protecting the interests of both citizen and foreigner. The timing of this judgement is also relevant. India has long ceased to be a nation ruled by a government elected by the same political party. The present Government of India is a coalition government comprising about thirteen parties of different political colors. Many of the states are ruled by regional political parties whose ideology varies from state to state and from party to party. In such a situation, a foreigner who signs a solemn contract with a government which is controlled by a particular political party needs to be reassured that this contract will continue to be honored if the control of the government passes to another political party. The C.I.T.U. judgment gives this assurance in these clear and unambiguous words:
We express our grave concern over such conduct of the government. We are of the clear opinion that it is not only unbecoming on the part of the Government to do so but a reprehensible conduct. The State is a legal entity having a personality of its own quite different and distinct from the political party in power or the persons in office. The contractual liability of the State under the Constitution of India is the same as that of an individual under the ordinary law of contract. The government of a State may sue or be sued by the name of the State. The contractual obligations of the State are governed by the law of contract and not by the personal whims and fancies of the people in power or the philosophy of the political party to which they belong. The State cannot get out of its contractual obligations unilaterally except in accordance with the laws governing the contracts. In India, under the Indian Contract Act, a party to the contract cannot repudiate the contract merely because it feels that the terms of the contract are onerous or that the deal is tilted in favor of the other contracting party, unless the contract is void or voidable. The circumstances which render a contract void or voidable are clearly set out in that Act.
The judicial system in India is presently undergoing severe stresses because of the mounting arrears of litigation. The availability of the so called "writ jurisdiction" of the High Courts has encouraged litigants to file an extraordinary large number of writ petitions against the Central Government, the State Governments, their functionaries and against corporations owned or controlled by them. These writ petitions and other factors have substantially contributed to the delays and pressures which the High Courts are experiencing in the timely disposal of pending cases. As of 1993, the total number of pending cases in the four High Courts of Bombay, Calcutta, Delhi and Madras was a staggering 871,548. The recent measures initiated by the Government to set up special tribunals to deal with certain matters - conditions of service of civil servants and the proposed rent control tribunal - will help to reduce the pressure on the judicial system, which should continue to maintain the high principles of judiciary integrity and independence of which this country has been justly proud.
The Indian legal system provides for both the court and arbitration methods of dispute resolution. Court proceedings are the preferred route, though increasing recourse is being made to resolving disputes by arbitration. The litigation route of dispute resolution is both expensive and protracted. The unsuccessful litigant has the right of multiple appeals which can end in the Supreme Court after a delay of more than fifteen years.
The Government, or corporations owned or controlled by the Government, by far outnumber all other classes of litigants. Litigation against the government or its agencies and instrumentalities is made possible because of the easy access to the so called "writ jurisdiction" of the High Courts which are invested with wide powers under articles 226 and 227 of the Constitution of India to issue writs or directions against the State in appropriate cases.
Many statutes have created special tribunals to adjudicate disputes between citizens and the state. Such tribunals include the Income Tax Appellate Tribunal (ITAT) set up under Section 252 of the Income Tax Act, the Customs Excise and Gold Control Appellate Tribunal (CEGAT) set up under Section 129 of the Customs Act, 1962. The ITAT, CEGAT and other administrative tribunals provide an effective and impartial dispute resolution procedure in matters where their jurisdiction is involved. However, the almost invariable subsequent appeals and writ petitions to the High Courts result in substantial delays.
Logically, arbitration should be the ideal method of dispute resolution. Unfortunately, until early 1996, India used to suffer from a very old and obsolete arbitration statute called the Arbitration Act 1940. Its main weakness was that an unsuccessful party to an arbitration dispute could have recourse to judicial review on the ground that the award was vitiated by an error apparent on its face or in a document attached or referred to in it. Consequently, many litigants to their dismay found that an arbitration award did not put an end to the dispute. Rather, it gave rise to further rounds of litigation and appeals which took a number of years to resolve.
