Sectoral cap spoilsport for foreign investors

Some large-cap stocks may have limited head room for the new class of foreign retail investors

Some large-cap stocks may be out of bounds for the direct foreign route recently opened by the government. The new class of investors may have to buy these from existing foreign investors at a premium to the market rates, say analysts. In sectors like banking, telecom and real estate, there are composite sectoral caps under the existing foreign direct investment (FDI) policy.

According to RBI guidelines released last week, the limits for qualified foreign investors (QFIs) investment in equity shares shall be within such overall FDI sectoral caps. While the individual and aggregate investment limits for QFIs is set at five per cent and 10 per cent, respectively, of the paid-up capital of an Indian company, investors may not be able to avail these in a few companies and only a part of this limit in others.

Foreign investments in private sector banks have been capped at 49 per cent. Any further increase would require express permission from the RBI. In state-owned banks, the cap is 20 per cent. In telecom, this is capped at 49 per cent.
 

LIMITED HEADROOM Stake in %
	Foreign holdings*	ADR & GDR
Top 5 private banks
ICICI Bank	34.86	26.52
YES Bank	49.23	—
IndusInd Bank	35.22	13.86
HDFC Bank	29.67	17.33
Federal Bank	41.19	2.25
Top 5 public sector banks
Punjab Natl.Bank	18.76	—
Bank of India	15.23	—
Bank of Baroda	13.61	—
Canara Bank	13.55	—
Andhra Bank	13.09	—
* Non-promoters as per latest shareholding pattern  Compiled by BS Research Bureau ADR:American depository receipt, GDR:Global depository receipt

In many banks, foreign entities already hold substantial stakes close to the FDI limit, according to the Business Standard Research Bureau. In YES Bank, foreign non-promoter holding is 49 per cent. In ICICI Bank, it is 38 per cent. In addition, 26 per cent is held by the custodian on account of overseas depositary receipts.

In public sector banks, Punjab National bank and Bank of India already have over 15 per cent held by foreign investors. Manish Bhandari, managing partner & CEO, Vallum Capital, said, “You cannot circumvent FDI limits. This could open the way for block trades on premiums among foreign investors.” Even now, he notes, there are off-market deals that take place at a premium in the case of state-owned banks. “Every now and then, you see deals in these counters at a two-three per cent premium over market rates. Such deals will now begin in the QFI counters. The move has a huge potential,” he added.

The onus of monitoring and compliance of these limits shall remain jointly and severally with the respective QFIs, Depositary Participants and the respective Indian companies, the RBI circular released last week said.

Sonam H Udasi, head of research, IDBI Capital, also agreed that the FDI cap would come into play. “That is true. But this is a long-term measure aimed at widening the investor base. At present, we are too dependent on short-term money. This money which would come from retail could be stickier.”

Foreign investments are already allowed under multiple routes. Foreign direct investment is allowed under the automatic and approval route. The government has prescribed rules and limits under the FDI policy for such strategic investments.

In addition to this, the central bank allows portfolio investments under two categories — foreign institutional investors (FII) and non- resident Indians /persons of Indian origin (NRI/PIO).

Each category is permitted to invest up to 10 per cent in a company. In the case of foreign companies or high net worth individuals (HNIs) registered as sub-accounts of an FII, their investment shall be restricted to five per cent of the paid-up capital of the Indian company. All FIIs and their sub-accounts taken together cannot acquire more than 24 per cent of the paid-up capital of an Indian company. The latter can raise the 24 per cent ceiling to the sectoral cap/statutory ceiling, as applicable, by passing a resolution by its board of directors, followed by passing of a Special Resolution to that effect by their general body. Similarly, NRI/PIO limits can also be raised up to 24 per cent via shareholder resolution. The RBI circular is silent on any such extension for the QFI route.

In addition to these routes, there is also foreign investment by QFIs through Indian mutual funds.

Hansi Mehrotra, an independent consultant who specialises in foreign investments, said more clarity was needed on how these different limits would be monitored and managed.“What happens if FIIs invest in mutual funds under the QFI route? Also, it is not clear if rules in foreign countries freely allow investments into Indian shares. In addition to these technical issues, the larger question is how to market these stocks to the foreign retail investor,” she said.