The government recently notified changes to the Foreign Direct Investment (FDI) Policy by issuing guidelines on FDI in Indian entities engaged in the e-commerce sector. This initiative seeks to clarify the existing policy. This update broadly summarises the guidelines.

Overview

The law governing foreign investments in India is contained in the Foreign Exchange Management Act (FEMA) 1999 and regulations issued by the Reserve Bank of India (RBI) under the act (collectively, the FEMA regulations). Separately, the government (through the Department of Industrial Policy and Promotion) formulated the FDI Policy, which is issued in the form of press notes and periodically consolidated into one document. The FDI Policy has since been adopted by the RBI and notified under the relevant regulations.

As per the FEMA regulations and the FDI Policy, FDI in India can be made under either the automatic route (without government approval) or the approval route (with prior government approval). In addition, the FDI Policy imposes various sector-specific foreign investment caps and conditions which apply pre and post-foreign investment. These vary across different sectors.

As per the unamended FDI Policy, up to 100% FDI under the automatic route was allowed in entities engaged in business-to-business (B2B) e-commerce, but not in retail trading (ie, business-to-consumer (B2C) e-commerce).

A recent amendment to the FDI Policy permitted:

  • Indian manufacturers with FDI to sell their manufactured products in India through B2C e-commerce; and
  • single brand retailers with FDI operating through physical stores to sell their products through B2C e-commerce.

E-commerce models

Entities engaged in e-commerce have generally followed two business models: the inventory-based model and the marketplace model. In the inventory-based model, the inventory of goods and services is owned by the e-commerce entity and sold directly to customers. There was no ambiguity in the FDI Policy with regard to this model, as FDI in entities using this model is prohibited. In the marketplace model, the e-commerce entity acts as a facilitator between the buyer and seller and does not own the inventory. Since the FDI Policy did not distinguish between the two models, e-commerce entities using the marketplace model took the view that the restrictions therein did not apply to them and hence they could receive FDI up to 100% under the automatic route and without any other FDI-linked conditions. It appears that the new guidelines were issued in order to clarify this ambiguity.

Guidelines

Accordingly, the guidelines have specifically permitted 100% FDI under the automatic route in entities using the marketplace model. Further, while the guidelines state that FDI in the inventory-based model is prohibited, this is arguably inaccurate. This prohibition must be read alongside the existing FDI Policy provisions, which permit FDI in manufacturers undertaking B2C e-commerce and single brand retailers undertaking B2C e-commerce, which could be using the inventory-based model. The guidelines have also clarified that the guidelines that apply to the cash and carry wholesale trading sector under the FDI Policy will apply to B2B e-commerce.

Importantly, the guidelines have also set out the conditions applicable to e-commerce entities with FDI using the marketplace model, including:

  • a 25% cap on the total sales of inventory originating from the same seller or sellers in the same group. This condition may pose practical difficulties for e-commerce entities, as it may be difficult to monitor and control sales in a manner that ensures that this condition is met at all times;
  • a prohibition on influencing (directly or indirectly) the sale price of goods or services. This condition is perhaps intended to prohibit marketplace e-commerce entities from engaging in predatory pricing by offering unreasonable discounts, which has affected businesses engaged in retail trading through physical stores;
  • the seller, not the e-commerce entity, is responsible for delivery of goods and customer satisfaction; and
  • the seller, not the e-commerce entity, is responsible for warranties or guarantees relating to the goods and services.

The above conditions will apply only if the entity with FDI engaged in e-commerce activity is owned or controlled by non-residents.

For further information on this topic please contact Abhishek Saxena at Phoenix Legal by telephone (+91 11 4983 0000) or email (abhishek.saxena@phoenixlegal.in). The Phoenix Legal website can be accessed at www.phoenixlegal.in.

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