Foreign investments from Alternative Investment Funds (“AIF”) and venture capital funds (“VCFs”) are governed by the guidelines prescribed by the Securities and Exchange Board of India (“SEBI“) from time to time. Whereas the prior approval of the Reserve Bank of India (“RBI”) is not required for overseas investments, SEBI’s prior approval is required for setting limits for overseas investments in an AIF/VCF. The current aggregate investment limit for overseas investments by AIFs and VCFs is USD 1,500,000,000 (One Billion Five Hundred Million US Dollars), and these limits are allocated on a first-come, first-served basis, subject to a cap of 25% of investable funds of an AIF/VCF scheme. An AIF/VCF is required to make investments in offshore entities within 6 (six) months from the date of approval by SEBI.
SEBI has recently issued guidelines for overseas investments by AIFs and VCFs (“New instructions”) on 17 August 2022, which sets out a revised framework for conducting overseas investments by AIF and VCF. Prior to the issuance of the New Guidelines, and subject to other prescribed restrictions, AIFs and VCFs wishing to invest in offshore investee companies were permitted to make investments in such offshore entities having an ‘India connection’ (ie, offshore companies which had back-office operations in India).
With the New Guidelines now in force, such pooled investment vehicles are no longer restricted by the “India nexus” requirement in respect of their offshore investments.
The new Guidelines are in addition to the earlier guidelines issued by SEBI on the subject (except to the extent modified by the new Guidelines).
- Eligibility criteria for overseas invested company: Under the new guidelines, AIFs and VCFs can invest in offshore companies which:
- are entities incorporated in countries whose securities market regulator is a signatory to the multilateral memorandum of understanding of the International Organization of Securities Commissions (Appendix A Signatories) or a signatory to the bilateral memorandum of understanding with SEBI; AND
- have not been identified by the Financial Action Task Force (“FATF”) in a public statement as: (i) a jurisdiction that has strategic anti-money laundering or counter-terrorist financing deficiencies to which countermeasures apply, or (ii) a jurisdiction that has not made sufficient progress in addressing deficiencies or has not committed to an action plan developed with the FATF to address the deficiencies.
- Revised application format: The new guidelines have introduced a more detailed format for AIFs and VCFs applying to SEBI for allocation of overseas investment limits. The revised format requires AIFs and VCFs to provide Among others details of the overseas entity, type of investments envisaged and overseas investments made by the relevant AIF or VCF in the past.
- Enterprises from AIF/VCF: Further, unlike the earlier format, the revised format provides for additional undertakings to be provided by the trustees/designated partners/board of directors of the applicant AIF and VCF regarding: (a) the bona fide nature of the proposed overseas investment , (b) the investment is consistent with the fund’s investment objectives and (c) the compliance of the proposed overseas investment with the regulatory framework for overseas investments by AIF/VCF.
- Undertaking by the AIF/VCF applicant manager: A detailed undertaking is also required to be submitted by the manager of the AIF/VCF applicant in respect of Among others following:
- the exercise of due diligence by the manager;
- the nature of the proposed instrument, which must be an equity or equity-linked instrument;
- the proposed offshore investee company is an offshore venture capital enterprise;
- the proposed offshore investee that complies with the eligibility criteria set out in the New Guidelines;
- AIF/VCF does not invest in joint ventures or wholly-owned subsidiaries while making investments abroad;
- compliance with FEMA regulations and other RBI guidelines in respect of a facility involving foreign direct investment under the overseas direct investment route;
- compliance with all requirements as per RBI guidelines for opening branches/subsidiaries/joint ventures/investment venture abroad by non-banking financial companies (“NBFCs”), where more than 50% of the funds of the AIF/VCF are contributed by a single NBFC; AND
- the transferee to whom the AIF/VCF sells/transfers its offshore invested shares is an entity eligible to make overseas investments in accordance with Indian foreign exchange laws.
- Re-investment of sale proceeds: The new guidelines also clarify that the sale proceeds received by an AIF or VCF from the liquidation of its offshore investee companies will be available for re-investment.
- Sales/sales reporting:
- The new guidelines have introduced the requirement to report to SEBI any sale/disinvestment by AIF or VCF. Accordingly, SEBI has prescribed a format for reporting any sale/disinvestment by AIF or VCF. Such reporting is required to be done by the relevant AIF or VCF within 3 (three) business days of disinvestment by sending the report by email to the address [email protected]
- Further, SEBI has prescribed a one-time reporting to be done by all AIFs and VCFs of their previous sales/disinvestment in offshore entities by September 16, 2022, by sending the report by email to [email protected]
The new guidelines have certainly liberalized the earlier regime, which allowed AIFs and VCFs to invest only in overseas companies that had an ‘India connection’. Liberalization is accompanied by additional safeguards and investment conditions that have been introduced for AIFs and VCFs interested in investing offshore.
SEBI has also reinforced its intention to increase the accountability of governing bodies and managers of AIFs and VCFs participating in offshore investments, as it has sought additional undertakings from them at the time of application for seeking offshore investment limits. the state.
While liberalization under the New Guidelines is a step in the right direction, SEBI should eventually move to making overseas investments under an automatic route. The securities regulator should also consider whether AIFs should be allowed to invest in debt instruments of foreign companies as the current regulatory framework allows AIFs to invest only in equity and equity-related instruments. Further, the RBI should consider raising overseas investment limits in the short term to enable Indian AIFs and VCFs to compete with overseas funds.