Fortunately, the law has at last caught up with public opinion. On January 16, 1996, the President of India promulgated the Arbitration and Conciliation Ordinance 1996 which was replaced by an Act of Parliament of the same name. This Act repealed the Arbitration Act 1940, the Arbitration (Protocol and Convention) Act 1937 and the Foreign Awards (Recognition and Enforcement) Act 1961. This Act is based on the UNCITRAL Model Law of International Commercial Arbitration and the UNCITRAL Conciliation Rules. The Act recognizes the finality of an arbitration award and severely limits the power of judicial review of an award. The Act includes separate chapters for the enforcement of foreign awards.
India was a party to the Geneva Convention on the Execution of Foreign Arbitral Awards. This was enacted into law by the Arbitration (Protocol and Convention) Act, 1937. The Act applied only to those countries which were parties to the Geneva Convention of 1927. Certain difficulties were experienced in the operation of the Geneva Convention of 1927. On June 10, 1958 at New York, the United Nations adopted a Convention wider than that of the Geneva Convention. The New York Convention has been ratified by India. The contents of this convention were substantially enacted by Parliament in the shape of the Foreign Awards (Recognition and Enforcement) Act, 1961. Article 1 (3) of the New York Convention states that when signing, ratifying or acceding to this Convention, any State may, on the basis of reciprocity, declare that it will apply the Convention to the recognition and enforcement of an award made only in the territory of another contracting state, and that it may also declare that it will apply the Convention only to differences arising out of legal relationships whether contractual or not which are considered as commercial, under the national law of the state making such declaration. India has made such a declaration.
The most controversial section of the Foreign Awards (Recognition and Enforcement) Act, 1961 was Section 9(b) which stated that nothing in it shall apply to any award made on an arbitration agreement governed by the law of India. Prior to its repeal, this section gave rise to a lot of controversy on the legal effect of an arbitration clause contained in a contract that was governed by a law other than India law.
The National Thermal Power Corporation v The Signer Corporation, (1992) (3) SC 198, ("Singer"), the Supreme Court of India held that as the arbitration agreement was governed by the law of India, the award could not be enforced as a foreign award under the Act. Mr. Jan Paulsson in his article, The New York Convention's Misadventures in India, International Arbitration Report, June 1992, Volume 7, # 6, at page 3, has, it is submitted, unfairly, criticized the reasoning of the Supreme Court, which on the facts before it had properly held that the arbitration agreement was governed by the law of india. The Supreme Court then simply applied Section 9 of the Act and came to the only conclusion which was available under the prevailing law and that was that the award could not be enforced under the Act. The criticism of the author should have been directed to the wording of Section 9 of the Act. Before the Act was repealed, it was considered possible to get around section 9 of the Act by having the substantive agreement (except the arbitration clause) governed by the law of India, and by expressly stating in the agreement that the arbitration agreement would be governed by some other law. Singer recognizes such an approach at page 207 of the report in the following words:
"The parties have the freedom to choose the law governing an international commercial arbitration agreement. They may choose the substantive law governing the arbitration agreement as well as the exercised either expressly or by implication. Where there is no express choice of the law governing the contract as a whole, or the arbitration agreement in particular, there is, in the absence of any contrary indication, a presumption that the parties have intended that the proper law of the contract as well as the law governing the arbitration agreement is agreed to be held. On the other hand, where the proper law of the contract is expressly chosen by the parties, as in the present case, such law must, in the absence of an unmistakable intention to the contrary, govern the arbitration agreement which, though collateral or ancillary to the main contract, is nevertheless a part of such contract."
