Report of the Committee to Review the FCCBs and Ordinary Shares (Through Depository Receipt Mechanism) Scheme,
May, 19th 2014
Report of the
Committee to Review the FCCBs and Ordinary
Shares (Through Depository Receipt Mechanism)
Ministry of Finance
Government of India
Acknowledgement . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . iv
Executive Summary . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . vi
1 Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 3
1.1 Constitution of the Committee 3
1.2 Process followed 3
1.3 Scope of work 3
1.4 Structure of the report 4
2 Background . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 5
2.1 Access to international capital markets 6
2.2 Depository Receipts 6
2.2.1 Classification of Depository Receipts . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6
2.2.2 Why issue DRs? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 8
2.2.3 Why invest in DRs? . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9
2.3 Understanding the Scheme 9
2.3.1 Legal basis of the Scheme . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 10
2.3.2 Evolution of the Scheme . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 11
2.3.3 Issue process . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 12
2.4 Market for depository receipts and the domestic market 13
2.4.1 Law of one price . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13
2.4.2 Competition . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
2.4.3 Market abuse . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 14
2.5 Need for review of the Scheme 14
2.5.1 Recent legislative developments affecting financial markets . . . . . . . 14
2.5.2 The current state of the macroeconomy and financial markets . . . . . 16
2.5.3 Market abuse and money laundering . . . . . . . . . . . . . . . . . . . . . . . . . . 17
2.5.4 Needs of Indian companies and foreign investors . . . . . . . . . . . . . . . . 20
2.5.5 Need for simplification and clarity of the Scheme . . . . . . . . . . . . . . . . . 21
2.6 Policies in overseas jurisdictions 21
3 Guiding principles . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 25
3.1 Contemporary policy thinking 25
3.2 Capital markets to support the real economy 26
3.3 Barriers to accessing global capital 27
3.3.1 Regulatory constraints . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 27
3.3.2 Home bias . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 28
3.4 Market regulation to address market failure 29
3.5 Enforcement over prohibition 31
3.6 Harmonising depository receipts with capital controls 31
4 Issues and policy directions . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33
4.1 Who can provide the underlying securities? 33
4.2 Who can subscribe to depository receipts? 34
4.3 What should be the underlying securities? 35
4.4 What is the limit on issue of depository receipts? 36
4.5 Who can issue depository receipts? 36
4.6 Who can be a domestic custodian? 37
4.7 What should be the conversion ratio? 37
4.8 For what purpose can depository receipts be issued? 38
4.9 Where can depository receipts be issued? 38
4.10 Should depository receipts necessarily be listed? 39
4.11 How should underlying securities be priced? 41
4.12 Is approval necessary for issue of depository receipts? 41
4.13 Should depository receipts form part of public shareholding? 42
4.14 Should depository receipts have voting rights? 43
4.15 How to deal with public shareholding for unsponsored issues? 45
4.16 How should depository receipts be taxed? 46
4.17 How to deal with market abuse? 47
4.18 How to deal with money laundering? 49
4.19 What should be the enforcement mechanism? 50
4.20 Which law/authority should govern issue of depository receipts?50
5 Conclusion . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 53
5.1 Principles 53
5.2 Recommendations 54
5.3 The Depository Receipt Scheme, 2013 56
5.4 Implementing the scheme 62
5.5 Further areas of work 64
Bibliography . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 65
Annexure-A: Ministry of Finance order dated Septem-
ber 23, 2013 constituting the Committee . . . . . . . . . . . . . 75
Annexure-B: List of stakeholders who engaged with the
Committee . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 79
Annexure-C: Issue of Foreign Currency Convertible Bonds
and Ordinary Shares (Through Depository Receipt Mech-
anism) (Amendment) Scheme, 2013 . . . . . . . . . . . . . . . . . . 81
Annexure-D: The Depository Receipts Scheme, 2013 85
ADR American Depository Receipt.
CDSL Central Depository Services (India) Limited.
DIPP Department of Industrial Policy and Promotion.
DR Depository Receipt.
ECB External Commercial Borrowing.
ED Enforcement Directorate.
EGM Extraordinary General Meeting.
EIC Economic Intelligence Council.
ETF Exchange Traded Fund.
FATF Financial Action Task Force.
FCCB Foreign Currency Convertible Bond.
FDI Foreign Direct Investment.
FEMA Foreign Exchange Management Act, 1999.
FII Foreign Institutional Investor.
FIPB Foreign Investment Promotion Board.
FIU Financial Intelligence Unit.
FMC Forward Markets Commission.
FSLRC Financial Sector Legislative Reforms Commis-
GDP Gross Domestic Product.
GDR Global Depository Receipt.
ICSI Institute of Company Secretaries of India.
IDR Indian Depository Receipt.
IOSCO International Organization of Securities Commis-
IPO Initial Public Offering.
IST Indian Standard Time.
KYC Know Your Customer.
MMoU Multilateral Memorandum of Understanding.
NIPFP National Institute of Public Finance and Policy.
NSDL National Securities Depository Limited.
NYSE New York Stock Exchange.
OCB Overseas Corporate Body.
OTC Over The Counter.
PAN Permanent Account Number.
PMEAC Economic Advisory Council to the Prime Minis-
PMLA Prevention of Money Laundering Act, 2002.
QFI Qualified Foreign Investor.
QIB Qualified Institutional Buyer.
QIP Qualified Institutional Placement.
RBI Reserve Bank of India.
SEBI Securities and Exchange Board of India.
SEC U.S. Securities and Exchange Commission.
STT Securities Transaction Tax.
TASE Tel Aviv Stock Exchange.
TRAC Takeover Regulations Advisory Committee.
UK United Kingdom.
US United States of America.
The present Scheme governing issue of Depository Receipts (DRs) was designed in
1993, at a time when India's capital markets were substantially closed to foreign cap-
ital. In addition, the domestic financial system was fairly weak at the time. In the
last two decades, the equity market has developed sophisticated market infrastructure
with electronic trading, netting by novation at the clearing corporation, dematerialised
settlement and derivatives trading. Capital controls have been substantially eased in
this period. Many aspects of the Indian legal system have changed substantially. These
developments warranted a fresh look at the Scheme governing DRs. The Committee
thanks the Ministry of Finance, Department of Economic Affairs for the opportunity to
I am grateful to each member of the Committee for his sincere and valuable contribu-
tion which made a difference to the Committee's work: Mr. G. Padmanabhan, Executive
Director, Reserve Bank of India (RBI), Mr. S. Ravindran, Executive Director, Securities
and Exchange Board of India (SEBI), Dr. Ajay Shah, Professor, National Institute of
Public Finance and Policy (NIPFP), Mr. P. R. Suresh, Consultant, Economic Advi-
sory Council to the Prime Minister (PMEAC), Mr. Pratik Gupta, Managing Director,
Deutsche Bank, Mr. Somasekhar Sundaresan, Partner, JSA, and Mr. Sanjeev Kaushik,
Director, Ministry of Finance.
I am thankful to Mr. Ashok Khurana from the Association of Power Producers,
Mr. Debashish Purohit from BAML, Mr. Neil Atkinson, Mr. Vinu Kurian, Mr. Arun
Chatterjee and Ms. Aparna Salunke from BNY Mellon, Mr. Abhishek Agarwal from
Citi, Mr. S. Nagnath from Blackrock Investments, Mr. P.V. Krishna and Mr. Sanjiv Shah
from Goldman Sachs, Mr. Vinay Menon and Mr. Vijay K. Bhojwani from JP Morgan,
Mr. Alastair Walmsley and Mr. Darko Hajdukovic from the London Stock Exchange,
Mr. J.N. Tikku from the Ministry of Corporate Affairs, Mr. Manu J.Vettickan and Mr.
Jitendra Asati from the Ministry of Finance, Mr. H.S. Mohanty from RBI, Mr. V.S.
Sundaresan, Mr. Amit Tandon and Mr. Anjan Patel from SEBI, Mr. Shailesh Pathak
from SREI Infrastructure Finance Ltd., Mr. Ashok Pareek from SREI Capital Markets
Limited as well as Mr. Suresh Senapaty and Mr. Partha Guha Patra from Wipro for
engaging with the Committee and sharing their experiences, concerns and perspectives.
The Secretariat for the Committee, the NIPFP Macro/Finance Group, delivered
outstanding research support as it has been doing to numerous other government projects.
Mr. Pratik Datta, the leader of this team put in tireless efforts and brought in significant
insights into the issues. Mr. Shubho Roy, Mr. Vikram Bahure, Mr. Arjun Rajagopal,
Mr. Suyash Rai, Mrs. Radhika Pandey and Mr. Anirudh Burman of the team brought
knowledge into the work and helped in flawless execution. Mr. Gautam Chand, CEO,
Instanex Capital, helped the research team in understanding the micro-structure of the
DR market. Mrs. Neena Jacob of NIPFP managed the process smoothly and flawlessly.
I acknowledge the support from SEBI, RBI and Institute of Company Secretaries of
India (ICSI) for making their facilities available to the Committee for holding extensive
meetings and extending warm hospitality.
November 26, 2013 M.S. Sahoo
In India's liberalisation of the capital account, one of the first areas of reform was DRs.
In the early 1990s, it became possible for Indian firms to connect with foreign investors
by DR issuance. In the early years, DRs made up the bulk of foreign investment into
When the onshore market was opened up to Foreign Institutional Investors (FIIs),
DR issuance was particularly important as the Indian equity market at that time had
many shortcomings. From 1994 to 2013, key problems of the Indian equity market were
progressively addressed, and in most respects, the onshore equity market is now world
class. It could be argued that the importance of DRs has subsided, now that the onshore
market is of high quality and that FIIs have significant access to it.
DRs, however, remain important for two reasons: competitive neutrality and home
bias. There are two mechanisms through which foreign investors can connect with
Indian firms: foreign investors can come to India and buy shares of Indian firms on the
onshore market, or Indian firms can go to overseas financial centres and sell shares to
foreign investors. From an Indian policy viewpoint, there is no reason to favour one
mechanism over another. Practitioners have views about circumstances under which one
mechanism is more efficient than the other, but there is no reason for policy to favour
The second consideration is home bias. A well established fact of international
finance concerns the excessive weightage given by investors to their own country in port-
folio formation. Indian firms are, on average, at a disadvantage in attracting investment
by global investors on account of home bias. There is significant academic evidence that
overseas listing can reduce home bias against the securities issued by a firm.
