The power of parity

Financial Express of September 30, 2015 highlights the importance of hidden contribution of women in the GDP of a country.

 

When it could not control the inevitable, Is China Shooting the messengers?

After failing to arrest the downslide of its stock market, China has started arresting the analysts, media personnel and short sellers. It is like punishing the child who shouted "King has not clothes".
This only scares the foreign investors.
A report in Financial Times of September 3 gives the graphic details of the Chinese crackdown. Such things can happen only in an autocratic countries.

 

Demystifying FEMA - A Primer on Liberalised Remittance Scheme (LRS)

In February 2004, Reserve Bank of India intorduced the scheme of Liberalised Remittance Scheme. This scheme permitted remittance by resident individuals for permitted current and capital account transactions. The annual permitted limit was USD25,000/- per calendar year.
This limit was in addition to various limits prescribed under private travel,  medical expenses, education abroad, gift etc, which were detailed in schedule 3 of Foreign Exchange Management Current Account Transactions Rules (FEM CAT Rules).
Over a period of 11 years, this scheme has been tweaked many times to suit the prevalent circumstances and further liberalisation. The elegible period was changed from calendar year to financial year in 2006.

Reserve Bank of India, in its review of Monetary Policy of February 2015 indicated its intentions of raising the limit from prevailing USD 125000/- to USD 250000/-. However, the formal announcement on 1st June 2015 implementing the revised limit was much more than the revision of limit. All other limits available for travel, education, medical expenses, gifts etc. have been subsumed under the overall limit of USD 250000/-.

Thus from now on in any financial year the limit available for any elegible current or capital account transaction is USD 250000/-. On production of documentary evidence exceptions have been made for three specified expenses (1) Medical Treatment, (2) Education and (3) Emigration.

Another improvement in the scheme is regarding the restriction of noimnating an Authorised Dealer. Earlier, the individual was tied up with a particular Authorised Dealer for the entire year. Now the system has been liberalised and the individual has to give a declaration regarding not violating the limit of USD 250000/-.

A word of caution is that the funds to be remitted have to be own funds. These should not be borrowed funds and no bank is permitted to extend credit or sanction limit for the purpose of LRS.

Thus the permissible capital account transactions by an individual under LRS are:
i) opening of foreign currency account abroad with a bank;
ii) purchase of property abroad;
iii) making investments abroad;
iv) setting up Wholly owned subsidiaries and Joint Ventures abroad;
v) extending loans including loans in Indian Rupees to Non-resident Indians (NRIs) who are relatives as defined in Companies Act, 2013.

The revised LRS has put a lot of onus and faith on the individuals. The adherence to the annual limit and ensuring end use is now the responsibility of the individual. The concerned AD bank will only ask for a declaration. The remittance should not be to a country which is not a signatory to FATF agreement.

Facilities for persons other than individuals:

Persons other than individuals can make remittances for

1. Donations for educational institutions - 1% of Forex earnings during last 3 years or USD 5 mio whichever is less
2. Commissions to agents abroad for sale of residential flats/commercial plots in India - 5% of inflow or USD 25,000 whichever is higher
3. Remittances for consultancy services - USD 10 mio for infrastructure project and USD 1 mio for other projects
4. Remittances for reimbursement of pre-incorporation expenses - 5% of Investment inflow or USD 1 mio, whichever is higher

The RBI circular of June 1, 2015 also reads:
"provided also that a person other than an individual may also avail of foreign exchange facility, mutatis mutandis, within the limit prescribed under the said Liberalised Remittance Scheme for the purposes mentioned herein above"
Which implies that LRS has been extended to persons other than individuals.

Another Argument for Raising Interest Rates in India

Ben Leubsdorf in a recent articles argues the applicability of Philips Curve, which has of late been doubted to be applicable.
Author argues that eventhough the unemployment and inflation data may suggest otherwise, FED may raise the interest rates in its upcoming policy review due in mid-September.
If FED does that, further assuming that the policies announced and implemented by Modi Government, which have been much hyped, start giving results shortly, gives a reason for Industry and Finance Minister to demand an Interest Rate hike from RBI in its next review which is due on September 29.
Interesting to wait and watch.

 

Demystifying FEMA - FDI - Instruments Other Than Equity

Direct Investment implies investment in equity with a long term commitment. A short term commitment in equity is in the form of portfolio investment.

FDI traditionally has been seen as investment in equity with a long term commitment. This long term commitment is in the form of JV or WOS. Long term commitment by individuals is seen in the form of Private Placement or Subscription to the Memorandum and Articles of Association.

Over the years, however, some non-equity instruments, which have a nature of long term commitment, have also been taken as instruments of Direct Investments.

Prominent among these are Convertible Debentures. Initially only Compulsorily Convertible Debentures were treated as Direct Investments. However, recently, Optionally Convertible Debentures have also been permitted as elegible instruments.

As Compulsorily Convertible Debentures ultimately lead to subscription to equity, these were treated as commitment of longer duration.

Optionally Convertible Debentures, on the other hand, may not result in subscription to equity. These have still been permitted to be treated as equity only if the exit clause does not ensure any assured exit price. Hence, these debentures cannot be redeemed at face value or a predetermined premium or discount. Thus, in effect, these debentures exhibit a characteristics of equity.

Other instrument in this category is Compulsorily Convertible Preference Shares. CCPS are also long term commitment which ultimately gets converted into equity. CCPS have additional restriction regarding the assured dividend that can be promised. The rate of dividend promised shall not be more than 300 basis points above the prime lending rate of State Bank of India on the date of the board meeting in which the dividend has been fixed.

