Indias experience with fdi role of a game changer

India’s Experience with fdI:Role of a Game Changer

The Associated Chambers of Commerce and Industry of IndiaASSOCHAM Corporate Office:

1, Community Centre, Zamrudpur, Kailash Colony, New Delhi-110048Tel: 011 46550555 (Hunting Line) | Fax: 011 46536481/82, 46536498

Email: [email protected] | Website: www.assocham.org

JAnuAry 2012

Contents

I. India’s FDI Overall View ....................................................................4

II. Assessment of Global FDI ..............................................................10

III. India’s Sectoral Analysis ................................................................12

IV. relevance of FDI in India ................................................................24

V. Potential FDI Sectors ......................................................................27

VI. ASSOCHAM’s Suggestions ............................................................40

India’s Experience with FDI: Role of a Game Changer 1

Executive Summary

• ThestudyexaminestheRoleofFDIinIndia–ASSOCHAMhasattemptedtoestimatepossibleforeigninvestmentflowsifPensionFundsandCivilAviationareopenedupforFDI

• ImpactofFDIonIndianeconomyisassessedbyanalyzingtheperformanceofthreesectorswhereFDIhasbeenpermitted.Thesesectorswere:

Telecommunications

Automobiles

IT/ITES

• Someofthebenefits of liberalization of Telecom Sector were:

IncreasePenetration

GrowthinSubscriberBase

ReductionofCallRates

• Someofthebenefits of liberalization of Automobiles Sector were:

IncreaseinProduction,DomesticSalesandExports

DevelopmentofahealthyAutoComponent’sIndustry

GreaterChoicefortheConsumer

• Someofthebenefits of liberalization of IT/ITES Sector were:

HighGrowthRates

Indiabecomingoneoftheleadingexporter’sofsoftwareservices

• Thestudy further tries toassess the impactofopeningupofFDI inothersectors.Twosectorsthathavebeenconsideredforthispurposeare:

FDIinPensionFunds

FDIinCivilAviation

India’s Experience with FDI: Role of a Game Changer2

• ThestudyofFDI in Pension Funds observed:

The12th DraftapproachpaperofthePlanningCommissionsuggeststhetotal infrastructure investment requirement would be US $ 1 trillion.

Pension Fund investments into infrastructure seem to be a befitting alternative giventhematchofinterestsforboththesectors.

1 percent of the total pension funds held by pension fund companies would increase India’s Pension fund assets to GDP ratio from the current level of 5 percent to close to 17 percent.

2.1percentallocationoftotalpensionfundassetstoIndiawouldincreaseitsreservestoUS$342billionthelevelofpensionassetsestimatedinBrazilin2010.

CAGR of 16.5 percent would give an equity allocation of US$ 344.95 billion at the end of 2017.

If30 percent of the equity allocationgoesinto Infrastructure Sector itwouldmean an investment of US $ 103.49 billionwhichshallbeone tenth of the infrastructure investment.

• ThestudyofFDI in Civil Aviationobserved:

Huge amounts of additional investments required to realize the vision of the Civil Aviation industry as suggested in Working Groups report.

Airport Infrastructure would require an investment of about Rs.67,500 crore during the 12th Plan of which aroundRs50,000croreislikelytobecontributedbytheprivatesector.

Airlines in India are expected to add around 370 aircrafts worth Rs.150,000 crore.

Decade2000-2010witnessedaprofitlessgrowth.TheAirlineIndustryinIndiasuffersfromhugedebtburden–closetoUS$20billion(Estimated2011-12).


Allowing foreignairlines topickupstake in threemajor IndianAirlines(Kingfisher,JetAirwaysandSpiceJet)wouldresultincapitalinfusiontothetunesof:

Promoters off loading 26% of their Equity Stake can raise approximately upto Rs. 1341 crore.

Figure goes approximately upto Rs.2530 crore in case 49 per cent FDI is allowed.

Equity valuation at 26% of all issued shares (promoter and non-promoter) approximately comes out to be Rs.2835 crore.

Estimates at 49% goes approximately upto Rs.5341 crore.

The amount raised can be used to address working capital requirements of the airlines.


I. India’s FDI Overall View

The early nineties was a period when the Indian economy faced a severe Balance of Payment crisis. Exports began to experience serious difficulties. The crippling

external debts were putting pressure on the economy. In view of all these developments there was a serious threat of the economy defaulting in respect of external payments liability. It was in the light of such adverse situations that the policy makers decided to adopt a more liberal and global approach thereby, opening its door to FDI inflows in order to restore the confidence of foreign investors.FDI provides a situation wherein both the host and the home nations derive some benefit. The home countries want to take the advantage of the vast markets opened by industrial growth. Whereas the host countries get to acquire resources ranging from financial, capital, entrepreneurship, technological know-how and managerial skills which assist it in supplementing its domestic savings and foreign exchange.

The contribution or impact of FDI has been well acknowledged in various discussion papers and studies amongst these in one of the recent study done on India’s FDI inflows trends and concepts1 it is mentioned that, “TheEconomicSurvey2008-09reiterated that: FDI is considered to be the most attractive type of capital flow for emerging economies as it is expected to bring latest technologyandenhanceproductioncapabilitiesof the economy. And the National Manufacturing Competitiveness Council specified that: Foreign investments mean both foreign portfolio investments and foreign direct investments (FDI). FDI brings better technology and management, access to marketing networks and offers competition, the latter helping Indian companies improve, quite apart from being good for consumers. This efficiency contribution of FDI is much more important”.

The evolution of Indian FDI can broadly be divided into three phases classified on the premises of the initiatives taken to induce foreign investments into the Indian economy:

(a) The first phase, between 1969 and 1991, was marked by the coming into force of the Monopolies and Restrictive Trade Practices Commission (MRTP) in 1969, which imposed restrictions on the size of operations, pricing of products and services of foreign companies. The Foreign Exchange Regulation Act (FERA), enacted in 1973, limited the extent of foreign equity to 40%, though this limit could be raised to 74%

1 K.S.ChalapatiRao&BiswajitDhar “INDIA’S FDI INFLOWSTrends&Concepts”by Institute for Studies in IndustrialDevelopmentWorkingPaperNo:2011/01


for technology-intensive, export-intensive, and core-sector industries. A selective licensing regime was instituted for technology transfer and royalty payments and applicants were subjected to export obligations.