There are multiple ways to access international capital markets, the most prominent
being the direct listing route and the DR route. There are concerns about whether the
use of overseas capital markets could adversely impact the domestic capital market. The
extent to which overseas listing could adversely impact upon the domestic capital market
can be debated.
However, regardless of the outcome of that debate, the Committee believes that all
financial policy should be designed so as to assist the requirements of the real sector
including firms and households. If, hypothetically, the requirements of firms are better
served by the global capital market, there is no case for protectionism. Capital controls
could, hypothetically, be used in forging a protectionist response, through which foreign
investors are forced to interact with Indian firms through the onshore market only. This
Committee recommends against such policy strategies. Financial policy should be made
in pursuit of the interests of the economy at large and not the interests of the financial
On the contrary, this report argues that financial development in India will be fostered
by exposing the Indian financial system to greater competition. The Ministry of Finance
has established two formal mechanisms on these concerns: the Standing Council of
Experts on the International Competitiveness of the Indian Financial System, and the
Financial Stability and Development Council, a statutory collegium of regulators which
works on financial development. These two institutional mechanisms will be able to
better diagnose and solve many problems of the Indian financial system by keenly
observing the outcome of competition between DRs and the onshore financial system,
and by undertaking studies that measure differences in cost as seen by end-users.
Improved competitiveness as a response to global competition has come about
in numerous parts of the Indian economy, and the financial sector is no exception.
Indeed, a small number of firms and investors who use DRs could potentially generate
substantial positive externalities for the Indian economy at large, if policy makers
carefully benchmark the costs imposed by the Indian financial system against global best
practice, and undertake policy reforms that result in domestic financial development.
The main strategy of this report is rooted in the principle of competitive neutrality.
The basic structure of Indian capital controls consists of a set of rules about foreign
ownership of equities, corporate bonds, government bonds, etc. As an example, all
foreign investors (put together) are permitted to hold $30 billion of government bonds
through FII investment. This report suggests that DR issuance should be permissible
as long as the grand total foreign investment into Indian government bonds whether
through DRs or through FII investment does not exceed $30 billion.
If firms find issuance and trading at overseas venues is beneficial, a substantial scale
of this activity will come about. If this takes place, an analysis of the consequences of
issuance and trading abroad for the work of financial agencies in India is required. This
requires anticipating how the market failures of finance are modified in a world with
issuance and trading overseas, through which the appropriate and minimal interventions
can be structured. Consumer protection of Indian consumers is not generally a concern
for the Indian authorities as the buyers of DRs are generally foreigners. The areas of
concern lie in corporate governance and market abuse.
Rules about corporate governance need to be broadened to accommodate the pos-
sibility of issuance and trading overseas. This matters for issues such as the takeover
regulations, measurement of public shareholding, etc. The report provides detailed
analysis, and the text of the draft scheme, covering each of these issues.
In a similar fashion, financial agencies that are required to combat market abuse and
financial terrorism need to work in new ways to reflect the continually changing geogra-
phy and mechanisms of financial trading. Some recent SEBI orders have highlighted the
possibility of cross-border malfeasance that results in market abuse within India. The
Committee recommends the strategy of understanding the modus operandi of violators,
and devising new kinds of detection and investigation capabilities in response to the
changes in the economy. This is a superior path for India rather than trying to prevent
changes in the economy. The report has a detailed treatment of how these problems need
to be addressed.
The Committee has evaluated an array of other present or potential restrictions upon
DR programs and does not recommend their use, as they do not address market failures.
Through this, the proposals of this report focus the resources and attention of financial
agencies towards market failures.
The Committee believes that there is no potential market failure as long as the
DRs are issued within the extant capital control regime and in jurisdictions which
are Financial Action Task Force (FATF) and International Organization of Securities
Commissions (IOSCO) compliant. These can be issued on the back of any securities
issued by any issuer, and can be sponsored or unsponsored, they can be for capital
raising or otherwise, they can be through public offer, private placement or any other
manner prevalent overseas, subject only to the condition that Indian investor does not
suffer in any manner and that all the participants have a level playing field.
Two members of the Committee, namely, Mr. G. Padmanabhan and Mr. S. Ravindran
have different views on some aspects. Their views have been presented at appropriate
places in the report.
Chapter 5 of the report concludes with 10 principles and 21 recommendations.
The recommendations are substantially implemented by the draft Depository Receipts
Scheme, 2013 which is placed at Annexure-D. Chapter 5.4 gives an implementation
plan of the 21 recommendations and is followed by adjacent areas where the Ministry of
Finance needs to undertake the next stage of policy reform.
1 -- Introduction
1.1 Constitution of the Committee
The Ministry of Finance constituted a Committee, vide Office Order dated September
23, 2013 (Annexure-A), to review comprehensively the Foreign Currency Convertible
Bonds and Ordinary Shares (Through Deposit Receipt Mechanism) Scheme, 1993 (`the
Scheme'). The Committee initially consisted of seven members, namely, Mr. M.S.
Sahoo, Secretary, ICSI as Chairman of the Committee, and Mr. G. Padmanabhan,
Executive Director, RBI, Mr. S. Ravindran, Executive Director, SEBI, Dr. Ajay Shah,
Professor, NIPFP, Mr. P. R. Suresh, Consultant, PMEAC, Mr. Pratik Gupta, Managing
Director, Deutsche Bank, and Mr. Sanjeev Kaushik, Director, Ministry of Finance,
as Members. The Committee subsequently co-opted as a member, Mr. Somasekhar
Sundaresan, Partner, JSA, who was initially a permanent invitee.
1.2 Process followed
The Committee had three meetings when it consulted the concerned stakeholders, and
delineated the relevant policy issues and deliberated extensively on the same. The delib-
erations of the Committee were informed by the research conducted by its secretariat, the
NIPFP Macro/Finance Group. The research was based on relevant data collected by the
NIPFP Macro/Finance Group from various sources, including some of the stakeholders,
and the contemporary thought as reflected in recent policy decisions and committee
reports. The list of stakeholders who had engaged with the Committee is at Annexure-B.
1.3 Scope of work
Based on the data obtained, the research conducted, the views of the stakeholders and
the consequent deliberations, the Committee decided that in the first phase it will confine
its review of the Scheme in respect of DRs. It decided to engage in a second phase
of research and deliberation on Foreign Currency Convertible Bonds (FCCBs) and
refrained from making any comments on FCCBs in this report. It strongly felt that the
extant Scheme was set in an environment which no more exists today. Hence it decided
to draft a contemporary scheme to replace the extant Scheme.
1.4 Structure of the report
The report is divided into four substantive chapters. The second chapter provides a
background of the Scheme:
· The modes of accessing international capital markets, including through DRs.
· The classification of DRs and their commercial necessity.
· The origin and evolution of the Scheme and how DRs are issued.
· The linkage between DRs and the domestic market.
The chapter concludes with explanations for the need to review the Scheme and
alternative policies regarding the modes of accessing international capital markets
prevailing in other comparable economies.
The third chapter discusses the principles which guided the reasoning of the Com-
· The need to harmonise with contemporary financial policy thinking in India.
· The capital markets should support the real economy.
· In the presence of various barriers to foreign investment, DRs are an attractive
route for foreign investment into India.
· All market regulation must be informed by an analysis of market failures.
· Appropriate regulatory response to potential violations of the law is not prohibiting
market access, but improving detection and investigation capabilities.
· DRs should be subjected to the same capital controls that are applicable to the
The fourth chapter identifies the primary policy issues relevant to the Scheme and
frames each issue as a question. The Committee's corresponding recommendations are
stated in the form of answers, accompanied by an explanation for the same.
The fifth chapter summarises the recommendations of the Committee in respect of
DRs. It encloses a brand new scheme relating to DRs at Annexure-D. It suggests a plan
for implementation of those recommendations that require regulatory modifications.
2 -- Background
Financial markets connect capital from investors to the most productive applications
in firms. Firms seek the lowest possible cost of capital for financing projects. When
low cost capital is available, a larger set of projects are financially viable, and greater
investment takes place. Equity capital from global investors is likely to be cheaper when
compared with domestic sources, as global investors are internationally diversified.
There are two alternative mechanisms through which foreign investors can connect
with firms in India. The first mechanism involves direct participation by foreign in-
vestors in the Indian financial markets. The second mechanism involves participation
by Indian firms in overseas financial markets. Each of these two methods has strengths
and weaknesses. The local market is likely to be more liquid and better at capturing
information about the firm raising capital. The overseas market is easier to access for
many overseas investors.
One important mechanism through which investment in Indian securities takes place
in overseas markets is through DRs. The DR route is attractive to investors because
it offers a combination of simplicity, protection and flexibility, as compared to direct
investment in a foreign market.
Globally, the market for DRs is over 80 years old.1 DRs are now traded on major
international markets, with large investment banks running DR programs. Today, DRs
are no longer used for capital-raising purposes alone. DRs provide a number of strategic,
reputational and risk-mitigation benefits to issuers and investors, and there are markets
for "unsponsored" DRs issued by depository banks without the participation of issuing
companies. DRs may also be created against a variety of other underlying securities
including bonds, Exchange Traded Funds (ETFs) and mutual funds.
This chapter provides some background to the current Scheme. It includes a brief
overview of the role of international capital markets in allocating resources to domestic
firms and modes of accessing international capital markets. Then it looks into the
mechanism of the DR route in details and the motive behind issuing or investing in DRs.
In this context, it summarises the need for review of the present Scheme and concludes
1 The first DR was introduced by JP Morgan in 1927 for the British retailer Selfridges.
with alternative policy options from other comparable economies.
2.1 Access to international capital markets
Firms access international capital markets usually in either of the following ways:
1. Direct listing: A firm can directly list its shares on a foreign stock exchange
abroad. Direct listing can be:
· Primary: A firm not listed on any domestic exchange lists its shares on a
foreign stock exchange. It is subject to only the foreign jurisdiction listing
· Secondary: A firm listed on a domestic exchange subsequently lists its shares
on a foreign stock exchange. It is principally regulated by the rules of its
· Dual primary listing: A firm listed on a domestic exchange subsequently
lists its shares on a foreign stock exchange and is equally subject to the
listing rules of both jurisdictions.
