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49% FDI In Insurance: Deal Breakers?

Published on Fri, Jun 12,2015 | 23:18, Updated at Mon, Jun 15 at 22:23Source : CNBC-TV18 |   Watch Video :

It took almost 10 years for India to raise the FDI limit in insurance from 26% to 49%. All in an effort to bring in much needed foreign capital and grow the sector. But new stipulations on ownership and control are proving to be dealbreakers? Will 49% FDI in insurance remain a promise on paper? CNBC TV18’s Menaka Doshi goes looking for some answers this week.

Kotak Mahindra Bank will find out next week if it is going to be an Indian bank or a foreign bank. After twice deferring the matter, the Foreign Investment Promotion Board (FIPB) is expected to decide on Kotak’s proposal to increase its foreign investment limit from 49% to 55%. FIPB’s response will determine not just whether Kotak can attract more foreign investment in the bank but the accompanying interpretation will also decide the fate of Kotak’s insurance business.

Because any Indian company with 51% or more foreign investment is considered a foreign owned (and hence controlled) company. And all downstream investments by a foreign owned company are foreign investments. So if foreign investment in Kotak Mahindra Bank crosses 51%, the Bank’s 74% stake in the insurance joint venture will count as foreign. Add that to Old Mutual’s 26% and all 100% of Kotak’s insurance business will be foreign owned. That’s a clear violation of the 49% FDI limit in insurance.

This method of calculating Indian and foreign ownership and control was devised in 2009. But the 2009 FDI policy put leading financial institutions like ICICI Bank, HDFC and HDFC Bank in trouble. Because by then all 3 were majority owned by foreigners, even though their managements were and are distinctly Indian.  Because of the majority foreign ownership, every investment made by these financial institutions was technically ‘foreign’ investment.  That jeopardised their insurance businesses! After months of confusion the FIPB finally exempted downstream investments in insurance and said that IRDA’s regulations would apply instead. Under IRDA’s 2000 regulations foreign investment in banks and public financial institutions was exempt from such calculation. So finally ICICI, HDFC, HDFC Bank were in the clear. But all that changed in February and March this year.


(7A) "Indian insurance company" means any insurer, being a company which is limited by shares, and,—
(a) which is formed and registered under the Companies Act, 2013 as a public company or is converted into such a company within one year of the commencement of the Insurance Laws (Amendment) Act, 2015;
(b) in which the aggregate holdings of equity shares by foreign investors, including portfolio investors, do not exceed forty-nine per cent. of the paid up equity capital of such Indian insurance company, which is Indian owned and controlled, in such manner as may be prescribed.

Explanation.—For the purposes of this sub-clause, the expression "control" shall include the right to appoint a majority of the directors or to control the management or policy decisions including by virtue of their shareholding or management rights or shareholders agreements or voting agreements


‘Indian control’ means control of such Indian Insurance Company by resident Indian citizens or Indian companies, which are owned and controlled by
resident Indian citizens

‘Indian Ownership’ of an Indian Insurance Company means more than 50 per cent. of the equity capital in it is beneficially owned by resident Indian citizens or Indian companies, which are owned and controlled by resident Indian citizens;

‘Total Foreign Investment’ in an Indian Insurance Company would be the sum total of direct and indirect foreign investment by Foreign Investors in such company, calculated in accordance with the Insurance Regulatory and Development Authority (Registration of Companies) Regulations 2000 read with Para 4.1.4 of the Consolidated FDI policy of the Government of India.


The Insurance amendment act of March 2015 raised the FDI limit to 49% and added that an Indian insurance company must be Indian owned and controlled. The rules released by the Finance Ministry in February, define Indian control to mean that the insurance company must be controlled by an Indian company that is owned and controlled by Indians. That rules out any Indian company, bank or financial institution that has more than 51% foreign ownership. That means HDFC and ICICI Bank are already in violation of the 49% insurance FDI limit. Soon Kotak may suffer the same fate. And someday listed companies like Edelweiss, Max, Future Retail and several others will also be in similar trouble.