Section 34 of the new Arbitration and Conciliation Act 1996 has abolished the right of a party to challenge an award except on the following grounds:
(a) the party making the application furnishes proof that-(i) a party to the arbitration agreement was under some incapacity; or(ii) the arbitration agreement is not valid under the law to which the parties have subjected it, or failing any indication thereon, under the law for the time being in force; or
(iii) the party making the application was not given proper notice of the appointment of an arbitrator or of the arbitration proceedings or was otherwise unable to present its case; or
(iv) the arbitral award deals with a dispute not contemplated by or not falling within the terms of the submission to arbitration, or it contains decisions on matters beyond the scope of the submission to arbitration;
Provided that, if the decisions on matters submitted to arbitration can be separated from those not so submitted, only that part of the arbitral award which contains decisions on matters not submitted to arbitration may be set aside; or
(v) the composition of the arbitral tribunal or the arbitral procedure was not in accordance with the agreement of the parties, unless such agreement was in conflict with a provision of Part I of the Act from which the parties cannot derogate, or failing such agreement, was not in accordance with Part I of the Act; or
(b) the court finds that-
(i) the subject-matter of the dispute is not capable of settlement by arbitration under the law for the time being in force; or(ii) the arbitral award is in conflict with the public policy of India.
The Explanation below section 34(b)(ii) of the Act declares that, for the avoidance of doubt, an award is in conflict with the public policy of India if the making of the award is induced or affected by fraud or corruption.
The enactment of the Arbitration and Conciliation Act 1996 will go a long way in redressing the uncertainties and delays that were created when the Arbitration Act 1940 was in force. It will also completely do away with the wholly unrealistic requirement of the now repealed section 9(b) of the Foreign Awards (Recognition and Enforcement) Act 1961 that the arbitration agreement under which a foreign award is made should not be governed by the law of India.
Part II of the Arbitration and Conciliation Act 1976 deals with the enforcement of certain foreign awards. Chapter I of Part II deals with New York Convention Awards and Chapter II of that Part deals with Geneva Convention Awards. Sections 48 and 57 of the Arbitration and Conciliation Act 1996 contain the conditions on which a foreign award to which the New York Convention or, as the case may be, the Geneva Convention, applies. The provisions of these sections are almost identical to those of section 34 of the Act that are set out in detail above except that they include a sub-clause under which the enforcement of a foreign award may be refused if the award has not yet become binding on the parties, or has been set aside or suspended by a competent authority of the country in which, or under the law of which, the award was made.
Assuming that an arbitration agreement is governed by the law of India, the question is whether the parties may lawfully stipulate in it that the arbitration proceedings should be governed by the rules of a particular chamber of commerce, say, the International Chamber of Commerce. The answer to this question depends on whether such rules are consistent with the provisions of the Arbitration and Reconciliation Act, 1996. In Fertilizer Corporation of India v. Chemical Construction Corporation, (1973) 75 Bombay Law Reporter, 335, the Bombay High Court held that the relevant rules of the International Chamber of Commerce which were cited before it, were not inconsistent with the provisions of the Arbitration Act 1940, and that they were therefore valid.
Enough has been said on the Indian legal system. It is now time to turn to the laws and policies that regulate foreign investment in India.
In July 1991, the tides of the Indian economy were at their lowest ebb. Inflation was running at an all time high of nearly 17%. The foreign exchange reserves were barely enough to support normal imports for the next two weeks. The pressure on the servicing of the foreign debt was so high that India was in danger of being, for the first time, declared a defaulter in the timely payment of its obligations. On July 24, 1991, the Finance Minister presented to the nation a new charter of economic reforms and development which made the world catch its breath with disbelief. For the first time, it was publicly acknowledged that the system of licensing and regulation of industrial ventures, their expansion, and the issue of capital was no longer suitable for the country and that it had to be substantially modified and improved. The slack and struggling economic situation of the country was thus given a long overdue and strong dose of potent economic reform medicine.
It was at this time that the Government of India announced the New Industrial Policy (the "Policy"). An important, but not often remembered, declaration in the New Industrial Policy is that: "Government's policy will be continuity with change".
The Policy declared that only eight critical industries would be reserved for the public sector. These were specified in Annex 1 to the Policy and included important industries like defence industries, atomic energy, coal and lignite, mineral oils, mining of certain ores and metals, certain radioactive minerals and railway transport.