2. Depository receipts: Securities of a firm are deposited with a domestic custodian
in the firm's domestic jurisdiction, and a corresponding "depository receipt" is
issued abroad, which can be purchased by foreign investors. DRs of a firm can be
listed on an exchange or traded in the Over The Counter (OTC) market abroad.
Where the firm has already listed the securities on a domestic exchange, the listing
of its DRs on a foreign exchange is referred to as "cross-listing".
When considering which of these options to pursue, a firm will consider:
· The legal restrictions the firm faces in the home jurisdiction including exchange
controls, capital controls and corporate laws.
· The legal restrictions in the international capital market.
· The economic costs of each mode of access.
In the Indian context, firms are constrained by the capital controls regime and non-
convertibility of the Indian Rupee. In addition, due to legal uncertainty, Indian companies
do not directly list their shares on foreign stock exchanges. Therefore, at present the DR
route is the only viable option for Indian firms to participate in the international capital
markets. This route can be further facilitated and made more accessible to Indian firms
by suitably modifying the regulatory framework and market micro-structure regulating
2.2 Depository Receipts
A DR is a negotiable security issued outside India by a foreign depository on the back
of an Indian security deposited with a domestic Indian custodian in India.
2.2.1 Classification of Depository Receipts
DRs are generally classified as under:
· Sponsored: Where the Indian issuer enters into a formal agreement with the
foreign depository for creation or issue of DRs. A sponsored DR issue can be
2.2 Depository Receipts 7
Capital Raising: The issuer issues new securities which are deposited with
a domestic custodian. The foreign depository then creates DRs abroad for
sale to foreign investors. This constitutes a capital raising exercise, as the
proceeds of the sale of DRs go to the Indian issuer.
Non-Capital Raising: In a non-capital raising issue, no fresh underlying
securities are issued. Rather, the issuer gets holders of its existing securities
to deposit these securities with a domestic custodian, so that DRs can be
issued abroad by the foreign depository. This is not a capital raising exercise
for the Indian issuer, as the proceeds from the sale of the DRs go to the
holders of the underlying securities.
· Unsponsored: Where there is no formal agreement between the foreign depository
and the Indian issuer. Any person other than the Indian issuer may, without any
involvement of the issuer, deposit the securities with a domestic custodian in
India. A foreign depository then issues DRs abroad on the back of such deposited
securities. This is not a capital raising exercise for the Indian issuer, as the
proceeds from the sale of the DRs go to the holders of the underlying securities.
Based on whether a DR is traded in an organised market or in the OTC market, the
DRs can be classified as listed or unlisted.
· Listed: Listed DRs are traded on organised exchanges. The most common
example of this are American Depository Receipts (ADRs) which are traded on
the New York Stock Exchange (NYSE).
· Unlisted: Unlisted DRs are traded OTC between parties. Such DRs are not listed
on any formal exchange.
The most common DR programs internationally are:
· ADRs: DRs issued in United States of America (US) by foreign firms are usually
referred to as ADRs. These are further classified based on the detailed rules under
the US securities laws. The classification is based on applicable disclosure norms
and consists of:
1. Level 1: These programs establish a trading presence in the US but cannot
be used for capital raising. They may only be traded on OTC markets, and
can be unsponsored.
2. Level 2: These programs establish a trading presence on a national securities
exchange in the US but cannot be used for capital raising.
3. Level 3: These programs can not only establish a trading presence on a
national securities exchange in the US but also help raise capital for the
4. Rule 144A: This involves sale of securities by a non-US issuer only to
Qualified Institutional Buyers (QIBs) in the US.2
· Global Depository Receipts (GDRs): GDR is a collective term for DRs issued in
non-US jurisdictions and includes the DRs traded in London, Luxembourg, Hong
2 Rule 144A of the Securities and Exchange Commission, General Rules and Regulations, Securities
Act of 1933, 17 CFR 230.114A, 1933.
2.2.2 Why issue DRs?
Firms may decide to venture beyond their domestic capital market, and seek international
sources of capital. They might choose to do so through DRs for various reasons. These
1. Capital raising: In some cases the size of the offering may be too big for the
domestic market to absorb. For example, YPF, an Argentine oil company, issued
a $3 billion global offering in 1993 as part of its privatisation plan. Since the
Argentine equity market was too small to raise the capital, the firm raised $500
million locally, $2 billion from the US and $500 million from Europe.4 Table 2.1
shows that even firms in advanced economies with developed financial markets
and no capital controls, avail of the DR mechanism.
Table 2.1: Issue of DRs by select advanced economies
Country ADR GDR Others Total
United Kingdom 391 27 0 418
Japan 340 1 1 342
Australia 298 8 0 306
Hong Kong 248 4 0 252
Germany 119 1 2 122
Source: JP Morgan
2. Improved liquidity: Cross-listing broadens and diversifies the pool of investors
who are able to access the securities. This increases the liquidity of the securities,
which in turn may improve their price.5
3. Valuation: By submitting to higher disclosure standards in a foreign jurisdiction,
the company signals that it is of a higher quality than its domestic peers who have
not listed abroad. This may improve the value of the company.
4. Shareholder protection: Listing in a jurisdiction with higher standards of corporate
governance and minority shareholder protection signals the commitment of the
company to protect interests of minority shareholders. This, in turn, lowers the
cost of capital for the company.
5. Bonding: By listing in a jurisdiction where it is more difficult to capture private
benefits of corporate control, promoters and managers signal that they have
"bonded" themselves with the long term interests of the shareholders.6
6. Visibility: Trading on international capital markets provides greater visibility and
has a potential positive effect on the sales of the company's products.
7. Analysts' opinion: A firm that is not subject to regular sophisticated analysis by
the market may be undervalued. Some jurisdictions may not have specialised
3 For further literature on this, see G. Andrew Karolyi, "Why do Companies List Shares Abroad?:
A Survey of the Evidence and Its Managerial Implications", in: Financial Markets, Institutions and
Instruments 7 (1998); Abed Al-Nasser Abdallah and Christos Ioannidis, "Why do firms cross-list?
International evidence from the US market", in: Quarterly Review of Economics and Finance 5 (2010),
pp. 202213; Evangelos Benos and Michael S. Weisbach, "Private benefits and cross-listings in the United
States", in: Emerging Markets Review 5 (2004), pp. 217240.
4 See, Joseph Velli, "American Depository Receipts: An Overview", in: Fordham International Law
Journal 17 (1994).
5 See, Karolyi, see n. 3.
6 See generally, John C. Coffee Jr., "Racing Towards the Top: The Impact of Cross-Listings and Stock
Market Competition on International Corporate Governance", in: Columbia Law Review 102 (2002).
2.3 Understanding the Scheme 9
analysts for the industry in which the firm operates. Thus, some firms may benefit
from exposure to a larger pool of specialised analysts operating in the international
market. This is particularly so for technology stocks.
2.2.3 Why invest in DRs?
From the foreign investor's perspective, DRs are a viable option for investment for the
1. Convenience: DRs trade and settle in the same manner as any other security in
the investor's jurisdiction. The investors pay the same commission rates, and
dividends on the DRs are paid in the currency of the investor. In addition, it
is easier for an investor in London or New York to place orders during regular
trading hours in their own jurisdiction, as opposed to having to place orders in
India. As a result, there is little difference in buying and selling DRs and buying
and selling any other security in the investors' own jurisdiction.
2. Pooling custody fees and foreign exchange costs: Individual foreign investors
may face high custody fees and foreign exchange conversion fees for directly
holding securities in a foreign jurisdiction. By pooling together a number of
foreign investors, the DR issuer can obtain whole-sale rates. This may reduce the
transaction fees that a DR holder pays.
3. Market infrastructure: The financial market system in emerging economies may
suffer from problems, and an investor may feel safer operating in the US or in
4. Capital controls: A foreign investor operating in the US or the United Kingdom
(UK) does not face capital controls or source-based taxation, or other impediments
that are featured in many emerging markets.
5. Legal responsibility: An investor in New York may feel more comfortable relying
on the legal protections available in the investor's own jurisdiction. These may be
more accessible and effective than protections available abroad.
DRs thus offer advantages to both issuers and investors, relative to other instruments.
They are a useful vehicle for efficiently channeling capital from international investors
to domestic companies, and may provide additional reputational and risk mitigation
benefits to both.
An important problem that DRs help address is that of home bias. The most basic
fact about financial globalisation is the extent to which it is, as yet, incomplete. Most
investors around the world over-invest in their home country and under-invest overseas.
To the extent that DRs alleviate home bias, they help companies in emerging markets
access lower cost capital.
2.3 Understanding the Scheme
The Scheme was introduced on November 12, 1993, as one of several moves to open
the country's capital account and generate inflow of foreign currency. The Scheme has
evolved over time, tightening and clarifying some restrictions while easing others, but
overall following a trend of gradual liberalisation. This section traces the evolution
of the Scheme through various stages of modification and liberalisation, to its current
2.3.1 Legal basis of the Scheme
Section 6(3)(b) read with section 47 of the Foreign Exchange Management Act, 1999
empowers the RBI to prohibit, restrict or regulate the transfer or issue of securities by
a person resident outside India. Accordingly, RBI issued FEMA 20 which permits an
Indian company to issue its rupee denominated shares to a depository (person resident
outside India) for the purpose of issuing GDRs or ADRs, subject to meeting the following
1. The Indian company has approval from Ministry of Finance to issue DRs or is
eligible to issue DRs in terms of the relevant scheme in force or notification issued
by Ministry of Finance.
2. The Indian company is not otherwise ineligible to issue shares to persons resident
outside India under FEMA 20.
3. The DRs are issued in accordance with the scheme and guidelines issued by the
Central Government thereunder from time to time.