The conversion price of CCDs or CCPS into equity has to be determine upfront at the time of issue. This price can be in the form of a fixed price or a price determined by a formula. However, the price thus determined or fixed should not be lower than the fair value of equity as on the date of issue of CCD or CCPS. Further, the entire inflow of FDI has to be used at the time of conversion.

Warrants and Partly paid Equity Shares have also been permitted to be part of FDI. The pricing has to be decided upfront and shall not be less than fair value. Further, 25% has to be brought upfront. The balance, in case of partly paid shares, has to be brought with in 12 months. However, if the issue size is more than Rs. 500 Crores the requirement of 12 months may be relaxed. In that case a monitoring agency will have to be appointed. The time frame for getting the balance 75% amount in case of warrants is 18 months.

 

Demystifying FEMA - FDI by Non Resident Indian Citizen

Under FEMA NRIs are a special class. They have the rights of Residents as well as Non-residents.

Accordingly, NRIs can invest in the capital of Indian Companies as residents and also as Non-residents. However, the status of residence has to be decided upfront.

Investment by NRI as resident will be on non-repatriable basis. The funds will have to be remitted through normal banking channels or paid out of balances held in NRE / FCNR / NRO / NRSR / NRNR account maintained with an authorised dealer. Such investments are said to have been done in terms of Schedule 4 of FEMA 20.

The advantage of subscribing to capital under non-repatriable cateogry is that no reporting has to be done to RBI and the pricing guidelines as prescribed in FEMA 20 (as amended from time to time) is not applicable and also the sectoral caps are not applicable.

The sale proceeds of such shares, when investor decides to exit, will be credited to the NRSR or NRO account of the investor. thus the sale proceed is not free repatriable. The balances in NRSR or NRO account can be remitted abroad in terms of applicable Liberalised Remittance Scheme (LRS).

NRI resident of Nepal or Bhutan has to remit funds in foreign exchange only.

NRI  can also invest in capital of Indian company as Non-resident. All the terms and conditions as applicable to any foreigner will be applicable to NRIs. They have to follow the pricing guidelines, KYC requirements etc. Such investments are deemed to have been done in terms of Schedule 1 of FEMA 20.

The funds have to come from normal banking channel in foreign currency, or from debit to NRE or FCNR(B) account or by debit to a non-interest bearing Escrow account (in Indian Rupees) maintained in India with an AD bank .

Way to Restructure Soveriegn Debt of Crisis Ridden Countries

Charles Goodhart in his recent article in Financial Times provides an innovative solution to the Debt Crisis of the troubled economies. He proposes to convert Debt into Equity. Idea is not very unique if this was the case of any corporate. But the idea of a sovereign issuing equity is really unique and out of box.
What Goodhart proposes is that the existing sovereign debt be converted into GDP indexed bonds. Like equity, bond holders will not receive any return till the economy has not turnaround. Once the economy has turned around, the bondholders will get returns. This will ensure effective participation of creditor countries, future returns will be fair to the taxpayers of creditor countries and will also not burden the troubled economies with the debt servicing during the turnaround.

 

Lessons for Emerging Markets from Greek Crisis

Simon Nixon writing for The Wall Street Journal predicts that exports from emerging markets will slowdown. Simon underlines the "Weakness of World Trade". What he means by this is that "the boost to the global economy from trade has been weakening: A dollar of trade today delivers less than half the boost to global output that it did between 1986 and 2000".
To reverse this trend, emerging economies have to make far reaching reforms similar to those of Greek. Simon also underlines the importance of making Monetary Policy independent of Fiscal Policies.

 

Demystifying FEMA - The Basics

Let us start with the Fundamentals. FDI in India is guided by the Consolidated FDI Policy Circular of 2015 of Government of India in this regard.

Who can Subscribe to Security: Any entity resicent outside India can invest in securities of Indian entity with some exceptions. Residents of Bangladesh have to take approval from Foreign Investment Promotion Board (FIPB). Residents of Pakistan, apart from taking approval from FIPB, are prohibited from investing in specific sectors. Residents of Nepal and Bhutan can invest only in non-repatriable form.

Types of Instruments that can be issued: Indian companies can issue equity shares, fully and mandatorily convertible debentures, fully and mandatorily convertible preference shares and warrants. From December 30, 2013 optionally convertible instruments have also been permitted. Guiding principle for optionally convertible debentures is that there has to be a lock-in period of 1 year and there should be no assured return. (price not exceeding that arrived at on the basis of Return on Equity (RoE) as per the latest audited balance sheet. This condition has been removed.). The exit price should not be higher than the fair value of shares as determined by a Chartered Accountant or Merchant Banker registered with SEBI based on any Internationally acceptable methodology.

The Issue Price of Security: Under FDI fresh Shares to be issued to Non-residents should not be at a price less than the Fair Value. Fair Value of shares of a listed company is as prescribed by SEBI guidelines. In case of unlisted companies, it is as determined by a SEBI registered Merchant Banker or a Chartered Accountant as per as per any internationally accepted pricing methodology on arm’s length basis. If we see old instructions, earlier it used to be as prescribed under CCI guidelines. This was later modified to Discounted Cash Flow method.

Other Ways of Acquiring Equity: Equity can be subscribed to by converting Debentures and Preference Shares. Non-Convertible Debentures are not treated as FDI. The conversion price of Debenture has to be decided upfront. This can be a predetermined fixed value or it can be based on a formula. The guiding principle of conversion price is that it can not be less than the fair value of equity prevailing on the date of issue of debenture.

Compliance with other Acts: The company has to submit a certificate (format prescribed in FEMA20) from a Company Secretary regarding compliance with the Companies Act and any other conditions that might have been imposed by Government of India.