(b) The second phase, between 1991 and 2000, witnessed the liberalisation of the FDI policy, as part of the Government’s economic reforms program. In 1991 as per the ‘Statement on Industrial Policy’, FDI was allowed on the automatic route, up to 51%, in 35 high priority industries. Foreign technical collaboration was also placed under the automatic route, subject to specified limits. In 1996, the automatic approval route for FDI was expanded, from 35 to 111 industries, under four distinct categories (Part A–up to 50%, Part B–up to 51%, Part C–up to 74%, and Part D-up to 100%). A Foreign Investment Promotion Board (FIPB) was constituted to consider cases under the government route.

(c) The third phase, between 2000 till date, has reflected the increasing globalisation of the Indian economy. In the year 2000, a paradigm shift occurred, wherein, except for a negative list, all the remaining activities were placed under the automatic route. Caps were gradually raised in a number of sectors/activities. Some of the initiatives that were taken during this period were that the insurance and defence sectors were opened up to a cap of 26%, the cap for telecom services was increased from 49% to 74% , FDI was allowed up to 51% in single brand retail. The year 2010 saw the continuation of the rationalisation process and all existing regulations on FDI were consolidated into a single document for ease of reference.

The evolution of the FDI policy, towards more rationalisation and liberalisation, has narrowed down the instruments regulating FDI policy broadly to three2:

(i) Equity caps: restricting foreign ownership of equity capital

(ii) Entry route: requiring prior Government oversight, including screening and approval

(iii) Conditionalities: comprising of operational restrictions/licencing conditions, such as nationality criteria, minimum-capitalisation and lock-in period etc.

2 http://dipp.nic.in/English/Discuss_paper/DiscussionPaper_relevance_23June2011.pdf


A. FDI InFLOWS Trends: 1991-2011

The data on FDI inflows into the country shows that foreign investors have shown a keen interest in the Indian economy ever since it has been liberalized. An increasing trend of flows can be observed since 1991 with the peak of FDI flows being reached in 2008-09. (Chart 1) Therefore the trend gives support to the fact that as and when the government has taken initiatives to open up and liberalize the economy further, the investors have welcomed the initiative and reciprocated by infusing investments into India. There are various reasons which work in favour of India and increase the level of interest shown in by foreign organization’s some of them being its demographics’ with a young population there is a huge consumer base that is to be tapped, the growing middle class, increased urbanization and awareness, rising disposable incomes.

Chart 1: Trends of FDI Inflows

Source:DIPP

B. FDI Inflow by Components:

There has been a change in the method of estimation of FDI inflows since 2000-01, prior to this only equity inflows was taken as the FDI inflow figure however post 2000-01 the RBI has started following the international practice and taken into account other components of FDI inflows namely re-invested earnings and other capital. A look at the contribution of various components of FDI reveals that the share of re-invested earnings was rising from 2000 onwards uptil 2005-06 after which it has constantly been declining. The share of equity inflows has risen sharply since 2000-01 when it stood at 59.6 per cent to 74.3 per cent in 2010-11. (Chart 2)


Chart 2: Share of FDI Components

Source:DIPP

C. Ways of receiving Foreign Direct Investment by an Indian company3

i. Automatic route

FDI up to 100 per cent is allowed under the automatic route in all activities/sectors except where the provisions of the consolidated FDI Policy, paragraph on ‘Entry routes for Investment’ issued by the Government of India from time to time, are attracted.

FDI in sectors /activities to the extent permitted under the automatic route does not require any prior approval either of the Government or the Reserve Bank of India.

ii. Government route

FDI in activities not covered under the automatic route requires prior approval of the Government which are considered by the Foreign Investment Promotion Board (FIPB), Department of Economic Affairs, Ministry of Finance.

Indian companies having foreign investment approval through FIPB route do not require any further clearance from the Reserve Bank of India for receiving inward remittance and for the issue of shares to the non-resident investors.

As can be seen that since 2005-06 there has been a significant difference in the amount of FDI inflows through the two routes a possible explanation for which could be that with the investment climate in India improving and healthy competition among states to

3 http://www.rbi.org.in/scripts/FAQView.aspx?Id=26


attract FDI, the government eased foreign investment regulations leading to a spurt in FDI coming through the RBI route, which is a positive sign. As per the data available there is an increase in share of inflows through the RBI’s automatic route, a decrease in the shares of inflows through the SIA/FIPB. (Chart 3)

Chart 3: Trend of Equity inflow through FIPB and Automatic route

Source:RBI

D. Sectoral FDI Flow:

Changing Dynamics of Investment:

• OverallFDIintoalmostallthesectorshaddeclinedintheyear2010-11,areasonforwhichcouldbetheglobalsituationthatprevailedduringthattimeframe.

• AlthoughservicessectorremainthesectorattractingthehighestFDIinflowssince2006-07itssharehasbeenconstantlydeclining.

• The FDI flows into computer hardware and software has been downward eversince2005-06.Ithasdrasticallygonedownfrom24.8percentin2005-06to4.0%in2010-11.

• Housing&RealEstatehaveshownanupwardtrendintermsoftheirshareinFDIinflows.

• Investmentsinchemicalsandmetallurgicalindustrieshavebeenerraticasnocleartrendcouldbeobservedforthetimeperiod2005-06to2010-11.