The Scheme, framed by Ministry of Finance derives its legal force today from
requirements 1 and 3 above.8
Some other laws governing the DR market are:
· Companies Act, 2013: defines `global depository receipt' to mean any instrument
in the form of a depository receipt, by whatever name called, created by a foreign
depository outside India and authorised by a company making an issue of such
depository receipts.9 It gives the Central Government the power to make rules
regarding the manner and condition of issue of such DRs in any foreign country.10
This provision is an additional source of legal authority governing the issue of
· Income Tax Act, 1961: provides for tax on income of a non-resident assessee
1. interest on bonds of an Indian company;
2. dividends on DRs.
It specifically mentions that such DR issue must in be in compliance with any
scheme notified by the Central Government. This creates an additional power for
the Central Government to make regulations on DRs.
7 SeeRegulation 4, Schedule I, of Reserve Bank of India, Foreign Exchange Management (Transfer
or issue of security by a person resident outside India) Regulations, 2000, Notification No. FEMA
20/2000-RB dated 3rd May 2000, May 17, 2000.
8 The issue of legal validity of the Scheme after its issue in 1993 till before the Foreign Exchange
Management Act, 1999 came into force may be merely of pedantic interest today. However, the origin of
the legal power to issue this Scheme during this period can be traced back to Article 73 of the Constitution
of India which makes the executive power of the Union co-extensive with the legislative powers of the
Parliament, subject to restrictions mentioned therein. For further discussions on the executive power of
the Union under this Article, please refer to Supreme Court of India, Rai Sahib Ram Jaway Kapur v. The
State of Punjab, All India Reporter 1955 Supreme Court 549.
9 See section 2(44), Companies Act, 2013.
10 See sections 2(66), 41 and 469(1), ibid.
11 See section 115AC(1), Income Tax Act, 1961.
2.3 Understanding the Scheme 11
2.3.2 Evolution of the Scheme
Table 2.2 traces the major changes that have been made to the Scheme since its inception.
These changes were primarily aimed at:
· Expanding or contracting the pool of companies that could issue DRs for capital
· Harmonising the DR regime with the broader regulatory system in the country, in
particular the Foreign Direct Investment (FDI) policy and existing capital controls.
· Developing the linkages between the international market for DRs and the domes-
tic capital market.
Table 2.2: Evolution of the Scheme
The Scheme was notified with effect from April 1, 1992.
November 12, 1993
Companies required a track record of good performance.
May 22, 1998 Unlisted companies to comply with domestic listing conditions within
three years of making profit.
June 23, 1998 DR linked employee stock options permitted for software companies.
March 2, 2001 Two-way fungibility permitted subject to guidelines to be announced by
Companies permitted to sponsor DR issue at a price determined by lead
July 29, 2002 manager.
All shareholders of a company would get opportunity to offer shares
against which the DRs would be issued.
Such issues need to conform with FDI policy.
Companies ineligible to access capital markets made ineligible to issue
August 31, 2005 Unlisted companies issuing DRs to simultaneously list underlying
shares on Indian exchange.
Introduced pricing guidelines for such DR issue based on prevailing
price of the underlying share on the Indian exchange.
Erstwhile Overseas Corporate Bodies (OCBs) prohibited from buying
Pricing of DRs against shares of unlisted companies as per RBI regula-
September 14, 2005 Exempted unlisted companies from simultaneous listing if they had
taken verifiable effective steps and completed issue by December 31,
Companies doing a domestic offering and a simultaneous follow on DR
November 17, 2005
offering abroad exempted from pricing norms.
Such companies must price DRs at or above domestic price. Such com-
panies needed approval for such issue from SEBI.
November 27, 2008 Pricing norms for issue of DRs aligned with pricing norms by SEBI for
Qualified Institutional Placements (QIPs).
Unlisted companies allowed to raise capital abroad by issuing DRs with-
out undergoing simultaneous listing.
Such DRs must be listed in IOSCO and FATF compliant jurisdictions.
October 11, 2013
Such companies must comply with SEBI disclosure norms.
Raising of capital abroad must be complaint with FDI norms.
2.3.3 Issue process
The Scheme operates in a framework comprising of laws on companies, securities, for-
eign exchange, taxation, money laundering and market abuse. Over time, this framework
has resulted in the creation of a market micro-structure around the issue of DRs. This
section explains the steps involved in the issue of capital raising ADRs or GDRs by an
Indian issuer company against its shares, under the present Scheme in conjunction with
the existing market micro-structure:
1. The Indian issuer company must:
(a) convene a board meeting to approve the proposed DR issue not exceeding a
certain value in foreign currency;
(b) convene an Extraordinary General Meeting (EGM) for the approval of the
shareholders for the proposed DR issue under section 81(1A) of the Compa-
nies Act, 1956;
(c) identify the agencies whose participation or permission it would require for
the DR issuance;
(d) convene a board meeting to approve the agencies;
(e) appoint the agencies and sign the engagement letters.
2. The Indian legal counsel must undertake the due diligence.
3. The Indian issuer company must draft the information memorandum in consul-
tation with the Indian legal counsel and submit the same to various agencies for
their comments and then finalise it.
4. The listing agent must submit the information memorandum to the overseas stock
exchange for their comments and in principle listing approval.
5. The Indian issuer company must simultaneously submit the draft information
memorandum to the Indian stock exchanges where the issuing company's shares
are listed for in principle approval for listing of the underlying shares.
6. The Indian issuer company must hold a board meeting to approve the issue.
7. Pursuant to steps 4 and 5, on receipt of the comments on the information memo-
randum from the overseas and Indian stock exchanges, the Indian issuer company
must incorporate the same and file the final information memorandum with the
overseas and Indian stock exchange and obtain final listing.
8. The Indian issuer company can open the issue for the DR on receipt of the in
principle listing approval from the overseas and the Indian stock exchanges.
9. The Indian issuer company must open the escrow account with the escrow agent
and execute the escrow agreement.
10. The Indian issuer company, in consultation with the lead manager (merchant
banker), must finalise:
(a) Whether the DRs will be through public or private placement.
(b) The number of DRs to be issued.
(c) The issue price.
(d) Number of underlying shares to be issued against each DR.
11. On the day of the opening of the issue, the Indian issuer company must execute
the deposit and subscription agreements.
12. The issue should be kept open for a minimum of three working days.
13. Immediately on closing of the issue, the Indian issuer company must convene a
board or committee meeting for allotment of the underlying shares against the
2.4 Market for depository receipts and the domestic market 13
issue of the DRs.
14. The Indian issuer company must deliver the share certificate to the domestic
custodian bank who will in terms of the deposit agreement instruct the overseas
depository bank to issue the DRs to non-resident investors against the shares held
by the domestic custodian bank.
15. On receipt of listing approval from the overseas stock exchange, the Indian issuer
company must submit the required documents for final in principle listing approval
from the Indian stock exchange.
16. After DRs are listed, the lead manager must instruct the escrow agent to transfer
the funds to the Indian issuer company's account.
17. The Indian issuer company can either remit all or part of the funds, as per its
18. On obtaining the final approval from the Indian stock exchange, the Indian issuer
company can admit the underlying shares to the depository, that is, National
Securities Depository Limited (NSDL) or Central Depository Services (India)
19. The Indian issuer company must obtain trading approval from the stock exchange.
20. The Indian issuer company must intimate the custodian for converting the physical
shares into dematerialised form.
21. Within 30 days of the closing of the DR issue, details of the DR issue along with
the information memorandum should be submitted to various authorities.
22. Return of allotment is to be filed with Registrar of Companies within 30 days of
23. Indian issuing company is to file a specified format annexed to Schedule I, FEMA
20 with RBI, Central Office within 30 days of closure of the DR issue.
24. The Indian issuing company is to file a quarterly return in a specified format
annexed to Schedule I, FEMA 20 within 15 days of the close of the calendar
2.4 Market for depository receipts and the domestic market
As tradeable financial instruments, DRs cannot be considered in isolation but must
be evaluated in the context of the broader financial market and the existing market
micro-structure. Like any other asset, DRs create strategic opportunities for issuers and
investors, and may induce larger structural changes in the market itself. These potential
effects are described below.
2.4.1 Law of one price
The law of one price should hold for DRs and their underlying shares, since they
represent the same asset. This is achieved through an active arbitrage business which
notices failure of the law of one price and prompts arbitrage transactions to reduce the
pricing error. The establishment of a vibrant arbitrage business is the work of the private
Policy makers need to establish the enabling framework through which arbitrage is
frictionless and delivers efficient pricing. Capital controls and other trading frictions can
interfere with arbitrage and result in violations of the law of one price.12 As an example,
rules about two-way fungibility of DRs have a major impact upon the feasibility of
arbitrage. In addition, expanding the pool of investors who have access to the asset and
can trade it, makes the market for the asset more liquid, and allows smaller pricing errors
to be arbitraged.
Allowing Indian firms to list on foreign exchanges will expose Indian capital markets to
global competition. Indian exchanges and financial intermediaries will be under greater
pressure to provide Indian firms with world-class platforms, in which transaction costs
are low, with rules that are predictable and enforceable. Doing so will attract and benefit
investors and issuers, both domestic and foreign, who seek to conduct business with
clarity and confidence, while minimising opportunities for regulatory arbitrage.13 A
more detailed discussion of this is presented in Chapter 3.2.
The entire Indian financial market system will come under competitive pressure.
This includes private firms and the government. Rational rules, enforced in efficient
ways, will encourage business to take place in India. This is similar to the evolution of
tradeables after Indian trade reform.
2.4.3 Market abuse
Recent incidents have shown that the DR route may be used to commit market abuse
in India. At the same time, imposing stricter regulations on Indian firms who wish to
participate in the international capital market will increase their cost of capital. The
regulations must strike a balance between these two. A more detailed discussion of the
principles for dealing with market abuse is presented in Chapter 3.5.
2.5 Need for review of the Scheme
The analysis above shows how the Scheme has evolved since its inception to meet the
demands of Indian firms in participating in the international capital markets. However
several developments suggest that the Scheme needs a comprehensive review keeping in
view, as per the terms of reference of the Committee:
· the new company law and recent legislations in the financial markets.
· the current state of the macro economy and the financial markets.
· the needs of the Indian companies and foreign investors.
· the need for simplification and legal clarity of the Scheme.