                                                        Foreign Shareholding     Stake  In Insurance Business     
HDFC                                                       80%                                        71%
ICICI BANK                                               70%                                        73%
KOTAK MAHINDRA BANK                        48%                                        74%
EDELWEISS                                            34%                                        74%
MAX INDIA                                               40%                                        72%
FUTURE RETAIL                                    16.5%                                      52%






Abizer Diwanji, Partner & National Leader – Financial Services, EY

Diwanji: The unintended consequence of this is that almost all sponsors, unless they are individually owned, you take all our financial institutions which are primarily the sponsors of the banks their shareholdings are obviously more than 51 percent foreign while the managements are completely Indian and those foreigners have actually no bearing on the insurance business. So, technically if you look at it, those are impacted today and people like Kotak have actually applied for a permission to figure out as to what the FDI rule is. The rule as it stands today, yes there is an issue.

Doshi: The exemption, if it persists for let us say banks like ICICI Bank or even HDFC if it falls under the public financial institution category then shouldn't the same exemption be extended to all other Indian sponsors of insurance businesses?

Diwanji: Absolutely, either they are listed or they are financial institutions who have raised capital from foreigners which is non-controlling. Somebody would have a private equity exemption for example. As long as it is non-controlling, that should be a criteria for determining whether that comprises an illegal company.

Doshi: But it isn't right now?

Diwanji: It isn't right now

Doshi: So how much of a problem is it posing in being able to sort of close the deal when the foreign investor wants to go from 26 to 49 percent in the insurance joint venture but you have got this big question mark hanging over the interpretation of the Indian ownership itself?

Diwanji: At the moment the deal has slowed down because people are awaiting clarifications. However, most people are assuming that the clarifications will be in the positive. It will follow the rational flow of what was there in 2009 because otherwise the very purpose of this 49 percent is beaten.

Doshi: But have you in your conversations with Foreign Investment Promotion Board (FIPB) or Insurance Regulatory and Development Authority (IRDA) gotten the sense that this is going to be the interpretation?

Diwanji: With the government, no.

If Indian companies are dealing with ownership problems, their foreign counterparts have control issues! At Bajaj Allianz, the foreign partner Allianz has the sole right to appoint the CEO. It’s not unusual…many foreign insurance partners enjoy this right and a whole host of other rights. Such as the right to appoint an alternate director. The right to approve or block - alterations to capital, changes in articles, dividend declaration, geographical expansion, business diversifications. Individually or together - many of these rights could be interpreted as the ‘right to control management’ and hence would amount to control. Foreign control that is. But the February Rules are clear - control of an insurance business in India must lie with Indians.

Haigreve Khaitan, Partner, Khaitan & Co
Khaitan: So, under the old rules there was no concept of control. It was a cap of 26 percent on foreign ownership and there was no restriction on control. So, even with 26 percent, a foreign investor could virtually control through contractual arrangements, have majority on the board and there was no restriction on what so ever. So, now while the increase has happened to 49 percent, the law as it got amended prescribed it the insurance company must be Indian owned and controlled.

Doshi: What set of rights in what combinations will be construed as control by the foreign partner?

Khaitan: A simple one would be constitution of majority of the board that would be controlled, appointment of the CEO, Managing Director would be controlled.

Doshi: If it lies in the hands of the foreign partners?

Khaitan: If it lies in the hands of the foreign partners.

Doshi: What if it is a joint decision?

Khaitan: The way we have really dialogued with IRDA and the government it seems that would not be controlled. It is safe to say that standard minority protection like capital increase change in articles should not be controlled. A few things like business plan may or may not be controlled. However in the context of insurance what we have discussed with IRDA has been, but it is not yet in the rules, is that look all of these rights so long as they are not positive rights should not be controlled.

Doshi: Let me try and look at it from the regulator and the government's point of view as well. Typically either at 26 percent or at 49 percent the quantum of shareholding does not denote control and therefore there is no reason for foreign partner to have control so however painful this is legally or to re-negotiate with foreign partners you can see this being justified from the government or the regulator point of view saying, look we allowed only 26 percent earlier now it is only 49 percent, at no point are we saying you were allowed to have control. So, if you did have all these additional rights that was a anomaly to begin with. Would you say that anomaly in fact was encouraged by the fact that most foreign partners were funding the Indian partners through a variety of side instruments and therefore they wanted these rights to sort of justify the money they were putting into the business, that all stands to get corrected know?

Khaitan: I wouldn't say that way because economic ownership and participation in profits versus control are two different things. So, if the intent of the government was that look I want to restrict economic ownership as well as control it should so be prescribed. It wasn't prescribed in the past, to say that was always the intent was not true. All these documents were public. All these documents have being filed, so that wouldn't have been the intent.