TableSectors Attracting Highest FDI Equity Inflows (uS $ Million)

Sector 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 Services Sector 543

(9.8)4664(37.3)

6615(26.9)

6138(22.5)

4353(16.8)

3403(17.5)

Computer Software & Hardware

1375(24.8)

2614(20.9)

1410(5.7)

1677(6.1)

919(3.6)

784(4.0)

Telecommunications 624(11.3)

478(3.8)

1261(5.1)

2558(9.4)

2554(9.9)

1665(5.8)

Housing & Real Estate 171(3.1)

467(3.7)

2179(8.9)

2801(10.2)

2844(11.0)

1127(5.8)

Construction Activites 151(2.7)

985(7.9)

1743(7.1)

2028(7.4)

2862(11.1)

1125(5.8)

Automobile Industry 143(2.6)

276(2.2)

675(2.7)

1152(4.2)

1208(4.7)

1331(6.9)

Power 87(1.6)

157(1.3)

967(3.9)

985(3.6)

1437(5.6)

1252(6.4)

Metallurgical Industries 147(2.7)

173(1.4)

1177(4.8)

961(3.5)

407(1.6)

1105(5.7)

Petroleum & Natural Gas

14(0.3)

89(0.7)

1427(5.8)

412(1.5)

272(1.1)

578(3.0)

Chemicals 390(7.0)

205(1.6)

229(0.9)

749(2.7)

362(1.4)

398(2.0)

Total FDI 5540 12492 24575 27330 25834 19427

Source:DIPP


II. Assessment of Global FDI4

UNCTAD’s recent world investment report 2011 has some interesting insights into the FDI pattern during 2010. Certain key highlights of the report are:

4 http://www.unctad-docs.org/files/UNCTAD-WIR2011-Full-en.pdf

Globalforeigndirectinvestment(FDI)flowsrosemoderatelyto$1.24trillionin2010,butwerestill15percentbelowtheirpre-crisisaverage.Forthefirsttime,developingandtransitioneconomiestogetherattractedmorethanhalfofglobalFDIflows.OutwardFDIfromthoseeconomiesalsoreachedrecordhighs,withmostoftheirinvestmentdirectedtowardsothercountriesintheSouth.Incontrast,FDIinflowstodevelopedcountriescontinuedtodecline.

Emerging economies are the new FDI powerhouses

Developingeconomiesincreasedfurtherinimportancein2010,bothasrecipientsofFDIandasoutwardinvestors.Asinternationalproductionand,recently,internationalconsumption shift to developing and transition economies, TNCs are increasinglyinvestinginbothefficiency-andmarket-seekingprojectsinthosecountries.Forthefirsttime,theyabsorbedmorethanhalfofglobalFDIinflowsin2010.FDIoutflowsfromdevelopingandtransitioneconomiesalsoincreasedstrongly,by21percent.

Services FDI subdued

Sectoral patterns. FDI in services, which accounted for the bulk of the decline inFDI flowsdue to thecrisis,continuedon itsdownwardpath in2010.All the main service industries (business services, finance, transport and communications and utilities) fell, although at different speeds. FDI flows in the financial industryexperiencedoneofthesharpestdeclines.

FDI policies interact increasingly with industrial policies, nationally and internationally

Thechallenge is tomanage this interaction so that the twopolicieswork togetherfordevelopment.Strikingabalancebetweenbuildingstrongerdomesticproductivecapacityon theonehandandavoiding investmentand tradeprotectionismon theotheriskey,asisenhancinginternationalcoordinationandcooperation.


FDI trends in various EME’s (Emerging Market Economies) in uS $ Millions

Source:UNCTAD

• AscanbeseenfromthefiguresChinaiswayaheadofotheremergingeconomiesintermsofFDIflows.

• Mexicohasbeenwitnessingasteadyflowofforeignfundsthroughtheyears.• IndiaalongwithRussiahaswitnessedincreaseinFDIflowsinrecentyears.• South Africa is the one that has been lagging behind other EME’s in terms of

foreigninvestments.


III. India’s Sectoral Analysis

A. Telecommunications

The growth in certain key industries is indicative of the economic development taking place in an economy. Increased efficiency and reach provided by the telecom sector

has been instrumental in improving the operations of various sectors such as IT, banking, or Media & Advertisement industry. The liberalization process that took place and the subsequent policy initiatives has paved the way for influx of private players. (Fig 1) The regulatory body overseeing the functioning of the sector is The Telecom Regulatory Authority of India (TRAI) and its main objective is to ensure a level playing field that encourages greater but fair competition so as to provide the consumers a better ambit of services at an affordable price. The Indian government has relaxed the limits on FDI into the sector considerably. (Table 1), which has lead to an increase of foreign capital into the sector. (Table 2) FDI helps in attracting large amount of funds, advanced technology and market competition which results in better services for the customer.

Figure 1: Evolution of Telecom in India


Table 1: Investment caps and other conditions for specified services are given below:5

Telecom services 74% Automatic upto 49% Government route beyond

(a) ISP with gateways

(b) ISP’s not providing gateways i.e. without gate-ways (both for satellite and marine cables)

(c) Radio paging

(d) End-to-End bandwidth

74% Automatic upto 49% Government route beyond 49% and up to 74%

(a) Infrastructure provider providing dark fibre, right of way, duct space, tower (IP Category I)

(b)Electronic Mail

(c) Voice Mail

note: Investment in all the above activities is subject to the conditions that such companies will divest 26% of their equity in favour of Indian public in 5 years, if these companies are listed in other parts of the world.

100% Automatic upto 49% Government route beyond 49%

Table 2: Telecom Sector FDI Equity Inflows (uS $ Million)

Sector 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11 2011-12 (upto Sep. 2011)

Telecom 624 478 1261 2558 2554 1665 1901Source:DIPP

Sector Performance: India with its favourable demographics and growing economy provides telecom players from world over an exciting and profitable opportunity. (Table 3) Rising demand for a wide range of telecom equipment, particularly in the area of mobile telecommunication which comprises of products like cell phones, chipsets, DSL and cable

5 http://dipp.gov.in/Fdi_Circular/FDI_Circular_012011_31March2011.pdf


modems and networking devices,, has provided excellent opportunities to domestic and foreign investors in the manufacturing sector. The mobile phone has been transformed from being a luxury to being an essential device required by almost everyone. Such a change has been possible due to various reasons either at the policy level or at the operators or manufacturers end. Low priced handsets and tariffs alongwith increased connectivity has helped in the progress of various other sectors as well.

Table 3: Sector’s Performance

ThereisahugedifferenceintermsofthePSUandprivatesectornetworks,therebysuggestingthatitistheprivateplayerswhichactuallyareresponsibleforthesignificantgrowthoftelecomintheeconomy.