2.5.1 Recent legislative developments affecting financial markets
There have been considerable changes in the legal and regulatory environment in recent
years. The Scheme has not kept pace with these developments. This section highlights
12 For an analysis of violations of the law of one price with ADRs issued by Indian companies,
see, Matthew Stigler, Ajay Shah, and Ila Patnaik, "Understanding the ADR premium under market
segmentation", in: NIPFP Working Paper Series (July 29, 2010), URL: http://www.nipfp.org.in/
13 See generally, Ministry of Finance, Report of the High Powered Expert Committee on Making Mumbai
an International Financial Centre, tech. rep., Feb. 10, 2007.
2.5 Need for review of the Scheme 15
some areas where review and harmonisation are required.
Companies Act, 2013
The philosophy of the new company law has shifted its discourse from control to self-
regulation. It presents a paradigm shift in the way every stakeholder in a corporation has
to think, act and perform. The statute being mostly principle based is intended to have
longer shelf life.
The new law gives statutory status to DRs issued by Indian companies abroad. It
defines `global depository receipt' to mean any instrument in the form of a depository
receipt, by whatever name called, created by a foreign depository outside India and
authorised by a company issuing such depository receipts.14 Moreover, it permits cre-
ation of a DR outside India by a `foreign depository'. It gives the Central Government
the power to issue rules regarding the manner and conditions for issue of depository
receipts in any foreign country.15 Draft rules have been issued under this provision by
the Ministry of Corporate Affairs for issuance of GDRs by an Indian company. These
rules will lay down the framework for issue of DRs on the back of the shares of such an
Indian company. Under the draft rules, DRs are allowed to be issued by way of public
offering or private placement or in any other manner prevalent abroad. DRs may be
listed or traded in overseas listing or trading platform.16
Securities Ordinance, 2013
The Securities Laws (Amendment) Second Ordinance, 2013 which is also principle based
inserts clause (ib) into section 11(2) of the SEBI Act, 1992 giving SEBI the power to
call for `information from, or furnishing information to, other authorities, whether in
India or outside India, having functions similar to those of the Board, in the matters
relating to the prevention or detection of violations in respect of securities laws'. It also
empowers SEBI to enter into arrangements or agreements of understanding with such
authority with the prior approval of the Central Government. SEBI has, in fact, entered
into bilateral and multilateral agreements with its counterparts in several jurisdictions.
Takeover Regulations, 2011
DRs issued against equity shares of an Indian company may entitle the holder the right
to give voting instructions. Acquisition of such rights beyond a prescribed limit may
trigger various obligations under the provisions of the Takeover Regulations. Currently,
Takeover Regulations treat DRs carrying an entitlement to give voting instructions in the
target company as `shares'.17 It is necessary to know the identity of owners of such DRs
beyond specified thresholds of voting rights. In this context, the effect of DRs on the
public float needs to be seen. While calculating the minimum public shareholding of a
listed company, the DRs on the back of equity shares are excluded.18
14 See n. 9, at Section 2(44).
15 Sections 41 and 390, ibid.
16 See Rule 4, Ministry of Corporate Affairs, Draft Rules under section 41 of Companies Act, 2013.
17 See Regulation 2(v), SEBI, (Substantial Acquisition of Shares and Takeovers) Regulations, 2011.
18 See Clause 40A(i), National Stock Exchange, Model Listing Agreement, May 13, 2013, URL : http:
//www.nseindia.com/content/equities/eq_listagree.zip; read with Rules 19(2) and 19A of
the Securities Contracts (Regulation) Rules, 1957.
Indian Financial Code
The Indian Financial Code proposed by the Financial Sector Legislative Reforms Com-
mission (FSLRC) has brought modern thinking about regulation into the Indian discourse.
The main strategy of the draft Code envisages financial regulations as addressing market
failures and only addressing market failures. This is consistent with the strategy adopted
in this report.
While the draft Code is only a proposal, some elements of this have started being
implemented. The press release dated October 24, 2013 of the Ministry of Finance
"Based on the deliberations made today, it has been decided that all the
financial sector regulators (including Forward Markets Commission (FMC))
will finalise an action plan for implementation of all the FSLRC principles
relating to regulatory governance, transparency and improved operational
efficiency that do not require legislative action."
2.5.2 The current state of the macroeconomy and financial markets
There has been a gradual increase in the integration of financial markets in India. After
the opening of the capital account in 1991, globalisation has helped companies in India
to access foreign capital. This inflow has helped Indian companies to grow, and this is
visible in the four fold increase of the domestic capital markets after 1991.
Mar 2000 May 2005 Jan 2007 Jan 2008 Oct 2009 Oct 2010
Figure 2.1: Capital raised in ADR-GDR: India
Policy thinking in India on DR has gone through three phases:
19 See,Press Information Bureau, Government of India, Finance Minister's Speech, Oct. 24, 2013,
URL : www.finmin.nic.in/press_room/2013/FMspeech_8thFSDC24102013.pdf (visited on
2.5 Need for review of the Scheme 17
1. At first, in the early 1990s, there was a sense that foreign investors require DRs in
order to avoid the poor market infrastructure in India.
2. By 2001, when the equity market reforms were substantially completed, it was
felt that the importance of the DR route had subsided.
3. It is now becoming clear that even though India has world class infrastructure,
home bias against investing in Indian securities persists. Foreign investment in
almost all Indian securities is vastly below what it should be in a financially
integrated world. This motivates fresh efforts at finding institutional mechanisms
that connect global investors with Indian securities.
The incremental changes made to the Scheme have failed to keep up with economic
realities. FDI into India increased from $2.3 billion to $27.3 billion over the last decade.
However, Figure 2.1 shows that the quantum of capital raised through DR issues have
not increased substantially during this time. This divergence strongly indicates a need
for review of the Scheme.
Concerns have been expressed about two way fungibility of DRs. Two way fungi-
bility allows DRs to be converted into the underlying securities and the underlying to
be bundled into DRs. It is seen from Table 2.2, that two way fungibility was a later
addition to the Scheme. It allowed re-issue of DRs to the extent to which DRs have been
converted into the underlying shares. The concern is that free fungibility should not
dilute the legal framework for capital controls. On the other hand, since the DRs and
the underlying securities are the same asset, there is no justification in restricting free
fungibility. Such restriction will hamper liquidity and price arbitrage. The Scheme needs
to be reviewed to examine if free fungibility can be permitted without diluting the FDI
2.5.3 Market abuse and money laundering
Like other financial instruments, DRs must be viewed in the context of the broader
financial markets. Modifying the rules for creation or issue of DRs may have broader
effects, including the possibility of market abuse and money laundering.
Concerns have been expressed that relaxing the norms on issue of DR will increase
market abuse.20 Recent events have shown the possibility that inter-convertibility be-
tween DRs and the underlying securities may be misused to commit market abuse in
India.21 Another pressing concern is the potential of money laundering using the DR
route if DRs are allowed to be issued in jurisdictions with strict banking secrecy law.
These concerns need to be balanced against the recent policy initiative allowing
unlisted Indian companies to access the international capital market.22 This requires a
20 Supreme Court of India, N. Narayanan v. Adjudicating Officer, SEBI, (2013) 178 Company Cases
390, explained `market abuse' as `use of manipulative and deceptive devices, giving out incorrect or
misleading information, so as to encourage investors to jump into conclusions, on wrong premises, which
is known to be wrong to the abusers'. The Court used this formulation in the specific context of the facts
of this case involving non-disclosure of true information and disclosure of false information when there
was a statutory duty to disclose.
21 See paragraphs 53 to 59, SEBI, In the Matter of Market Manipulation Using GDR Issues,
WTM/PS/ISD/02/2011, Sept. 21, 2011.
22 See generally, Reserve Bank of India, Amendment to the `Issue of Foreign Currency Convertible
Bonds and Ordinary shares (Through Depository Receipt Mechanism) Scheme, 1993', A.P. (DIR Series)
Circular No. 69, Nov. 8, 2013.
thorough review of the present Scheme to plug any existing legal loophole. Simultane-
ously, the safeguards in the Scheme need to be balanced with the legitimate needs of
unlisted Indian firms desirous of participating in the international capital markets.
IOSCO was established in 1983 to bring together the world's securities regulators and
set international standards for the securities market. In 2002, the IOSCO established
the Multilateral Memorandum of Understanding (MMoU) which provides a global
framework for enforcement co-operation between securities regulators, thereby helping
to ensure effective regulation and to preserve the strength of securities markets. In 2005,
IOSCO required all its members (with primary responsibility for securities regulation
within their jurisdiction) to become MMoU signatories, or to demonstrate their com-
mitment towards becoming signatories. In 2010, IOSCO required the later category to
become signatories by January 1, 2013. As of now there are 97 signatories to the MMoU
and they represent approximately 95% of global securities markets.
SEBI is an ordinary member of the IOSCO. It is a signatory to the MMoU. Therefore,
it can request information from other signatories of the MMoU relating to the following
1. insider dealing and market manipulation;
2. misrepresentation of material information and other fraudulent or manipulative
practices relating to securities and derivatives;
3. solicitation and handling of investor funds, and customer orders;
4. the registration, issuance, offer, or sale of securities and derivatives;
5. the activities of market intermediaries, including investment and trading advisers
who are required to be licensed or registered, collective investment schemes,
brokers, dealers, and transfer agents; and
6. the operations of markets, exchanges, and clearing and settlement entities.
The scope of assistance that SEBI can expect from other signatories of the MMoU
1. to enable reconstruction of all securities and derivatives transactions, including
records of all funds and assets transferred into and out of bank and brokerage
accounts relating to these transactions;
2. that identify the beneficial owner and controller of an account;
3. the details such as the time of the transaction; the price of the transaction; and the
individual and the bank or broker and brokerage house that handled the transaction
for transactions, including the amount purchased or sold; and
4. providing information identifying persons who beneficially own or control compa-
5. taking or compelling a person's statement or, where permissible, testimony under
oath, regarding the potential offence.
23 See paragraph 4, The International Organization of Securities Commissions, Multilateral Memoran-
dum of Understanding Concerning Consultation and Cooperation and the Exchange of Information, May
2002 (version revised upto May 2012).
24 See paragraph 7, ibid.
2.5 Need for review of the Scheme 19
In the 1989 G-7 Summit at Paris, FATF was established as an inter-governmental body
in response to mounting concern over money laundering. Over time, the FATF has
developed a series of Recommendations that are recognised as the international standard
for combating of money laundering and the financing of terrorism and proliferation of
weapons of mass destruction.
