The Reserve Bank of India has proposed relaxation to the rules on Call and Put Options. According to sources, in a letter to the finance ministry, RBI has asked the government for downside protection to foreign investors upon their exit- the move comes after Tata Sons moved the central bank in the DoCoMo matter.
Speaking to CNBC-TV18, Romal Shetty, ED and National Head, KPMG said that if norms are in place, it will ease entry of foreign flows in India. He believes global telecom companies are looking to enter India and there must be a safeguard to protect the Indian company’s interest in industry.
Adding to the discussion, Vivek Kathpalia of Nishith Desai Associates’ welcomes RBI recommendations on downside protection for foreign direct investment exits. According to him, the downside protection is very important for the realty sector.Below is verbatim transcript of the discussion: Romal Shetty, ED and National Head, KPMGQ: Is this move going to de-bottleneck and allow a lot of foreign investments?
A: Foreign investments are based on two things – (1) the comparative market and (2) something like this - this is a positive move because a number of foreign operators have come in and to some extent have burnt their hand. This allows and option to exit. However, in any market whenever foreign investors come in, they look at both entry as well as exit to be reasonably easy.
In this case also it is not about that DoCoMo is making any profits, it is just cutting its losses and it had an agreed price. So, from an India market perspective this is a positive signal because over the last few years we have not seen any new foreign investor coming in.
We had talks about AT&T, Deutsche Telekom coming in but nobody has come in. This helps in that whole process for them to make a decision to come into India and most of them will not come as Greenfield, they will come in with a tie-up because it is not possible to set up a network and run it from scratch now. Therefore, in that sense it is a positive move.
Q: What about the counter argument? The reason why these rules were put up in the first place that Indian parties are weaker parties when you argue or when you are negotiating with big foreign investors and the rule like this enables the Indian partner to say, sorry, you may want to come at these conditions but my rules do not allow it and thereby extract a better term from the foreign investor. Doesn’t that argument hold any more?
A: There are also certain conditions. There is a lock-in period for a particular number of years, so it is not something which will happen immediately.
Two, in the telecom side of it, I would hesitate to say; actually Indian players are very small, we need to have large sums of capital. Therefore, these are big players. These are not small players.
Q: Can you elaborate on which are the sectors that would benefit from this? You spoke about the overall foreign inflows increasing but sector wise or company wise any more details?
A: I may not be able to answer because I am a telecom guy, but in an overall perspective, from an economy and foreign investor perspective, these are repeated foreign investors who come in. Sometime your investments will not hold well, not necessarily because of various reasons.
In the telecom market there is a hyper competition; it’s not like four-five operators; there are eight or nine, so some of them will suffer losses even though they come with big brand name, good products in whichever market they serve but this at least gives them a reasonable sense that even if I have to cut my losses, I know where I can exit.
Therefore, in that sense anything which brings clarity to investors, foreign operators in this kind of a market is always helpful and I would assume that that would be similar for other sectors as well. There is no doubt about that. If this gets through, it is still at an approval stage.
Q: There are instances where a buyback is arranged from the existing Indian promoter at a prearranged price, for instance in insurance, a lot of guys who came in, actually came in looking for 49 percent. The law at that time allowed only 26 percent, the local partner were Dabur, Bajaj and Exide, who were not interested in insurance but some of them agreed that they would sell-off the shares when 49 percent rule came in at a pre-agreed price – that price is lower. Technically, if insurance companies had to pay market price, they will have to pay more now. Do you think it will work the other way as well and this time the foreign investor will be able to buyback at a lower price?
A: What you are saying is possible but as long as you have reasonable safeguards; there will be some safeguards or some conditions pursuant to which a different price or preordain price will be agreed. So there would be both ways but to some extent if you keep thinking and that’s where the economy opens up, you cannot think of all the scenarios because that will only put in more and more restriction.