Outcomes of the FDI policy:

Some of the benefitsIndustry Consumers

• Provided private players to tap theexisting potential in the sector.

• Assisted the industry in upgrading itstechnology quotient by being exposed to international standards.

•Openingupinternationalmarketsforthetelecom equipment manufacturers

• Provided the sector with the muchneeded financial assistance to set up the infrastructure required to distribute the benefits of the telecom revolution.

•More Choices in terms of serviceprovider

• Prices of products and services havecome down substantially

• A lotmoreproducts tochoose from interms of handsets

•Greater connectivity assists customersfrom all walks of life, be it the trader, farmer, entrepreneurs

• Increasedusageof internet hasmeantnew models of imparting education can be adopted in the form of e-learning

B. Automobiles

Although the delicensing of the passenger car sector was initiated in 1993 the quantitative restrictions still prevailed. Therefore most of the foreign firms had to enter into joint ventures during the 1990’s. (Fig 2) However since 2002 when the equity caps for foreign


investors had been lifted the automobile industry has witnessed a healthy growth in the inflow of foreign funds. As reported in the data the FDI flow in 2005-06 was approximately 143million US$ which in 2010-11 became 1331million US$. (Table 4)

Fig 2: Evolution of Automobile FDI Policy

Table 4: Automobiles Sector FDI Equity Inflows (uS $ Million)

Sector 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11

Automobile Industry 143 276 675 1152 1208 1331

Source:DIPP

Sector Performance: India is considered to be one of the fastest growing auto markets in the world owing to its huge market size, expanding middle class, availability of finance options and a high percentage of young aspirational population. Apart from these from the viewpoint of a manufacturer India provides auto companies with low cost production facility, a growing talent pool of technical personnel, and a growing and competent auto components market. A look at some of the key parameters of the industry shows that the sector has been growing continuously thereby benefitting both the manufacturers as well as the consumers. A look at the production, sales and exports figures suggest that all the three indicators have shown an upward trend alongwith the rise in FDI flows into the sector. The growth of the automobile sector has assisted India in developing a healthy auto component industry, with its turnover and investments rising almost every year since 2005-06. (Table 5) An indicator of increase in the competitiveness of the Indian auto components market can be judged by the fact that a major share of the exports of theseproductsistoTier1OEM’s.


Outcomes of the FDI policy:

Some of the benefitsIndustry Consumers

•Has increased the competitiveness ofdomestic players.

• The growth in the sector assisted thedevelopment of the auto component industry which not only produces products of global standard’s but has also resulted in increased employment.

• The productivity levels within thesector have improved as a result of following globally recognized models of manufacturing.

• The technological capability of Indianfirms has also seen improvements over the years.

• FDIboughttherequiredcapitalintothesector which assisted players in scaling up their supply thereby assisting their overall efficiency and growth.

•Consumer choices have increased bymany folds both in terms of product range within a price range as well as across price range.

• TheIndianconsumertodayhasaccessto global brands

• The quality of products in terms ofcustomer experience as well as other parameters such as safety, accessories have improved tremendously.

•Over the years there have been newproduct categories that have been created keeping in mind the change in customer preferences. The recent surge in demand for luxury and high end automobiles has been noticed by various international brands which have now started looking at India as a future growth driver.

C. IT/ITES

100% FDI is permitted in the Electronic hardware sector and the Software development sector under the automatic approval route. Industrial Licensing has been virtually abolished in the Electronics and Information Technology sector except for manufacturing electronic aerospace and defence equipment. In order to promote domestic investment, foreign direct investment, transfer of technology / process know-how, technical collaboration, joint venture etc in India and export IT software products and services from India to the global market, both Government of India and State Governments in India have been offering a series of policy packages including tax breaks, import duty concessions etc. The rapid growth in the sector is a consequence of highly skilled human resource, low wage structure, quality of work and the various policy initiatives as discussed earlier. The


recent fall in FDI flow to the sector could be due to the turmoil prevailing in most of the developed nations which are a big market for the Indian IT industry. (Table 6)

Table 6: Computer Software & Hardware Sector FDI Equity Inflows (uS $ Million)

Sector 2005-06 2006-07 2007-08 2008-09 2009-10 2010-11

Computer Software & Hardware

1375 2614 1410 1677 919 784

Source:DIPP

Sector Performance: The Information Technology (IT) sector in India is one of the sunshine sectors of the Indian economy and amongst the fastest growing in the country. The demand for IT services has been fuelled by subsequent growth in allied sectors such as telecom, banking, insurance, retail, healthcare and automobiles. Abundant investment opportunities exist in the following thrust areas in India. Hence IT sector is attracting considerable interest not only as a vast market but also as potential production base by international companies. The trend over the last few years indicates a healthy rate of growth both in terms of production and exports. (Table 7).



IV. relevance of FDI in India

The 12th Plan’s draft approach paper of the Planning Commission mentions that “ThustheaverageinvestmentrateneededduringtheTwelfthPlanperiodisestimated

tobe38.5percentofGDP for the9.0percentgrowthscenariowith4.5–5.0averageinflation.Itwouldhavetoriseasmuchas41.4percentofGDPforthe9.5percentgrowthscenariowith5.0–5.5 rateof inflation”and in terms of investment in infrastructure the same document suggests that “The total investment in infrastructurewouldhave tobeoverRs.45 lakhcroreor$1 trillionduring the12thPlanperiod.Financing this levelofinvestmentwillrequirelargeroutlaysfromthepublicsector,butthishastobecoupledwithamorethanproportionalriseinprivateinvestment”.

It is seen that every nation world over is the race of attracting more FDI inflows to accelerate the pace of economic progress India’s case is no different as in order to achieve and sustain a healthy rate of growth India would require huge investments which cannot be financed locally therefore the government needs to look at alternate avenues of building up investments, FDI in this context is a very useful mechanism. Recent reports have also suggested that greater FDI inflows must be encouraged to meet capital requirements.6

Aside from using FDIs as investment channel and a method to reduce operating costs, many companies and organizations are now looking at FDI as a way to internationalize. FDI should be looked upon as a means of industrialisation and development.

