Is there real restriction on manufacturers selling products online?

The question that comes to mind is that if FDI in manufacturing is already under the automatic route, was there any real restriction on such manufacturers selling products online?
Is there real restriction on manufacturers selling products online?

By Vivek Sriram and Nayantara Kutty

The question that comes to mind is that if FDI in manufacturing is already under the automatic route, was there any real restriction on such manufacturers selling products online?

Over the last few months, the Department of Industrial Policy & Promotion (DIPP), which is the nodal agency for foreign direct investment (FDI) in India, has been expressing concerns on the previous Budget proposal made by the FM, on the ground that permitting manufacturing units with FDI to sell online would shift focus from brick-and-mortar stores, which, in their view, generate more employment.

The Hon’ble Finance Minister of India, Arun Jaitley had stated in his Budget speech last year: “FDI in the manufacturing sector is today on the automatic route. The manufacturing units will be allowed to sell its products through retail including eCommerce platforms without any additional approval”.

The announcement was met with cheer in the industry. It created a lot of news stating that the announcement was a big step towards liberalising the hugely attractive Indian e-commerce sector, and as a step towards providing much needed impetus to the Indian manufacturing sector.

Further, as per the said news reports, the DIPP has also allegedly stated that permitting manufacturing units with FDI to sell through online platforms would permit them to engage in single and multi-brand retailing, and avoid restrictions otherwise applicable to offline single brand and multi-brand retail trading.

The irony of FM’s aforesaid statement in the budget speech lies within itself. Therefore, the question that comes to mind is that if FDI in manufacturing is already under the automatic route, was there any real restriction on such manufacturers selling products online?

The (Indian) Foreign Direct Investment Policy (FDI Policy) does not per se prohibit manufacturers from directly retailing to consumers, and only appears to restrict/ prohibit ‘retail trading’, either by way of eCommerce or otherwise; and there has never been a restriction on manufacturers from directly selling their products to end customers. Therefore, the question arises as to whether the Budget speech of the FM has actually opened up an otherwise settled position under Indian law, thereby creating uncertainty in the mind of foreign investors and other stakeholders.

It would be noteworthy that Indian foreign exchange regulations had always only prohibited FDI in ‘retail trading’, and not retailing, simpliciter. Further, as per the said regulations, 100% FDI is permitted in setting up eCommerce activities engaged in B2B eCommerce and not in retail trading. Therefore, on the face of it, so long as an Indian company with FDI does not engage in “retail trading”, and merely retails its products simpliciter to end customers, the FDI Policy does not appear to prohibit such an activity.

In this regard, the term ‘trading’ has been defined in Black’s Law Dictionary to mean “the business of buying and selling, esp. of commodities and securities”. Therefore, so long as an Indian company with FDI does not engage in buying and selling of goods, but if such company only engages in manufacturing of products and then, as a natural corollary of such manufacturing activity, directly sells the said products to end customers, there does not appear to be any apparent restriction / prohibition prescribed under the FDI Policy.

The FDI Policy defines eCommerce as “eCommerce activities refer to the activity of buying and selling by a company through the eCommerce platform. Such companies would engage only in Business to Business (B2B) eCommerce and not in retail trading, inter-alia implying that existing restrictions on FDI in domestic trading would be applicable to eCommerce as well.”

Therefore, as can be seen above, the aforesaid definition of eCommerce refers to the activity of ‘buying and selling’ through an e-commerce platform, and it is the act of buying / procuring / sourcing goods from third parties and selling the same to end customers through an eCommerce platform, that is currently prohibited under the FDI Policy.

When a company engages in manufacturing activities, such a company is primarily a ‘manufacturing’ company and the foreign exchange regulations permit 100% FDI in manufacturing activities under the automatic route (barring some specific sector such as Defence or items reserved for production by the Micro and Small Enterprises). Most manufacturing companies would sell their products through retail distribution networks rather than having direct consumer interface. But that does not mean that they were prohibited to sell through direct channels themselves.

Currently, the FDI Policy does not appear to prohibit/ restrict companies in India which are manufacturers, from selling their products to end customers, irrespective of whether such sales are undertaken offline or online. Therefore, manufacturing goods and then marketing and/ or selling the same to end-use consumers would not fall within the meaning of ‘retail trading’. A similar view appears to have been adopted by the Finance Secretary, wherein, he had stated that the announcement by the FM was only a clarification of the existing law, and the restriction on eCommerce under the FDI Policy applies only to trading companies, which have not been referred to in the Budget speech.

Although the position under law appears to be quite clear that manufacturing companies can retail online, the manner in which the Budget speech was worded, and the consequent news reports relating to the DIPP’s alleged objection to permitting manufacturers to retail online, appears to have created some degree of confusion on the manner in which the regulatory authorities would view the permissibility of FDI in manufacturers who retail their products online.

So far, neither the Central Government nor the DIPP has issued any statements or clarifications, to clarify the Government’s position on the permissibility of FDI in manufacturers who sell their products online, thereby permitting the said ambiguity to continue. Foreign investors who intend on setting up manufacturing entities in India, and propose to directly retail their products through their own online platform should be mindful of the anomaly raised by the Budget speech. It would be helpful if the Government clarifies this ambiguity soon.

By Vivek Sriram, Senior Associate, Khaitan & Co. and Nayantara Kutty, Associate, Khaitan & Co.

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