The FATF monitors the progress of its members in implementing necessary measures,
reviews money laundering and terrorist financing techniques and counter-measures, and
promotes the adoption and implementation of appropriate measures globally. Presently
FATF comprises of 34 member jurisdictions and 2 regional organisations.
The anti-money laundering regime in India is relatively young. The Government of
India set up the Financial Intelligence Unit (FIU) on November 18, 2004 as the central
national agency responsible for receiving, processing, analysing and disseminating
information relating to suspect financial transactions. It is an independent body reporting
directly to the Economic Intelligence Council (EIC) headed by the Finance Minister. It
collects cash transaction and suspicious transaction reports, analyses them and shares
the information with law enforcement agencies.
The Prevention of Money Laundering Act, 2002 came into force in 2005 and was
amended in 2009. Under the Prevention of Money Laundering Act, 2002, the Enforce-
ment Directorate (ED) is empowered to investigate offences of money laundering. The
Unlawful Activities (Prevention) Act, 1967 was first amended in 2004 to criminalise
terrorist financing and again in 2008 to broaden its net on terrorist financing. India held
observership status at FATF since July 2006. In June 2010, she became a full member of
The FATF Recommendations, 2012 specifically impose duties on the member coun-
1. to ensure that financial institution secrecy laws do not inhibit implementation of
the FATF Recommendations.26
2. to prohibit financial institutions from keeping anonymous accounts or accounts
in obviously fictitious names. Extensive customer due diligence obligations have
been imposed on financial institutions as adequate safeguards against money
3. to require financial institutions to keep necessary records of transactions, both
domestic and international, for at least five years and report suspicious transactions
to the FIU.28
4. to extend international cooperation for sharing of information including exchange
of information between FIUs, financial supervisors and law enforcement authori-
ties of member countries.29
25 See, Financial Action Task Force (FATF), FATF Annual Report, tech. rep., Financial Action Task
Force, 2009-10, URL: www.fatf-gafi.org/media/fatf/documents/reports/2009%202010
%20ENG.pdf (visited on 10/19/2013), at pg. 30.
26 See Recommendation 9, Financial Action Task Force (FATF), FATF Recommendations, 2012,
tech. rep., Financial Action Task Force, 2012, URL: http://www.fatf- gafi.org/media/fatf/
documents/recommendations/pdfs/FATF_Recommendations.pdf (visited on 10/19/2013).
27 See Recommendation 10, ibid.
28 See Recommendation 11, ibid.
29 See Recommendation 40, ibid.
2.5.4 Needs of Indian companies and foreign investors
DRs offer advantages relative to other financial instruments to both issuers and investors,
but they also present challenges. The current Scheme has evolved over time to meet the
capital raising needs of Indian firms, but various other commercial requirements of both
issuers and investors remain unmet. The following concerns were articulated before the
1. Firms are unable to issue non-capital raising DRs as this is not explicitly permitted
under the present Scheme, and issuers are thus unable to take advantage of the
reputational and strategic benefits offered by DRs.
2. Restrictions on issuers who are not listed in India, from accessing overseas markets
through the DR route shrinks the pool of capital available to Indian firms.
3. The burden of compliance with additional regulations will drive up the cost of
creating or issuing DRs, diminishing their attractiveness in the eyes of investors.
This will reduce their effectiveness as capital raising tools.
4. In sponsored DRs the number of administrative steps required delays the process.
The fact that some of these steps have not yet been automated or computerised,
exacerbates these delays.
5. The rules on computation of public shareholding does not treat DRs at par with
equity shares. But for the purposes of the Takeover Regulations, the DRs are
treated as shares and all the obligations of an acquirer apply on the DR holder.
6. The vesting of voting rights, either with the holders of the DRs, or with the issuing
company, combined with opacity in shareholding patterns, may impact the market
for corporate control. This may be of concern to investors as well as to issuers
who want to anticipate takeover bids.
7. Under the current mechanism, an overseas investor is required to purchase shares
from the market to be delivered to the depository. For overseas investors with
existing holding in the underlying Indian shares, this results in an additional sell
trade leading to additional transaction costs and higher volatility in the underlying
8. The present pricing norms for DRs are set out in the Scheme. The two week floor
price formulae typically results in floor price which is at a marginal premium or
discount to existing market price. Since the book building of a DR follow on is
for a period of 2-3 days, the floor price based on the last two weeks prices leaves
a very small discount to counter market volatility during the book building period.
9. Under the present law of taxation, sale or purchase of equity shares on a recognised
stock exchange attracts Securities Transaction Tax (STT) for both the buyer and the
seller. This exempts such transactions from long term capital gains tax. However,
the long term capital gains exemption is not available for domestic tender offer
for a sponsored DR issue. For such transactions, long term capital gains tax at
the rate of 10% (plus applicable cess and surchage) and short term capital gains
tax at the maximum marginal rate (plus applicable cess and surchage) is payable.
This differential tax treatment distorts the incentives of the shareholders in favour
of selling the shares directly in the stock market rather than tendering them for a
sponsored DR program.
10. Both issuers and investors are affected by weaknesses in the Indian financial sys-
tem. When systems, rule-making and enforcement lag behind other jurisdictions,
2.6 Policies in overseas jurisdictions 21
there are opportunities for regulatory arbitrage, and disincentives for high-quality
firms and investors to participate.
The above concerns justify the need for review of the present Scheme.
2.5.5 Need for simplification and clarity of the Scheme
One of the foremost facets of rule of law is clear and certain regulations. Having
undergone numerous amendments since its inception, the Scheme has become cluttered
with ancillary provisions, leading to confusion among market participants. There are
conflicting opinions on the legal interpretation as to whether unsponsored DR programs
are permitted or if non-capital raising DR programs are permitted. It is also not clear as
to which law or authority is responsible for laying down the provisions and enforcing
the same. This is particularly because the Scheme has elements embedded in company
law, Foreign Exchange Management Act, 1999, securities laws, taxation and money
Till recently, unlisted companies issuing DRs were required to list simultaneously
on the Indian stock exchange. This has now been dispensed. Now an unlisted company
can raise capital abroad without listing in India if it lists DRs only on exchanges
in IOSCO/FATF compliant jurisdictions. From this deletion, it is not clear whether
an unlisted company can issue DRs if it lists its securities on an Indian exchange
simultaneously. The new provision says that listing on Indian exchanges is not required.
However, the Scheme no where now requires such listing. Further, the Scheme now
requires unlisted companies to list abroad in IOSCO/FATF jurisdiction. It is not clear
whether a listed company can issue DRs in a non-IOSCO/FATF compliant jurisdiction.
The Scheme also has many redundant provisions. For example, it provides that an
unlisted company which has taken verifiable effective steps before August 31, 2005
would be exempted from the requirement of simultaneous listing if it completes the
issue by December 31, 2005. This provision remains in the Scheme even though it has
become redundant since 2005, and more so, when an unlisted company issuing DRs is
no more required to list simultaneously on Indian exchanges.
The above developments call for a comprehensive review of the Scheme.
2.6 Policies in overseas jurisdictions
The legal framework and the existing market micro-structure may be unique to India,
but DRs are a global phenomenon. In reviewing the present Scheme it may be prudent
to take note of alternative policy and legal frameworks around DRs and other modes of
accessing international capital markets.
A number of developing countries have used the DR mechanism to address their
domestic capital market constraints. The analysis below shows that comparable emerging
economies have effectively used DRs to address capital raising requirements across a
spectrum of situations. These range from very large capital raising exercises (which the
domestic market may not be able to absorb) to small scale capital raising for specialised
sectors or purposes (which a domestic market may undervalue).
Table 2.3 shows the number of DRs issued for India alongside the numbers for other
large emerging economies. The data show that India has issued fewer ADRs than those
in other emerging economies. This could be due in part to India's regulatory framework,
which is more restrictive with regard to DR issues than many other jurisdictions. India
is one of the few jurisdictions for which there are fewer ADR issues than GDR issues.
Table 2.3: Number of DR issues by select emerging economies
Country ADR GDR Others Total
India 17 352 0 369
China 286 9 0 295
Russia 56 177 0 233
Brazil 117 65 2 184
South Africa 120 7 0 127
Mexico 65 18 0 83
Turkey 31 38 0 69
South Korea 21 45 0 66
Philippines 49 9 0 58
Indonesia 54 4 0 58
Malaysia 20 0 0 20
Source: JP Morgan
· China: Until 2001 the US market played a major role in raising capital for Chinese
companies. Between 1993 to 2001, Chinese companies raised approximately $24
billion from the U.S. markets. However, this amount fell to $5 billion in the period
2001-2003 when listing in Hong Kong became popular. Until 2005, Chinese
companies would often choose to list in Hong Kong and New York, but many
now use Hong Kong to list DRs.30 Hong Kong listed companies from China are
referred to as `red chips' and have attracted the interest of many global investors.31
There seems to be no restriction on Chinese companies listing in the US. The only
restrictions are those placed by the laws of US.
· Israel: Israel has always allowed its companies to list abroad and there is a
history of Israeli companies listing in US. In order to promote listing in Israel, a
'dual-listing law' was added to the securities law of Israel in 2000. The amended
law exempts firms already traded in the US from the burden of reporting to
the Israeli securities regulator. Following this amendment more than 30 Israeli
companies, traded on NASDAQ, decided to dual list their shares on the Tel Aviv
Stock Exchange (TASE). The trading volume of these companies grew by about
123%. The domestic Israeli stock exchange continued to hold about 42% of the
trading volume without adversely affecting the trading volume on the NASDAQ.
As a consequence of the dual listing, share prices of these companies went up by
In its interim report in June 2013, Israel's Committee for Promotion of Investments
in Publicly Traded Research and Development Companies suggested greater
alignment and harmonisation of the Israeli securities disclosure and reporting
norms with those in US. This includes full exemption from disclosure requirements
for certain US-listed companies.33
30 See, James Bo Howell, "SEC Rule 144 and the Global Market", in: Asper Review of International
Business and Trade Law 7 (2007), pg. 199.