The Benefits of FDI Inflows can be broadly identified as:7

• Bridgingthefinancialgapbetweenthequantumoffundsneededtosustainalevelof growth and the domestic availability of funds

• Technology transfer coupledwith knowledgediffusion that leads to improvementin productivity. It can, thus, fasten the rate of technological progress through a ‘contagion’ effect that permeates domestic firms

• Thetransferofbetterorganisationalandmanagementpracticesthroughthelinkagesbetween the investing foreign company and local companies.

6 http://www.financialexpress.com/news/more-fdi-must-for-fund-requirements/754904/07 http://dipp.gov.in/oecd_backpaper/FDI%20AND%20INFRASTRUCTURE.pdf


Some of these benefits have been seen in the cases of automobile and the telecom industry as discussed in the study earlier. Moreover it can be seen that a promotion and growth in one industry simultaneously fuels the growth in its interconnected sectors as well.

It is well accepted that India’s rising growth would require a simultaneous expansion of its infrastructure facilities to support it. The Government of India has been frequently taking initiatives to liberalize and incentivize its foreign direct investment policies to attract investments however the recent decision to suspend FDI in retail as well as hold all other FDI decisions could dampen the international investor’s confidence, as the initial announcement and then the rollback of the initiative might be interpreted as a sign of political instability in taking key policy decisions.

In today’s global scenario when investors might be looking at alternate avenues, to invest their money there are only a few nations across the world that provide opportunities to foreign companies, with a highly potential market and a low cost manufacturing opportunity and India is one of them. FDI in retail would have been an opportunity to attract inflow of funds which would have resulted in major benefits for the Indian economy:

1. Agriculture: Organized retailing would have led to a complete overhauling ofthe existing agricultural supply chain. It would have led to bypassing of various intermediaries thereby reducing costs. Investments made by them would have helped in creating back end infrastructure like warehousing and distribution centres, transport and cold storage facilities. It would have created both direct as well as indirect employment at various levels. All these would have resulted in enhanced farmer’s realizations, improved quality of products and reduction in consumer price.

2. Growth in allied industries: The inflow of funds into retailing would have simultaneously led to the growth of allied industries as happened in the case of automobiles, which led to the growth of auto components sector. Likewise FDI in retail would assist growth in supplier industries such as food-processing and textiles moreover, growing demand for retail space, construction of real estate would have also taken place.

3. Increase in Employment: As mentioned in the previous point the growth in a number of allied industries would also result in the growth of employment opportunities across sectors. Both direct and indirect labour would be required to support the industrial and operational machinery that would have been formed as a result of opening up of the sector.


4. Improvement of Government revenues: Another significant advantage of organized retailing is its contribution togovernment revenues.Organized retailers,by virtueof their being corporate entities need to file tax returns periodically whereas in the unorganized sectors there have been leakages in the collection of central and state taxes.

Source:PIB’sWebsite

Recent Development

FarmershavereiteratedtheirsupportforCabinet’sdecisiontoallowFDIinMulti-BrandRetail.InameetingwiththeMinisterofCommerce,IndustryandTextilesShriAnandSharma,SecretaryGeneralofConsortiumofIndianFarmersAssociations(CIFA),ShriP. Chengal Reddy conveyed the desire of various farmers’ body to implement thedecisionassoonaspossible.“FDIinretailwillfreefarmersfromthemiddlemanandwillgettheremunerativepricefortheproducetothefarmer”saidShriReddyafterthemeeting.

ShriReddyalso informedabout theCIFA’sefforts toengagestategovernmentsonthe issue of FDI in retail. “Many states are reconsidering their opinion aswe haveexplainedtothemvariousdetailsbecauseofwhichFDIwillhelpthesmallfarmersinthelongrunasitbuildscompetitiveness”informedShriReddy.


V. Potential FDI Sectors

A. FDI in Pension Funds

As per the 12th Draft Approach paper of the Planning Commission The total investment in infrastructure would have to be over rs. 45 lakh crore or $ 1 trillion during the 12th Plan period. The year wise requirement of infrastructure investments is given in the table below:

Table: Projected Investment in Infrastructure during the Twelfth Five year Plan(Rscroreat2006-07prices)

yearBase year (2011-12)

2012-13 2013-14 2014-15 2015-16 2016-17Total 12th

Plan

GDP at market prices (Rs crore)

63,14,265 68,82,549 75,01,978 81,77,156 89,13,100 97,15,280 4,11,90,064

Rate of growth of GDP (%)

9.00 9.00 9.00 9.00 9.00 9.00 9.00

Infrastruc-ture invest-ment as % of GDP

8.37 9.00 9.50 9.90 10.30 10.70 9.95

Infrastruc-ture invest-ment (Rs crore)

5,28,316 6,19,429 7,12,688 8,09,538 9,18,049 10,39,535 40,99,240

Infrastruc-ture invest-ment (US$ billion) @ Rs 40/$

132.08 154.86 178.17 202.38 229.51 259.88 1,024.81

Source:Mid-TermAppraisaloftheEleventhFiveYearPlan

Such high level of investments cannot be financed by traditional sources of public finance alone. Moreover, with increased globalization, provisions will have to be made to counter any global risks that might be prevailing as is the case with Euro zone crises currently.

In the light of such events therefore the Central Government might have to pursue an even more cautious approach while incurring expenditures. This could lead to a significant


infrastructure gap and therefore there is need to recognize the importance of private sector’s role in developing the infrastructure requirements of the nation.

The share of private sector investments in infrastructure has been marginally on a rise. Please refer to the figure below:

Figure: Share in Total Investment

Source:Mid-TermAppraisaloftheEleventhFiveYearPlan

However amidst a slowing economy and a fall in corporate performance there might be a situation wherein even the private sector might have monetary constraints to fund huge infrastructure projects.

To fill this Infrastructure Gap

• PensionFundinvestmentsintoinfrastructureseemtobeabefittingalternativegiven the match of interests for both the sectors.

• FDIinpensionfundswouldfurtherincreasethevolumeofassetsthatcanbeinvested into infrastructure and help in realizing the infrastructure needs of the country.