There has to be some safeguards in place and then it must allow the companies to do whatever they wish to. The Indian promoters may also not necessarily agree to higher price just because of some specific reason, they look at the business return and therefore, they would make a firm decision. So, it can go both ways, I agree but it is time to open it up.
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Q: Are there any telecom guys who you think will come now?
A: Purely based on this decision – no. They will be looking at, for example, the restrictive norms on merger and acquisition (M&A) maybe opened, the spectrum roadmap and the auction price because most foreign investors do think that the valuation is very high even now though they believe that market will get better as it goes by in the next two-three years but they still find it expensive.
Two-three different things and then foreign investors will come in. People are looking at the market, there is no doubt. There are four-five telecoms globally who are looking at entering into India market but it is just a question the valuation being expensive.Vivek Kathpalia - Nishith Desai Associates
Q: What are the ramifications of RBI loosening up on this Put/Call options and the price at which investors can buyback their shares? I particularly want to know in insurance, a lot of people agree to come in at a pre-agreed price, now will the RBI insist on fair market price or can they come in at a lower price?
A: As far as the development that has taken place with respect to Tata DoCoMo, that is a very welcome move. The RBI has written to the finance ministry and has asked for their approval for what I understand from the news reports.
There is no assured price that is currently permitted for Put options and the price here is Rs 58 whereas the fair market value which is what has to be followed with Put options is Rs 23.
If the RBI does move in that direction, it is a significant change from a control on foreign exchange outflows to a more confident approach that the RBI is now willing to follow.
Importantly, this would then have to be considered for all other investments that have optionalities built into them for the foreign investors because this, if allowed, would firstly set a precedent.
There are a number of disputes between private equity investors who have these terms in their investment agreements and even this particular case as a result of arbitration, so it sets a precedent.
The RBI would then have to consider and the government would have to consider whether they should amend the regulations in a way that it could be on the automatic route or whether they should have an approval base system on a case-to-case basis. But going forward, if this is permitted others will come across and will also seek the RBI’s approval to be able to exit at their assured prices.
On the insurance sector, that is a slightly different issue because if you are coming in as a foreign investor, you have to follow the pricing guidelines and if you are going to acquire shares, they have to be at a minimum price as per the RBI guidelines of fair market value. So you cannot acquire shares, which are below the minimum price set.
This is an issue with respect to options that is an issue with respect to at what price can you exercise acquiring more shares. So one will have to see how that pans out but I think this is a very welcome move.
Q: Do you expect a lot of foreign capital? Which sectors are going to benefit?
A: If you look at the foreign direct investment (FDI) inflows into India, most of the FDI comes into the services sector. We also need to make a distinction between strategic investors and private equity investors. A lot of optionality clauses have been used by the private equity investors and a lot of those investments have gone in technology and various other service sectors. Also, in sectors where downside protection is critical, for example in sectors such as real estate and others where you have seen hybrid instruments come across, there are certain lock-in restrictions, which would continue because I don’t think the government would want to encourage short selling and so, that one year lock-in would continue if there is relaxation.
In real estate there is a three-year lock-in and so, I don’t think the lock-in will go but overall FDI inflows would be more confident of getting exits in the event they want to get out.Q: Does it become a quantum leap in terms of doubling of FDI? You handle a lot of such clients, so are there too many people who are looking for options and are not getting it?
A: Today you can get options. The only issue is that you can get options but you cannot fix the price at which you want to exit. So we have moved from a situation of no options to options following particular pricing methodologies to an options in July 2014, which said that now, you can choose the pricing mechanism as per international standards. But there will be a significant jump because now you will be able to get some sort of assured return and put that value into your contracts if this is blessed by the government.
Q: Was FDI in land looking to come on these conditions?
A: Yes. Real estate is one sector where downside protection is very important so that is a sector but then in real estate there are other instruments as well, which can be used so it would be a sector, which would benefit but you can use a non-convertible debentures and other instruments as well.
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