India’s policy makers react best when gripped by tension! Faced with the news of a 25 per cent fall in foreign direct investment (FDI) inflows in 2010-11, at a time when Indian firms are happily investing overseas, the government acted finally to scrap Press Note 1 of 2005. This is a positive signal to foreign investors. There were several quirky points about Press Note 1. For one, it was a guideline — not a law or even an ordinance. It speaks volumes for the policy-making milieu in India that a guideline that did not have parliamentary approval governed FDI policy! It was essentially a backdoor means of protecting Indian joint venture promoters by denying the automatic approval route for foreign investors, who have or had previous joint ventures or technical and trademark agreements in the same field, from setting up wholly-owned subsidiaries. This actually represented a small variation on an earlier Press Note (18 of 1999) that stipulated government approval if the foreign subsidiary was being set up in the same or allied field. Press Note 5, thus, did away with the “allied field” requirement of Press Note 18, a micro-relaxation that Kamal Nath, then commerce minister, played up as a major concession that most analysts quickly saw through. In practice, neither Press Note had a significant impact because the Foreign Investment Promotion Board (FIPB) has been liberal in interpreting these guidelines. Still, the scope for rent-seeking and obstruction by Indian joint venture partners was huge and several did, in fact, move to block their foreign partners. For example, V K Modi of Gujarat Guardian moved to block a project by its US-based partner Guardian Group in 2006 and engineering giant Larsen & Toubro did the same to investment proposals by its former German partner Ralf Schneider in 2008. Again, the FIPB overruled both Indian companies but the Press Note presented the perpetual threat of an irritant for a foreign investor.
Although the guideline did not demand it, setting up a standalone venture in the same field essentially required the foreign firm to obtain a no-objection certificate (NOC) from the Indian partner. This was not a problem when relations were cordial. But there were huge risks when the Indian partner leveraged the NOC to extract significant premiums on the exit valuations. At the very least, it raised the scope for tensions — as it did between Britannia and Danone when the latter wanted to set up a dairy venture. But even if the argument for protecting Indian joint venture promoters was to be accepted, it would be fair to say Press Note 1 has long outlived its utility. For one, as the Hero-Honda and TVS-Suzuki separations showed, Indian businessmen are fully capable of negotiating beneficial deals. For another, Indian industry has reached a point at which it can compete without requiring government protection. So, if nothing else, the withdrawal of the press note should give potential foreign investors some comfort.