Characteristics of infrastructure projects that assist in attracting investments from pension funds:

Long term income streams

Stability


Predictable cash flows

Low default rates

Diversification of projects

The project stands to benefit the society at large

Given the large infrastructure financing requirements, all potential resources must be tapped into by channeling available domestic and international funds into project finance. However, long-term investors, such as pension and insurance funds, have had a limited presence in the Indian market due to regulatory restrictions. The contribution of Pension and Insurance companies to infrastructure financing has been relatively small as indicated by their percentage share as sources of debt during the Eleventh Five Year Plan. Please refer to table below:

Table: Likely Sources of Debt Financing for Infrastructure (rs crore 2006-07 price)

2007-08 2008-09 2009-10 2010-11 2011-12 Total Eleventh

PlanPension/Insurance Companies

9077 9984 10983 12081 13289 55414

External Com-mercial Borrowing (ECB)

19593 21768 24184 26868 29851 122263

Estimated Require-ment of Debt

131718 155704 187333 229571 283709 988035

% Share of Pen-sion/Insurance in Estimated require-ment of Fund

6.9 6.4 5.9 5.3 4.7 5.6

% Share of ECB’s in Estimated Require-ment of Fund

14.9 14.0 12.9 11.7 10.5 12.4

Source:EleventhFiveYearPlan

Therefore it is imperative that financial sector reforms continue in order to offer products and services to meet financing and risk management of the needs infrastructure projects.


Size of Pension Funds Market

As per anOECD report8 “According to theOECD calculations, the funded pensionsmarket(bothoccupationalandworkrelated)hasasizeofUS$24.6trworldwide.Ofthis,US$ 16.2tr is held by pension funds”.

According to another report9TheOECD(Organization forEconomicCooperationandDevelopment) countries account for more than 90 percent of the world’s private pension assets and the US account for nearly half of the total assets of private pension assets. Pension fund assets in BrIC countries are relatively low in relation to their GDP (17 percent in Brazil, 2 percent in russia, 5 percent in India, and one percent in China).

The total pension assets in 13 markets at the end of 201010 are given in the table below:

Table: Pension Fund Assets

Country Plan % GDPAustralia 1261 103Brazil 342 17Canada 1140 73France 133 5Germany 471 14Hong Kong 87 38Ireland 100 49Japan 3471 64Netherlands 1032 134South Africa 256 72Switzerland 661 126UK 2279 101US 15265 104Total 26496 76

Source:GlobalPensionAssetStudy2011TowersWatson

8 GeorgInderst“PensionFundInvestmentin”publishedbyOECD,WorkingPapersonInsuranceandPrivatePensionsNo.32

9 GlobalPensionFunds:OverviewFTKnowledgeManagementCompanyLimitedVol1INo.32IOctober25,201010 GlobalPensionAssetStudy2011TowersWatson


As per the Global Pension Asset Study 2011 the trend observed in the allocation of pension assets at a world level are:

Table: Asset Allocation in 2010

Asset Allocation Percentage Allocated

Equity 47

Bonds 33

Other 19

Cash 1

Source:GlobalPensionAssetStudy2011TowersWatson

Pension Fund Assets in India

Table: Current Status

rs. Crores uSD BillionIndia’s GDP at (constant price 2004-05) in 2010-11

4877842 97556Exchange Rate taken as 1 US$ = 50 Indian Rupees

Pension Fund Assets

48.78

As stated earlier pension fund asset in India is 5 per cent of the GDP

Fund AllocationEquity 22.93 Assuming that

allocation is done as per the world trend indicated in the earlier table

Bonds 16.10Other 9.27

Cash 0.49

ASSOCHAM’sCalculations

Allowing FDI in Pension funds would give access to global pension fund companies to the vast untapped Indian market and assuming that opening up of FDI in Pension Funds shall help India in attracting slightly more than 1 percent of the total pension funds held by pension fund companies (size of pension fund holdings assumed to be uS $ 16.2 trillion as given in an OECD report).

11 GlobalPensionFunds:OverviewFTKnowledgeManagementCompanyLimitedVol1INo.32IOctober25,2010


India would be able to raise the share of Pension fund assets to GDP from the current level of 5 percent to close to 17 percent which would be similar to that of another emerging economy Brazil’s level in 2010.

Moreover a 2.1 percent allocation of total pension fund assets to India would increase its reserves to US $ 342 billion the level of pension assets that were there in Brazil in 2010.

• IfPension Funds reach17per cent of India’sGDP then thiswould result inassets worth US$ 165.85 Billion

• Moreover if India isable to reach the levelswitnessed inBrazil in2010 thengoing by the world trends the Equity allocation of these alone could be as high as US$ 160 Billion

• ACAGRof16.5percentaswitnessedbyBrazilwould result in totalpensionassets of US$ 733.93 Billion, of which equity would be US$ 344.95 Billion.

Of this even if 30 per cent goes into Infrastructure Sector then it would mean an investment of uS $ 103.49 billion which is close to one tenth of the infrastructure investment requirement of the 12th Plan.

Table: Potential Scenario

Asset Alloca-tion

Percent-age Allo-

cated

Pension Fund As-sets at 5 per cent of GDP (current status)

Pension Fund

Assets at 17

per cent of GDP

Pension Fund As-sets at Brazil’s Current Level

Pension Fund As-sets at the end of 2017 (starting at uS $ 342 billion in 2012) if CAGr is 16.5 percent*

Total Avail-able Assets (uSD Billion)

48.78 165.85 342.00 733.93

Equity 47 22.93 77.95 160.74 344.95

Bonds 33 16.10 54.73 112.86 242.20

Other 19 9.27 31.51 64.98 139.45

Cash 1 0.49 1.66 3.42 7.34

ASSOCHAM’sCalculations

*CAGRistakenas16.5percentasthishasbeentherateachievedbyBrazilintheperiod31/12/2000to31/12/2010asperGlobalPensionAssetStudy2011TowersWatson


Other Benefits

• AvastmajorityofIndia’spopulationisnotcoveredbyanyformaloldageincomescheme and is dependent on their earnings and transfer from family members.

• The unorganized sector has no access to formal channels of old age economicsupport.