Most of the controls over mergers and amalgamations, setting up of new industrial undertakings and the substantial expansion of industrial capacities that had been regulated by the Monopolies and Restrictive Trade Practices Act 1969 (the "MRTP Act") were abolished.
The Policy announced that all industries except the eighteen (now reduced to sixteen) industries specified in Annex 2 to the Policy would be free from regulation under the Industries (Development and Regulation) Act 1951. No Industrial license would be needed to set up or to expand capacity in those industries if they complied with certain locational and environmental criteria that were separately notified under that Act.
Foreign investment in India companies was considerably liberalized. The threshold of 40% on foreign equity investment in India companies was abolished. Annex 3 to the policy specified a list of 34 industries in respect of which the Reserve Bank Of India was empowered to grant "automatic" approval for foreign equity participation up to 51%. For the first time, a new doctrine of "automaticity" was evolved whereby, foreign equity investment up to 51% in certain sectors would be automatically permitted.
The transfer of technology by foreign companies to licensees or transferees in India was also liberalized. The policy states that automatic permission will be given for technology transfer agreements in respect of industries specified in Annex 2 to the Policy up to a lump sum payment of Rs 10,000,000 (about US$ 277,778). On November 5, 1996, this ceiling was increased to US $ 2,000,000. It was stated that the Government of India would set up a new high-powered regulatory agency called the Foreign Investment Promotion Board (the "FIPB") which was empowered to consider and approve proposals for foreign direct investment and foreign technology transfers. It was declared that "The investment programs of such firms would be considered in totality, free from predetermined parameters and procedures".
Other major decisions taken by or shortly after the New Industrial Policy include:
While the automatic approval route for investing up to 51% of the capital issued by companies engaged in the industries enumerated in Annex II has been welcomed and effectively used, the main concern of the foreign investors has been the absence of transparent and published rules that inform the FIPB when it accords approvals to investment proposals involving foreign equity participation between 51% and 100%. The FIPB has been following what is known as a case by case approach. Until January 1997, many of the procedures and policies of the FIPB were not published or readily available. It was therefore difficult for foreign investors to understand the extent and nature of the investment which the FIPB would agree to accept in any given case. To make matters worse, the FIPB had laid down unpublished ceilings on the foreign investment permissible in the capital of companies engaged in certain sectors. For example, in the non-banking financial services sector the FIPB had laid down a capital adequacy minimum of US$ 5,000,000 for an investment exceeding 51% but not exceeding 75% and a capital adequacy minimum of US$ 50,000,000 for an investment exceeding 75%. Likewise, for the establishment of 100% subsidiaries of foreign companies, the FIPB had, in a few cases stipulated that the Indian subsidiaries should not engage any business or activities other than those proposed in the application filed by the holding company.
On November 6, 1996, the Government of India announced two changes in the Policy. The first related to the amendment of the ceiling on the amount of the lump sum royalty or fee for the transfer of technology from Rs 10,000,000 (about US$ 277,778) to US$ 2,000,000. Secondly, the Government abolished the requirement which the Reserve Bank of India used to insist upon while according its automatic approval to foreign investment proposals to the effect that the amount of the foreign equity should be enough to cover the foreign exchange requirements for the import of the capital goods needed for the project.
On December 31, 1996, the Government of India again announced a revision of the policy by adding 16 industries to the existing list of industries specified in Annex 3 to the Policy where the Reserve Bank of India was empowered to grant automatic approval for foreign equity participation up to 51%. These industries include certain mining industries, food products, cotton textiles, wool, silk and manmade fibre textiles, water proof textile fabrics, basic chemicals and chemical products, rubber, plastic, petroleum and coal products, metal products and parts, machinery and equipment, support services for land and water transport, other services incidental to transport not elsewhere classified, renting and leasing services not elsewhere classified and business services not elsewhere classified. It is important to note that the service sector was included for the first time in an official document as being eligible for automatic approval of foreign investment up to 51%.