31 See "Red Chips Rising", in: Business Week (International Edition) (June 8, 1997), URL : http:
32 See, Shmuel Hauser, "The effects of dual listing on share prices and liquidity in the absence of
registration costs", in: Journal of Service Science and Management 4 (2011), pp. 1521.
33 See, Committee for Promotion of Investments in Publicly Traded Research and Development Compa-
nies, Interim Report, tech. rep., Israel Securities Authority, 2013.
2.6 Policies in overseas jurisdictions 23
· Brazil: Brazilian companies accessing the DR route need approval from the
Central Bank and the Securities and Exchange Commission of Brazil. Brazil
allows both sponsored Level I and unsponsored Level I ADR issues. A number of
large Brazilian companies launched ADRs in the 1990s. Many smaller Brazilian
companies prefer to launch an Initial Public Offering (IPO) at home before going
· Indonesia: Indonesia allows both sponsored Level I and unsponsored Level I
DRs issue. Domestic companies do not need any regulatory approval but must
report to the Indonesian securities regulator.
3 -- Guiding principles
The Committee's review of the Scheme has been informed by the strategy for financial
reforms articulated by recent expert committees, including the Percy S. Mistry Commit-
tee Report (2007), Raghuram Rajan Committee Report (2008), U.K. Sinha Committee
Report (2010) and the Justice B.N. Srikrishna Commission Report (2013). The general
policy direction adopted by the Committee also broadly conforms to the general policy
approach underpinning the Companies Act, 2013 and the draft rules issued under it,
recent financial sector legislations and the development in international cooperation
under the auspices of FATF and IOSCO.
3.1 Contemporary policy thinking
1. Indian policy makers agree that foreign participation in Indian econ-
omy is deep-rooted.
2. Clear, certain and effective regulations are necessary to facilitate for-
eign participation in Indian financial markets. The Companies Act,
2013 further facilitates this participation.
3. Therefore, the policy objective of the Committee conforms to contem-
porary policy thinking in India.
India's foreign investment framework has been influenced by perceptions that foreign
investment is volatile and could respond sharply to adverse domestic events, thus
exacerbating a domestic crisis. However, with time, there has been a major shift in
policy thinking. Recent studies suggest that Indian actors have embraced and internalised
foreign participation in the economy and that foreign participation is deep-rooted. It
is, therefore, essential for the Indian regulatory set up to respond to the needs of
foreign investors and smoothen their interactions with Indian regulations. Present policy
makers strongly feel that if attention is paid to the organisation of regulations, it would
yield strong dividends to the economy in the form of more clear, certain and effective
26 Guiding principles
A successful effort in this direction has been the enactment of the Companies Act,
2013. This legislation is informed by the international developments in the field of
company law as well as the growing internationlisation in the functioning of Indian
corporates. For the first time, the Indian company law has given statutory recognition to
DRs issued abroad on the back of shares of Indian companies.2 Draft rules in this regard
have also been published for public comments under the Companies Act, 2013 and are
expected to be notified soon.
Drawing from the broader policy objectives suggested by the previous expert bodies,
the Committee endeavoured to simplify the regulations governing DRs issued abroad
on the back of Indian securities. The Committee has taken efforts to harmonise the
Scheme with the overall regulatory framework for DRs including the relevant provisions
of the Companies Act, 2013 and the rules under it, the Takeover Regulations, Foreign
Exchange Management Act, 1999, the consolidated FDI policy, securities and taxation
laws. This harmonisation will provide the much needed clarity and certainty of legal
regulations in the DR market. It will be a step forward in enhancing India's commitment
to rule of law in foreign participation in the financial sector as has been advocated by
the earlier expert committees.
3.2 Capital markets to support the real economy
1. In an open economy, real sector firms that compete internationally re-
quire inputs that have international characteristics on price and quality.
2. The cost of capital, and the price and quality of financial services,
influences the competitiveness of the real economy.
3. Hence, real sector firms in India must access capital and financial
services at levels of price and quality which match those faced by
Trade liberalisation opens the real economy of a nation to global competition. This
competition is good for consumers as domestic firms have to compete with international
firms to provide goods and services. This competition spurs productivity growth by
Indian firms and thus augments Indian Gross Domestic Product (GDP) growth. India has
made considerable advances in the area of trade liberalisation in the last two decades.
The primary area of competition between firms is price, and price in turn is a function
of input costs and efficiency. All inputs are relevant here, including raw materials, capital,
financial services, labour, etc.3
In a competitive market, if different firms face different input costs, the firm with
higher input costs is at a disadvantage. When domestic firms are not allowed to access
international capital markets, they are at a disadvantage.
Protectionist policies force firms in India to buy inputs made in India even if they
are inferior to the best inputs available worldwide (on price and/or quality). These
1 Seegenerally, Working Group on Foreign Investment, Report of the Working Group on Foreign
Investment, tech. rep., Department of Economic Affairs, Ministry of Finance, July 30, 2010.
2 See sections 2(44) and 41, see n. 9.
3 See, Committee on Financial Sector Reforms, Report of the Committee on Financial Sector Reforms,
tech. rep., Planning Commission of India, Sept. 12, 2008, at pg. 107.
3.3 Barriers to accessing global capital 27
policies perpetuate inefficiency by the producers of inputs, and act as a drag upon the
competitiveness of the firms which are buyers.
As an example, India no longer forces Indian firms to buy steel that is made within
India. This deregulation had two impacts. Firms that consume steel were more able to
operate in India and compete globally, as they had access to steel of global quality and
price. In addition, Indian producers of steel were placed under competitive pressure.
Capital, like steel, is an input and comes at a cost. If Indian firms are to compete
successfully at a global level, they need to have access to capital at the cost at which
their competitors can raise capital. Just as compelling Indian firms to use Indian steel
irrespective of its cost and quality is inefficient, similarly compelling Indian firms to
raise capital only from the Indian capital market is inefficient. A firm should be free to
raise capital from any investor whoever gives it at the best price. Therefore, Indian laws
must be neutral to a firm's choice of accessing capital from global investors.
3.3 Barriers to accessing global capital
1. There are various regulatory constraints that inhibit foreign investment
2. Foreign investors suffer from `home bias'.
3. Therefore, DRs are an attractive route for foreign investment into
3.3.1 Regulatory constraints
At present, investment in securities in India, by global investors, is hampered by the
1. Source-based taxation: India uses source-based taxation which attempts to tax
all income of residents of the nation and any income of a non-resident which is
attributable to any activity in the nation where the tax is applied. On the other hand,
most other economies use residence-based taxation which follows the principle of
only taxing the residents of a nation for their income (irrespective of where such
income arises) and exempting all non-residents from taxation. There is extensive
literature in economics which suggests that residence-based taxation would reduce
distortion of allocation of investment in the global market. Since India still follows
the source-based method of taxation, there are higher chances of double taxation
for foreign investors.4
2. Securities Transaction Tax: The STT is one component of India's attempts at
source-based taxation. STT is levied on purchase and sale of shares and other
securities of a company, carried out on a stock exchange. Although the STT was
imposed as a substitute for capital gains, the former is an indirect tax while the
latter is a direct tax. Irrespective of whether the investor is a resident in India
or not, STT is payable when the investor sells or purchases securities through
an Indian stock exchange. For a foreign investor transacting on an Indian stock
exchange, STT makes the securities more expensive and less attractive.5
4 See, Working Group on Foreign Investment, see n. 1, pg. 119-121.
5 See, Ministry of Finance, Report of the High Powered Expert Committee on Making Mumbai an
International Financial Centre, see n. 13, at pg. 164.
28 Guiding principles
Table 3.1: Median foreign holding in size deciles of Indian firms
Decile Median market capn. FII holding
(Million rupees) (Per cent)
0-10 6 0
10-20 15 0
20-30 29 0
30-40 49 0
40-50 83 0
50-60 152 0
60-70 320 0
70-80 797 0
80-90 2999 0.3
90-100 25073 9.6
Source: CMIE Prowess
3. Trading time: The Indian market closes at 3.30 PM Indian Standard Time (IST)
and the New York market opens at 8 PM IST. This prevents the foreign traders
from effectively participating in the Indian equities markets.6
4. Law on Gate-keepers: The Indian laws on liabilities of gate-keepers (auditors,
merchant bankers and others) are not clear. As a consequence, foreign investors
view the ADR market as far safer. This disparity in legal regimes on gate-keepers
was evident in the Satyam episode. The auditors involved in that case settled legal
proceedings with the PCAOB and the U.S. Securities and Exchange Commission
(SEC) for the alleged negligence. By contrast, in India, the very jurisdiction of
SEBI on auditors was called into question and the Bombay High Court had to rule
on the issue.7
5. Capital controls: Indian capital controls distort the market for foreign investment.
The existing policy framework for capital flows creates a complex, overlapping
web of law marked by administrative bottlenecks, and contradictory and sometimes
duplicate processes.8 While inflows into listed equity are fairly open, individuals
and corporations are faced with unnecessary complexity in the form of separate
regulations for different categories of investors and sub-account holders. These
investments are in turn regulated by RBI, SEBI, Department of Industrial Policy
and Promotion and the Ministry of Finance. Specific capital flows management
regulations apply to specific types of investors such as private equity and venture
capital. Procedures are complicated and delays are possible even under the
3.3.2 Home bias
`Home bias' is the tendency of foreign investors to disproportionately allocate their funds
in favour of their domestic jurisdiction. There is strong evidence that home bias affects
the Indian capital markets. While foreign investment may be beneficial, the empirical
evidence shows that very few firms in India are able to attract foreign investment. Less
than a thousand companies have over 1% investment by FIIs. In 2011 there were only
703 firms where foreign investors owned above 5% of the publicly traded market value.
Table 3.1 shows the median value of FII percentage holding in size deciles amongst
Stigler, Shah, and Patnaik, see n. 12.
Bombay High Court, Price Waterhouse and Co. v. Securities and Exchange Board of India,
 160 Company Cases 324.
8 See, Committee on Financial Sector Reforms, see n. 3, at pg. 105.
3.4 Market regulation to address market failure 29
all Indian listed firms. This evidence shows that FIIs are substantially absent in a large
swathe of Indian firms. A recent paper finds that both foreign and domestic institutional
investors focus on a small set of firms with high stock market liquidity and large size.9
Most firms fail to obtain capital from institutional investors.
