India: Foreign investment reforms in e-commerce 2016

Introduction

In order to clarify uncertainty as to the rules surrounding India’s developing e-commerce sector, the Department of Industrial Policy and Promotion (“DIPP”) released guidelines on 29 March 2016, which clarified the position for foreign direct investment (“FDI”) in the industry (the “Guidelines”).

The Guidelines, which were given immediate effect, set out the following basic rules (some of which were already contained in the Consolidated FDI Policy Circular 2015):

1. for entities who operate in business to business (“B2B”) e-commerce, 100% FDI is permitted (subject to cash and carry and wholesale trading restrictions set out in the 2015 Circular); and
2. for entities who operate in business to consumer (“B2C”) e-commerce: a. no FDI is permitted for entities which own inventories of goods and services and seek to sell these goods and services directly to consumers (the “Inventory Model”); and b. subject to a number of clarifications, requirements and restrictions, 100% FDI via the automatic route is permitted for entities which provide a technology based platform, acting as facilitator between buyers and sellers (the “Marketplace Model”).

Background

India’s e-commerce sector has evolved rapidly in recent years as a result of a number of changes which have taken place within the economy. The marked increase in disposable income of India’s growing middle class has resulted in a new demand for branded goods and cheap online deals. The increasing prevalence of debit and credit cards alongside more secure online payment options means that more of the population are choosing to shop online. This is helped by India’s favourable demographics, where around half of the population is below 24 years of age. These developments have resulted in an online marketplace which Bank of America Merrill Lynch has predicted will have a combined annual gross merchandise value of around US$220bn by 2025, making India a hub for a number of foreign e-commerce companies which are looking to invest (or to increase existing investments). Government support for the FDI led development of the sector is evident through two initiatives, the Made in India campaign and the Digital India Initiative, which seek to make India a ‘digitally empowered society’ and a top destination for FDI.

Despite the opening up intention behind Government campaigns, limitations on FDI have been retained in the Guidelines in order to ensure that e-commerce does not subsume the position of traditional brick and mortar retailers.

The Guidelines

Clarification of common terms

The Guidelines set out some simple clarifications to definitions, allowing entities operating in the sector to have more certainty as to the specific application of the rules contained therein. ‘E-commerce’ has been widely defined to mean the buying and selling of goods and services including digital products over digital and electronic networks. Similarly, under the Guidelines, ‘digital and electronic networks’ includes networks of computers, television channels and other internet applications such as web pages, extranets and mobiles, thereby giving the Guidelines a wider remit than initially perceived.

Detail on the Marketplace Model

Alongside the basic rules set out above for the application of the Inventory Model and the Marketplace Model, the Guidelines provide further detail as to activities which are permitted, required and restricted by e-commerce providers operating under the Marketplace Model.

Permitted activities

The Guidelines clarify activities which Marketplace Model e-commerce providers may undertake, including providing support to sellers using their platforms by assisting with warehousing, logistics, order fulfilment, call centres and payment collection and by facilitating payments for goods sold via the marketplace.

Required activities

Companies operating under the Marketplace Model are required to clearly provide the name, address and contact details of sellers using their platforms. Sellers, rather than marketplace providers, remain responsible for the delivery of goods to customers, customer satisfaction, warranties and guarantees for goods and services sold.

The Marketplace Model has been criticised in the past for the poor quality of services received by customers. This has been attributed to the limited role of marketplace providers in transactions between buyers and sellers using their platforms. Whilst the required activities set out in the Guidelines seek to ensure that there is more clarity as to the division of responsibility for quality control purposes between sellers and the marketplace providers, the exact situations in which marketplace providers will be held liable remain unclear.

Restricted activities

Marketplace providers are prohibited from:

a. owning the inventory being sold on the marketplace (doing so would result in the provider being regarded as using the Inventory Model, where FDI is not allowed);

b. allowing more than 25% of the sales through the platform to be made by a single vendor or vendor’s group of companies; and

c. directly or indirectly influencing the sale price of goods and services.

Companies currently operating under the Marketplace Model and investors looking to enter the market are likely to be most affected by the prohibition against more than 25% of a marketplace’s sales being made by a single vendor. It seems this restriction was put in place to prevent marketplace providers from establishing seller entities (in which the provider holds a substantial equity interest) from selling on the marketplace, thus allowing the provider to circumvent previous regulations and use what is effectively an Inventory Model.

Providers will also need to ensure that by discounting, they do not influence the price of goods and services. E-commerce market providers will most likely have to analyse their seller base and the effect of pricing structures in order to ensure compliance with the Guidelines.

The Guidelines in practice

To date, the market has been dominated by four big names: Jabong, Snapdeal, Flipkart and Amazon. Of the four, Flipkart and Snapdeal were established in India with funding from external sources and Amazon has invested around $2bn to establish its position in the market. Jabong, which was established in India with local investment, is likely to be able to use both the Inventory Model and Marketplace Model under the Guidelines.

Whilst further restrictions are placed on e-commerce providers using the Marketplace Model, the clarity offered by the Guidelines is likely to have the effect of encouraging FDI in the growing e-commerce sector and may result in the above companies looking for further foreign investment.

For a copy of the Guidelines, click here.


Co-contributed by Jessica Morris.