On the same date, December 31, 1996, the Government of India made an important announcement specifying nine industries where automatic approval would be given by the Reserve Bank of India for foreign investment up to 74%. These industries include certain mining services, basic metals and alloys, certain manufacturing industries, electric generation and transmission, non-conventional energy generation and distribution, construction, land and water transport and storage and warehousing services.
On January 17, 1997, the Government of India announced the long awaited guidelines for the consideration of foreign direct investment ("FDI") proposals by the FIPB. A summary and explanation of these new guidelines are stated below.
(a) If the target company is going to be exclusively a holding company, all subsequent or downstream investments by that company must also require the prior approval of the Government;(b) If proprietary technology is sought to be protected or if sophisticated technology is proposed to be transferred;
(c) If at least 50% of the production is proposed to be exported;
(d) If it is a consultancy activity; and
(e) If it is a proposal for 100% investment in the infrastructure sector-power, roads, ports and industrial model towns, industrial parks or estates.
(a) exports;(b) bulk imports with export or expanded warehouse sale;
(c) cash and carry wholesale trading;
(d) other imports of goods or services provided that at least 75% is intended for procurement and sale of goods and services among the companies of the same group.
The list of guidelines ends with a caveat that those guidelines are meant to assist the FIPB to consider proposals in an objective and transparent manner. But, they would not in any way restrict the flexibility of the FIPB or prevent it from considering the proposals in their totality or from making recommendations based on other criteria or special circumstances which it considers relevant. Moreover, these are supposed to be in the nature of administrative guidelines and would not be in way be legally binding in respect of any recommendations to be made by the FIPB or the decisions to be taken by the Government in cases involving foreign direct investment. The guidelines have been issued without prejudice to the Government's right to issue fresh guidelines or to change the legal provisions and policies whenever considered necessary. It is suspected that this caveat has been inserted on legal advise to prevent the application of the doctrine of promissory and to protect the Government if there is litigation or if there are legal disputes.
As stated elsewhere in this paper, the FIPB had been imposing unpublished ceiling on foreign investment in certain sectors, for example, the minimum capital adequacy norm of US$ 5,000,000 for an investment therein between 51% and 75% and US$ 50,000,000 for an investment in that sector above 75%. The January 1997 Guidelines have for the first time put together and specified the different ceilings on FDI in certain sectors. This, again, is a welcome development and will improve the confidence of the foreign investors in the procedures that are being followed to approve FDI. These are reproduced below:
No. | Sector | Guidelines | |
1. | Banking | Foreign investment of up to 20% and NRI investment of up to 40% are permitted | |
2. | Non-banking financial Services | I. Up to 51% foreign equity, no special conditions are attached except those requiring approval of the SEBI/RBI etc. | |
II. For foreign equity beyond 51% but up to 75%, it is necessary that foreign investment should be minimum US$ 5,000,000 million and that it should come in one lot. | |||
III. For foreign investment beyond 75% minimum foreign investment should be US$ 50 million. | |||
3. | Domestic Air-Taxi Operations and Airlines | (i) Foreign equity up to 40% can be permitted on a case by case basis | |
(ii) 100% by NRIs | |||
4. | Power | Foreign investment in the power sector can either be in the form of a joint venture with an Indian partner or as a fully owned operation with 100% foreign equity. | |
5. | Telecommunications (Basic, Value Added) | In basic, Cellular, Mobile and paging services, foreign investments are limited to 49% subject to grant of license from DoT. (Department of Telecommunications) | |
6. | Drugs and Pharmaceutical industry | Foreign investment up to 51% in the case of bulk drugs, their intermediates and formulations thereof (except those produced by the use of recombinant DNA technology) are granted automatic approval by the RBI. Other purposes are considered on merit on a case by case basis by the Government Manufacturing activity essential for FDI above 51% as per the Drug Policy. | |
7. | Petroleum | Foreign companies can invest up to 100% of the equity in any venture in the petroleum sector. | |
8. | Real Estate | No foreign investment in this sector is permitted, NRIs/OCBs are allowed. | |
9. | Roads and Highways | Private sector including foreign equity participation up to 100% in highways is envisaged on the Build Operate and Transfer (BOT) concept. Investors in identified highway projects would be permitted to recover their investment by way of collection of tolls for specified periods. At the end of the agreed concession period, the facilities will revert to the Government. Construction of bypasses, bridges and widening of high density corridors, of National Highways have been identified for four-laning through the BOT route. The Government has, in the Budget Session of 1995, passed the necessary legislation for collection of toll tax. The rates of toll charges a well as the period of concession will be on the basis of competition/bids and the land requirement for the construction and operation of the facilities would be provided by the Government free from encumbrances Private parties would be allowed to develop service and rest areas along the roads entrusted to them. | |
10. | Ports | Indian ports offer significant potential to foreign
investors in major operational and infrastructural areas. The following areas have been identified
for participation or investment by the private sector.