• AsindicatedinremarksmadeonthepensionsysteminIndia12:

Onlyabout12percentoftheworkingpopulationinIndiaiscoveredbysomeform of retirement benefit scheme.

The total pension liability on account of the Central Government employees has increased at a compound annual growth rate of more than 21% during the 1990s, the comparable rate for the State Government was 27% per annum.

The implications of demographic dynamics for pension planning in India becomes more evident when one takes into account the fact that average life expectancy at age 60, which is currently 17 years, is likely to rise to more than 20 years in the next three decades and that the population over 60 years of age will approach 200 million in 2030.

Therefore large scale reforms are required to ease the pressure on the treasury, to provide for a social security net for growing numbers of senior citizens as well as a growing workforce.

12 PensionReforminIndia–ASocialSecurityNeed(D.Swarup,Chairman,PFRDA)


B. FDI in Civil Aviation

I. Importance

The aviation industry is critical for any nation to gain from participation in the global economy. Civil Aviation in its role of a key infrastructure sector facilitates:

• Growth of other industries

• Trade - by offering a reliable and faster mode of transport services to move products and personnel across long distances

• Tourism

• Generatesbothdirectandindirectemployment opportunities

The vision for the Indian civil aviation industry for the 12th Plan period is:

“To propel India among the top five civil aviation markets in the world by providing access to safe, secure and affordable air services to everyone through an appropriate regulatory framework and by developing world class infrastructure facilities”

II. Potential

A growing middle class supplemented with rise in disposable incomes, change in lifestyles, a globalized economy all act as drivers that project a huge potential for the industry. Another way of looking at the potential of the sector is by comparing the domestic tariff of another emerging economy China. Domestic traffic in China is believed to be five times the size of India’s despite having a population just 10% larger.

Forecast of air traffic carried out for 12th plan13 period suggests:

• Domestic passenger throughoutwouldgrow at an average annual rate of around12%.

• Domesticpassenger throughout isexpected to toucharound209millionbyFY-17from106millioninFY-11.

• Internationalpassengerthroughoutisestimatedtogrowatanaverageannualrateof8%duringthe12thPlanperiod

• InternationalPassengerstoreach60millionpassengersbyFY-17from38millioninFY-11.

13 ReportofWorkingGrouponCivilAviationforformulationofTwelfthFiveYearPlan(2012-17)


III. Investment required

Huge amounts of additional investments will have to be made into the sector to develop more airports, increase the existing capacities as well as improve and create additional support infrastructure if India intends to harness the existing potential efficiently.

Broad Investment requirements:

Expense On Amount (rs. Crores)

Airport 67,500

Fleet Expansion 147,600

Total 2,15,100

Estimates given in the Report of Working Group on Civil Aviation suggest the investments requirement would be:

a) Airport Infrastructure

Estimates received from AAI and the industry indicate that the Indian airports would require an investment of about rs 67,500 crores during the 12th Plan of which around Rs 50,000 crores is likely to be contributed by the private sector. Please refer to the Table below:

Table: Expected investments in airports during 12th Plan

Investor Investment Category Inr (Crores)

AAI Airport projects 17500

Private ByAirportOperator 40,000

Investments ByOthers(Concessionaires,ThirdParty,etc.) 10,000

Subtotal 50,000

TOTAL 67,500

Source: Report of Working Group on Civil Aviation for formulation of Twelfth Five Year Plan(2012-17)

b) Airlines

Airlines in India are expected to add around 370 aircrafts worth Rs 150,000 crores to their fleet by FY-17. Fleet expansion at this scale would require airlines to explore multiple


funding options including capital markets, long-term borrowings and leasing etc. Please refer to table below:

Table: Expected fleet expansion by Indian carriers

Airline number of aircrafts expected to be added by 2017

Estimate value of aircrafts to be added (rs. crores)

Air India 40 18,000

Go Air 22 8,100

Jet Airways 79 32,000

JetLite 20 7,600

Kingfisher 78 29,700

Spicejet 68 26,100

Indigo 69 26,100

TOTAL 376 147,600

Source: Report of Working Group on Civil Aviation for formulation of Twelfth Five Year Plan

(2012-17)

realization of the civil aviation industry’s vision would require huge amounts of funds to be invested.

However, looking at the existing financial status of the industry the achievement of set objective seems to be ambitious14.

• Thedecade2000-2010witnessedaprofitlessgrowthphaseoftheairlinesindustry.

• Duringthethreeyearperiodbetween1Apr2007and31Mar2010,Indiancarriersincurred an accumulated operational loss in excess of Rs 26,000 crores.

• AspercertainestimatestheAirlineIndustryinIndiasuffersfromhugedebtburden–close to US $ 20 billion (estimated for 2011-12).

• Halfofthisdebtisaircraftrelatedandtherestforworkingcapitalloans,paymentstoairport operators and fuel companies.

• Highcostsofoperationandcompetitivepricingmechanismfollowedhasadverselydented the financials of the airline sector.

14 ReportofWorkingGrouponCivilAviationforformulationofTwelfthFiveYearPlan(2012-17)


IV. Foreign Airlines Equity Participation

Raising huge amounts of investments would require the government to adopt more progressive and positive fiscal regime as well as develop a collaborative approach with the industry.

Civil Aviation industry would require not only large but continuous flow of funds if the next phase of growth needs to take place. For this to happen the government must relook at its FDI policy which disallows foreign airlines from purchasing equity of domestic airlines.

Direct investment by foreign airlines would:

• Providemanagerialandtechnicalexpertiseneededtoimproveproductivity.

• Raisemuch-neededcapitalfortheprivate-sectorplayers

• Improveoperatingstandardsandservices

An estimation of the amount of capital that can be raised by three prominent Indian Private Airlines shows: (foreign non- airline investor’s equity has not been considered in estimation).

• Thepromoters by off loading 26%of their EquityStake can raise uptoRs.1341.45 crores.

• ThisfiguregoesuptoRs.2528.3croresincase49percentFDIisallowed.

• Combinedequityvaluation(promoterandnon-promoter)at26%comesouttobe rs. 2834.27crores.

