Online retailers under lens for possible breach of FDI policy

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SummaryThe government and regulators suspect that foreign direct investment is flowing surreptitiously into the business-to-consumer segment of the e-commerce sector where FDI is banned.

The government and regulators suspect that foreign direct investment (FDI) is flowing surreptitiously into the business-to-consumer (B2C) segment of the e-commerce sector where FDI is banned. The finance ministry, the department of industrial policy and promotion (DIPP) and the Registrar of Companies (RoC) have taken upon themselves the task of verifying this.

A possible outcome could be shifting FDI inflows in the warehousing segment (B2B) from automatic to the “approval route”.

Meanwhile, the Reserve Bank of India is learnt to have sent notices to leading e-retail firms seeking details of their operations — both front-end and back-end — along with the source and deployment of foreign funds.

FDI worth $1 billion (over R5,000 crore) has apparently flown into the back-end of the country’s fledgling e-commerce sector. The reported size of the industry — R8,000 crore in terms of turnover — doesn’t quite match with this, necessitating a scrutiny of the structure of the industry.

Sources told FE that the government would soon start a thorough scan of existing as well as new e-commerce ventures and formulate a comprehensive policy.

Prominent e-retailing (B2C) ventures include Flipkart, Snapdeal, Myntra and Jabong. The government allowed up to 100% FDI in B2B e-commerce in 2006 while restricting FDI in multi-brand retailing. As a result, all these successful e-retailers set up two business ventures — one in the B2B segment for attracting FDI, and the other in B2C segment for e-retailing. However, now the government intends to probe these very ventures to see if there are any violations of FDI norms.

“The need for a close scrutiny of the e-commerce companies’ accounts follows their questionable structures. The retail (or front-end) entity is seen as a mere ‘pass-through’, while all the operations happen at the back-end (wholesale) entity which rakes in all the profits,” an official said, requesting anonymity. “While up to 100% FDI through automatic route is permitted in the back-end of e-commerce (warehousing), if need be, the norms can be tweaked to involve government approval for proposals up to a certain threshold, if there is sufficient evidence to support any wrong-doing or violation,” the official said.

The departments concerned will shortly meet to discuss the issue.

The RBI, in its notice sent prior to the government's recent move to permit 51% FDI in multi-brand retail, also sought to know how these companies would be complying with the FDI policy on the retail sector.

The government had recently notified its decision to allow 51% FDI in multi-brand retail with some riders. However, the notification specifically states that retail trading in any form by means of e-commerce would not be permissible for companies with FDI engaged in multi-brand retail trading. Officials in DIPP said the move will help the government to keep a tab on the foreign investments already made in e-retailing ventures while checking any new ventures. “Clarifications regarding FDI in e-commerce may be incorporated in future notifications,” said an official.

Lawyers said any scrutiny by the officials and talk of a new regulatory regime could affect the fund-raising activities of these companies.

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