(i) Leasing out existing assets of the Port (ii) Construction or creation of additional assets, such as (a) Construction and operation of container terminals. (b) Construction and operation of bulk bread, bulk multipurpose an specialized cargo berths. (c) Warehousing, Container Freight Stations, storage facilities and tank farms. (d) Cranage/Handling Equipment (e) setting up of captive power plants. (f) Dry docking and ship repair facilities. (iii) Leasing of equipment for port handling and leasing of floating crafts from the private sector. (iv) Captive facilities for Port based industries. These areas are indicative in nature. Further details regarding participation by the foreign investors are available with individual port authorities and the Ministry of Surface Transport, Government of India. | |
11. | Tourism | This is a sector with immense possibilities for foreign investment. 100% foreign equity is permissible in the sector and automatic approvals are also granted by the Reserve Bank of India for foreign equity up to 51% and subject to specified parameters. | |
12. | Mining | I. Foreign equity participation of up to 50% in
the mining sector would be
automatic except for gold,
silver, diamonds and precious
stones.
II. For gold, silver, diamonds and precious stones, approvals would be given keeping in view inter alia, the following parameters. (a) The size of the project (b) Commitment of external resources for funding project costs. (c) Track record of the company in the mining sector. (d) The level of technology sought to be employed in the project. (e) Financial strength of the company (f) Level of the Indian equity in the joint venture at the mining stage for the JV partner/Indian partner. For companies which seek to set up 100 per cent wholly owned subsidiaries, permission may be given subject to the condition that in case the company wishes to enter into a joint venture for investment in mining where a foreign equity holding in excess of 50 per cent is envisaged, the prior approval of the FIPB would be taken. | |
13. | Coal | While this has been reserved for the public sector, private and foreign investment is permitted in coal for captive consumption only (generation of power) and for washeries, etc. | |
14. | Venture Capital Fund | An offshore venture capital company
may contribute 100 per cent of the capital of a
domestic venture capital fund
and may also set up a domestic
asset management company to
manage the fund.
VCFs and VCCs are permitted up to 40% of the paid up corpus of the domestic VCF/VCCs. |
More specific guidelines have been published for the development for the development of activities and for investment in each of these sectors; but for purposes of brevity, it is not proposed to describe them in detail in this paper.
The list of 18 industries that had been specified in Annex II to the New Industrial Policy for which industrial licensing will continue to be compulsory has since been pruned to only 15. Some of the important deletions include motor cars, white goods, raw hides and skins.
The requirement of the New Industrial Policy to match dividends against export earnings has been abolished except in the case of 18 specified consumer industries. The condition of dividend balancing also does not apply to investments by approved international financial organizations.
By an announcement in Press Note 5 of 1992 dated April 22, 1992, the electronics software industry was declared to be a high priority industry falling under Annex III to the New Industrial Policy.