• Thevaluationat49%goesuptoRs.5341.52crores.

The capital raised from equity sale can be used to address the working capital requirements of the airlines.

Estimates: Table: Estimates of capital that can be raised

ConditionAmount of Capital raised (rs. Crores)

At 26 per cent At 49 per cent

(a) Promoters off load their stakes 1341.54 2528.29

(b) total available equity(promoter and non-promoter) is diluted

2834.27 5341.51

ASSOCHAM’sCalculation


A. Investment flow through FDI

Promoter’s share is diluted

Airlineno of

shares% Share

Total Value (rs Crores)

Amount of Capital raised (rs. Crores) if

FDI 26% FDI 49%

Kingfisher 263085543 56.08 4268.56 1109.82 2091.59

Jet Airways 10183 0.06 .57 .15 .28

Spice Jet 156528305 38.61 890.65 231.57 436.42

Total 1341.54 2528.29


Overall (promoter and non-promoter’s) share is diluted

Airline no of sharesTotal Value (rs

Crores)


FDI 26% FDI 49%

Kingfisher 469107140 7611.26 1978.92 3729.51

Jet Airways 17275436 983.17 255.62 481.75

Spice Jet 405378065 2306.6 599.72 1130.23

Total 2834.27 5341.51


B. Individual Airlines

Kingfisher

Categoryno of

shares% Share



FDI 26% FDI 49%

Promoter 263,085,543 56.08 4268.56 1109.82 2091.59

Non Promoter 206,021,597 43.92 3343.11 869.20 1638.12

Total 469,107,140 100 7611.26 1978.92 3729.51


note: Rs 162.27 that is the average of highest share price and lowest share price in the last four years has been used to calculate the valuation.


Jet Airways

Categoryno of

shares% Share



FDI 26% FDI 49%

Promoter 10,183 0.06 .57 .15 .28

Non Promoter 17,265,253 99.94 982.60 255.47 481.47

Total 17,275,436 100 983.17 255.62 481.75



Spice Jet

Categoryno of

shares% share



FDI 26% FDI 49%

Promoter 156,528,305 39.68 890.65 231.57 436.42

Non Promoter 248,849,760 60.32 1415.96 368.15 693.82

Total 405,378,065 100 2306.60 599.72 1130.23




VI. ASSOCHAM’s Suggestions

FDI since 1991 has proved to be game changer for wide segments of Indian industry.FDI has change quality, productivity, and production in areas where it has been

allowed.FDIhasledtothecreationofnewactivitiessuchasIT-BPO,whichwasinitiated

by select foreign companies.

India needs huge investment in the 12th Plan period, it is calling for investments

to the tune of $1 trillion in the infrastructure sector alone. We need among many

other infrastructure facilities infrastructure in retail as well as those for food & perishable

products.OpeningofFDIinretailwouldhaveledtothecreationofsuchfarminfrastructure.

This apart mining and manufacturing sectors also require huge investments and FDI can

supplement domestic efforts significantly. There is also an urgent need for India to

augment the investment absorption capacity.

Moreover it has to be understood that India is competing for foreign investments

with other emerging economies and so far a comparative analysis suggest that India

has not been a large recipient of FDI.

It is in this context that ASSOCHAM studied the role of FDI in Indian economy and

particularly in select sectors. While ASSOCHAM feels that FDI liberalization should be

pursued we also recommend some immediate ground level reforms for increasing the

ease of doing business in India. Therefore we would like to propose a few suggestions

to the policymakers for their consideration:

• Bureaucraticdelaysandvariousgovernmentalapprovalsandclearancesinvolvingdifferent ministries need to be fastened so as to increase the absorption rate of FDI into the country.

• Restrictionsonsectorcapsandentryroutetosectorsotherthanthoseofnationalimportance need to be liberalized further and constant reviewing of policies must be done.

• Governmentmustensureconsistencyofpolicysoastoimprovethebusinessandinvestor confidence.


• Itisintheinterestoftheindustryatlargeifamechanismcouldbedevelopedwhichfacilitates a consultation between Centre and State governments before a policy rollout so that once the decision is taken its implementation does not get affected.

• Governmentmustrecognisethatgoodregulationsandefficientprocessesarekeycatalysts for FDI. Accessible and reliable information and efficient and predictable actions by public institutions help create a business environment conducive to investment.

• Time bound, non-discretionary, simplified and less number of procedures andapprovals would also help in uplifting the international investor’s confidence and help foster more investment into India.

HHH

About ASSOCHAM

ASSOCHAM acknowledged as Knowledge Chamber of India has emerged as a forceful, pro-active, effective and forward looking institution playing its role as a catalyst between the Government and Industry. ASSOCHAM established in 1920 and has been successful in influencing the Government in shaping India’s economic, trade, fiscal and social policies which will be of benefit to the trade and industry.

ASSOCHAM renders its services to over 3,50,000 members which includes multinational companies, India’s top corporates, medium and small scale units and Associations representing all the sectors of Industry. ASSOCHAM is also known as a Chamber of Chambers representing the interest of more than 350 Chambers & Trade Associations from all over India encompassing all sectors.

ASSOCHAM has over 100 National Committees covering the entire gamut of economic activities in India. It has been especially acknowledged as a significant voice of Indian industry in the field of Corporate Social Responsibility, Environment & Safety, Corporate Governance, Information Technology, Agriculture, Nanotechnology, Biotechnology, Pharmaceuticals, Telecom, Banking & Finance, Company Law, Corporate Finance, Economic and International Affairs, Tourism, Civil Aviation, Infrastructure, Energy & Power, Education, Legal Reforms, Real Estate, Rural Development etc. The Chamber has its international offices in China, Sharjah, Moscow, UK and USA. ASSOCHAM has also signed MoU partnership with Business Chambers in more than 45 countries.

The Associated Chambers of Commerce and Industry of IndiaASSOCHAM Corporate Office

1, Community Centre, Zamrudpur, Kailash Colony, New Delhi-110048Tel: 011 46550555 (Hunting Line) | Fax: 011 46536481/82, 46536498

Email: [email protected] | Website: www.assocham.org

Indias experience with fdi role of a game changer

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