Doshi: Eventually if many of these companies do want to go public SEBI does not allow for differential rights among shareholders, so eventually foreign partners would have had to be prepared to give up these rights, whether in two years, five years or seven years. So is this really a big problem today?

Khaitan: Those who actually go to the public markets and the foreigner is sitting with let us say 49 percent shares and it is a diverse holding of the balance, then the foreigner may have de facto control. The question is can they or will they all go to the public markets today and in the interim what does one do? I mean how does the foreigner exercise control?

Abizer Diwanji, Partner & National Leader – Financial Services, EY

Diwanji: The positive is that we have one insurance company which has actually got an approval as is for the 26 percent agreement.

Doshi: So you are saying in that case which is the Bharti AXA case, which is publicly known now, they did managed to get through FIPB, they are currently waiting at IRDA to overcome the final hurdle. That in that case AXA did not have to give up any major rights to be able to get FIPB?

Diwanji: Whatever they had they could retain. The question is what did they have and that is not within the public domain. Frankly if they had sole rights or the appointment of majority directors on the board those would certainly not go through. However, if they had rights which allowed them at discretion to comment or to recommend people that is a different story and the hope is that there will be a - strong differentiation done between protective rights and controlled rights.

Insurance is a capital intensive business and the rationale for increasing the insurance FDI limit to 49% was to attract much needed foreign investment. But all this confusion over ownership and control is having the opposite effect!  

Haigreve Khaitan, Partner, Khaitan & Co

Khaitan: I would say that today it is a deal breaker for sure because of the lack of clarity. I would say that euphoria was 26 is gone up to 49 but the fine print, it will mean ceding control, perhaps wasn't realised as much as now and coupled with the problem that now you have to go one level up to see whether even the Indian promoter is Indian owned a controlled or foreign owned controlled is complicating the problem even more.

Abizer Diwanji, Partner & National Leader – Financial Services, EY

Diwanji: The reason why we haven't seen a host of transactions though people have been waiting for eight years for 26:49 to happen is that there is lack of clarity.

Doshi: Are you also seeing legal stalemates between joint venture partners, the foreign partner and the Indian partner. The reason I ask this is because, over the last 10 years in India we have seen insurance joint ventures get done with side letters, with Call and Put options that are not necessarily disclosed and that maybe in some ways circumventing the RBIs policy of no assured returns for foreign direct investors. Now we have got the rights issue that is playing into this. So you might have the case of an option being triggered because of the change in law which many shareholders agreements had embedded in them but the ability to actualise the implementation of that auction is hurt by the lack of clarity on the rights front, the lack of clarity on how the Indian ownership is being calculated. Is that leading to legal stalemates at this point of time?

Diwanji: So, are there legal stalemates because projected timeframes have been exceeded, yes. Because are they legal stalemates because of these two specific issues, no, not yet. But the fact is what was supposed to happen eight years back has happened eight later. Many insurance companies had to do many different things to grow businesses. A lot of that has come back and impacted agreements. So, interpretations of agreements that have played in a lot of cases in terms of how some of these triggers will get impacted, what will be the compensation for the domestic partner, what kind of valuation implications, some of that is big.

Doshi: Are you seeing Indian partners use this lack of clarity to their advantage?

Diwanji: Yes.

Doshi: Insurance throws up a beautiful illustration. The Indian promoters must have at least 26 percent, the remaining 25 percent of the 51 percent that must be Indian can be held by diverse Indian entities with no entity owning more than 10 percent. The foreign partner cannot have more than 49 percent. So, technically you are in a situation where the foreign partner is the single largest shareholder at 49 percent but does not have rights commensurate to that. The Indian partner may reduce his stake to 26 percent, sell to other Indian investors or private equity etc but will still have control. Isn't this absurd?

Diwanji: It is weird. The whole insurance FDI opening up has actually been quite illogical in a period of time. First of all why was there a restriction on insurance and then we have complete open policies on banking and how is insurance any different? When you says that insurance secures life of people banking holds the savings. So, if there was no fuss in banking why was there a fuss in insurance and frankly every regulation in insurance that I see, I see it as some kind of political compromise which is not ultimately thought through and which leads to illogical decisions.

Well, that is the story India’s FDI policy! I’d like to end by pointing out that I spoke to 6-7 indian insurance companies and not one agreed to an interview. They were simply too scared to publicly criticise the government or jeopardise their pending applications. And that is more worrying than vague FDI policies!


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