Although hotels and tourism are included in Annex III to the New Industrial Policy, it has been clarified that "Hotels" include "Restaurants, beach resorts and other tourist complexes providing accommodation or catering and food facilities to tourists." The expression "Tourism related industry" has been defined to include
(i) travel agencies, tour operating agencies and tourist transport operating services; (ii) units providing facilities for cultural, adventure and wild life experience to tourists; (iii) surface, air and water transport facilities to tourists; (iv) leisure, entertainment, amusement, sports, and health units for tourists and (v) convention and seminar units and organizations.
In the case of foreign technology agreements for the hotels and tourism related industry, it has been clarified that the automatic approval of the Reserve Bank of India will be granted subject to the following parameters: (i) technical and consultancy services: lump sum fee not exceeding US$ 200,000; (ii) Franchise, marketing and publicity support fee: up to 3% of the gross room sales; (iii) management fees: up to 10% of the foreign exchange earnings provided that the foreign party puts in 25% of the equity. This will also cover payment for marketing and publicity support.
The story of the implementation of the New Industrial Policy would not be complete without a brief mention of the impressive gains recorded in the area of foreign direct investment ("FDI"). Between July 1991 and October 1996, the Government of India (either through the Foreign Investment Approval Board or the Reserve Bank of India) had approved 10077 foreign collaboration proposals of which 5470 involved foreign direct investment ("FDI") in the capital of Indian companies. The total amount of FDI involved was Rs 88,290,000.
One of the major modifications in the area of FDI is that relating to foreign investment in the small sector ("SSI"). Investment by industrial undertakings in SSI companies are restricted to 24% of the equity capital. If the foreign investment in an SSI exceeds 24%, the applicant may give up its SSI status and apply for and obtain either an industrial license or file an Industrial Entrepreneurs Memorandum ("IEM"). If the item of manufacture is exclusively restricted to SSIs, a higher equity participation than 24% would be considered only if the proposal is accompanied with a commitment to export 75% of the production.
The transition from a strictly regulated foreign investment policy into one which is more or less without substantial restrictions coupled with the implementation of the Government's declared policy of removing the protections which Indian industries were enjoying and thus exposing them to competition from outside and inside the country has evoked a mild protest from certain sectors of Indian industry which have complained to the Government and to the media that they are made to play with foreign competitors in an unlevel playing field. They suggest, for example, that foreign companies pay a very low rate of interest on their borrowings, that the rates of taxation in their own countries are lower than those prevailing in India and that they have the ability to reduce their labor force at will, a facility which is denied to Indian companies. For example, a foreign investor needs only one clearance - Reserve Bank of India or Foreign Investment Promotion Board - to make his investment in an Indian company. An Indian company may need several clearances including the formidable one under section 372 of the Companies Act 1956. Some Indian industrialists have even asked the Government to constitute an "Indian Investment Promotion Board" to provide a single window clearance for all the approvals which an Indian company requires under Indian law to make investment in other companies. The liberalization of the economy has now brought into sharp focus the effect of the action of market forces which have compelled Indian companies to pay special attention to the quality and prices of their products and the terms and condition of delivery. This has greatly benefited the Indian consumer who has acquired, and exercises, the ability to choose between Indian and foreign products.
Almost every foreign investor who looks at India as an investment opportunity asks this question. During the five years that have followed the announcement of the New Industrial Policy, politicians both in the government and in the opposition have repeatedly reaffirmed their conviction that the process of reforms will neither be withdrawn nor diverted. Everyone in a position of power realizes that it is too late to back track on the path of the liberalization of the economy. The only directions available are forward, upward and outward.
Within a short period of about 66 months, most of the old irksome obstructions and delays that used to hinder the orderly development of Indian industry have been removed or greatly reduced. The way is clear for India to march forward and take her place among the leading nations of the world. With hard work, redoubled energy and continuing support from the Government and from foreign investors this should not be difficult to achieve.
Copyright © 1997 Cyrus D. Mehta, Esq. All rights reserved.