Given that home bias is a serious problem, policy makers need to modify rules so as
to foster a deep engagement between global investors and a diverse array of Indian secu-
rities. This requires rethinking capital controls, rules about `permanent establishment'
through which global firms can establish operations in India, fully operationalising world
class information and accounting systems, etc. The recommendations of this report
constitute one element of a larger strategy for combating home bias.
At present, India's financial architecture prevents firms from interacting freely with
investors in other markets, and exacerbates the home bias that prevents foreigners from
investing in India.
The alternative means available to the foreign investors have their own limitations:
· ETFs based on an index cannot provide exposure to individual stocks.
· Participatory notes involve taking counter-party default risk.
· Under Qualified Foreign Investor (QFI) scheme, investors need to obtain a Perma-
nent Account Number (PAN) for tax purposes, establish relationships with local
brokers, and have to pre-fund their trades.
As a consequence, the DR route is relatively more attractive than the other available
routes. Therefore, the DR route has the potential to successfully integrate the present
Indian financial system with the international capital market.
3.4 Market regulation to address market failure
1. All market regulation must be informed by an analysis of market
2. All financial regulation must be motivated by the concerns of consumer
protection, micro-prudential regulation, systemic risk regulation and
3. Therefore, appropriate regulatory strategies for DRs must be informed
by this analysis.
Considering the crucial role that DRs can play in integrating the Indian financial
system with the international capital market, devising the ideal regulatory framework
for DRs assumes importance. These regulations must ideally be aimed at addressing
`market failures' in the DR market.
Some markets left to themselves may fail to produce efficient allocation of resources.
Such an event is referred to as `market failure'. Regulations exist in order to address
such market failures. This framework for thinking about market failures, when translated
into the field of finance, induces a clear categorisation of the tasks of the government, as
has been clarified by the Financial Sector Legislative Reforms Commission.
The systematic strategy to financial regulation consists of analysing the market
processes and identifying interventions that fall within the following areas, identified by
9 See, Ila Patnaik and Ajay Shah, "The investment technology of foreign and domestic institutional
investors in an emerging market", in: Journal of International Money and Finance 39 (2013), pp. 6588.
30 Guiding principles
1. Consumer protection: Without the trust of the consumers, the financial market
cannot perform its primary function of allocation of resources from savers to
spenders. At the same time, financial firms may have perverse incentives to
exploit the trust of consumers in an unfair manner. Most consumers are in an
unequal bargaining position and sometimes financial firms stand to gain out of
monopolies and related rent-seeking behaviour. In this context a `buyer beware'
approach is not adequate. Regulators must place the burden upon financial firms
of doing more in the pursuit of consumer protection. This perspective shapes
interventions aimed at prevention (inducing financial firms towards fair play) and
cure (redress of grievances).
DRs are foreign securities. They are purchased and traded by foreign investors in
a foreign jurisdiction. When underlying Indian securities are bundled into DRs
or the DRs are cancelled and converted into the underlying Indian securities, the
Indian investor or the securities market in India may be affected. Regulations
should be framed accordingly.
2. Micro-prudential regulation: When financial firms make promises to consumers,
regulators are required to monitor the probability of the financial firm failing to
honour that promise and undertake interventions that reduce this probability. The
higher the intensity of promise, the stricter should be the regulations. Otherwise, if
financial firms are allowed to go back on their promises with impunity, consumers'
faith in the financial system will be hampered. An example is the faith reposed by
consumers depositing money with regulated banks.
DRs are issued on the back of domestic securities. Firms issuing these domestic
securities are regulated by different micro-prudential regulations. Securities law
do not provide for micro-prudential requirements of the issuer. Similarly, laws
governing DRs should not provide for any micro-prudential requirements of the
3. Systemic risk: Micro-prudential regulation addresses the possibility of collapse
of one financial firm at a time. A very different point of view is required when
addressing the possibility of the collapse of the entire financial system. This calls
for measurement of systemic risk, and undertaking interventions at the scale of
the entire financial system (and not just one sector) that diminish systemic risk.
As explained above, the law on DRs is not concerned with the micro-prudential
requirements of the issuer. Similarly, it need not be concerned with systemic risk
4. Resolution: Micro-prudential regulations reduce the probability of firm failure.
However, eliminating all failure is neither feasible nor necessary. At the same
time, failure of large private financial firms can be highly disruptive for households
that were customers of the failing firm. This requires a specialised `resolution
mechanism' to ensure orderly resolution of troubled firms before they reach the
stage of insolvency. The resolution of issuers of DRs is a general resolution issue.
It need not be addressed in the law on DRs.
Financial Sector Legislative Reforms Commission, Report of the Financial Sector Legislative
Reforms Commission, tech. rep., Government of India, 2013.
3.5 Enforcement over prohibition 31
3.5 Enforcement over prohibition
1. New markets create additional opportunities for violation of laws.
2. However, an appropriate regulatory response is not prohibiting market
access, but improving detection and investigation capabilities.
Overseas issue and trading of DRs on the back of Indian securities exposes the Indian
securities market to potential market abuse and money laundering. The appropriate
regulatory response is to ensure effective enforcement of the law, which may require
co-operation with foreign investigative authorities. Academic literature also shows that
greater information about DR issue might reduce opportunities to manipulate underlying
stock price return.11
India is a member of the FATF and has a FATF compliant money laundering legisla-
tive framework in place. RBI and SEBI have a major role to play in this framework.
SEBI is a member of IOSCO. This allows Indian regulators to co-operate with foreign
regulators in investigating market abuse and money laundering. Most other jurisdictions
use this same mechanism and do not prohibit issue of DRs. Indian regulators need to
adopt international best practises which promote rather than prohibit capital flows.
3.6 Harmonising depository receipts with capital controls
1. Capital controls are a part of Indian economic regulation.
2. DRs should be subjected to the same capital controls that are applicable
to the underlying securities.
India uses capital controls as part of its macroeconomic policy tool-kit to regulate
capital flows. The DR route is treated as FDI. The Department of Industrial Policy and
Promotion (DIPP) issues a circular on consolidated FDI policy which is updated every
year. The DIPP makes policy pronouncements on FDI through press notes or press
releases, which are notified by the RBI as amendments to the FEMA 20. The procedural
instructions are issued by the RBI through circulars. The regulatory framework of FDI
consists of Acts, regulations, press notes, press releases, clarifications etc.
Under the existing legal framework different limits have been provided for FDI in
different sectors. Depending on the sector, FDI can flow in through automatic route or
the approval route. Under the automatic route, the foreign investor or the Indian firm
does not require any approval from the Government of India for the investment. Under
the approval route, prior approval of the Foreign Investment Promotion Board (FIPB) is
The DR and the underlying security are one and the same asset. The FDI framework
should be equally applicable to both the instruments. This approach will rationalise and
harmonise the issue of DRs with the broader overarching FDI policy of the country.
11 See, Ajay Shah, The Tale of One Market Inneficiency, Abnormal Returns around GDR Issues by Indian
Firms, Apr. 14, 1995, URL: http://22.214.171.124/eps/fin/papers/9507/9507001.pdf
(visited on 10/19/2013).
4 -- Issues and policy directions
Based on internal deliberations as well as consultation with the stakeholders, the Com-
mittee identified the policy issues relevant to DRs and analysed them in depth keeping
in view the principles of law, economics and regulations enunciated in earlier chap-
ters. In this section, each policy issue is framed as a question, and the Committee's
corresponding recommendations are stated, accompanied by an explanation for the
4.1 Who can provide the underlying securities?
The Committee recommends that any Indian issuer of securities should be able to issue
fresh securities on the back of which DRs may be issued abroad by a foreign depository.
However, a person barred by SEBI or any other court of law from accessing Indian
capital market should not be allowed to access international capital markets using the
DR route. It further recommends that any person holding Indian securities should be able
to transfer those securities which may be deposited with a domestic Indian custodian
and on the back of such securities, DRs may be issued abroad by a foreign depository.
In an open economy, real sector firms that compete internationally require inputs
that have international characteristics regarding price and quality. In a competitive
market, if different firms face different input costs, the firm with higher input cost is at a
disadvantage. For Indian firms to be globally competitive, it is essential that they have
access to capital as well as quality financial services at the lowest cost. Therefore, there
is no reason to deny any domestic firm access to international capital markets.
The present framework prohibits any company ineligible to access the capital market
in India from accessing this route. The Committee, however, notes that no company
per se is ineligible to access Indian capital market. For example, the SEBI (Issue
of Capital and Disclosure Requirements) Regulations allow every company to access
capital markets. It only states that if a company does not meet particular requirements, it
can still make a public offer through a book building route. It has prescribed different
34 Issues and policy directions
standards for issuers for using different modes of accessing capital market. Therefore,
the Committee is of the view that Indian law should not restrict an issuer from accessing
the international capital market through DR route. However, the Committee is conscious
of the reputational risk of the country. Equally, once a DR is issued, it can be converted
into the underlying permissible securities and, therefore, the ban on accessing the Indian
capital market can get circumvented. Therefore, it recommends that persons who have
been barred by the SEBI or any other Court of law from accessing the Indian capital
market should not be permitted to issue permissible securities for the purpose of issue of
Every country has domestic laws to safeguard the interests of investors within its
own jurisdiction. For example, the IDR Rules, 2004 provide eligibility criteria for the
companies that can issue Indian Depository Receipts (IDRs) in India. The eligibility
criteria includes minimum paid up capital and turnover, track record of making profits,
minimum debt equity ratio and also any eligibility criteria that may be laid down by
SEBI from time to time. Therefore, the laws and authorities of the foreign jurisdiction
would screen the issuers of underlying securities on the back of which DRs can be issued.
And the laws and authorities of different jurisdictions would have different eligibility
criteria for issuers of Indian securities. Therefore, the Committee is of the view that
Indian law should not prescribe any eligibility criteria for issuers.
In a fresh issue, the issuer of the securities may directly issue the securities to
the foreign depository against which DRs may be issued abroad. In an unsponsored
issue, the holders of the securities may transfer them to the foreign depository against
which DRs may be issued abroad. In a sponsored issue, the holders of the securities may
transfer them, with the approval of the issuer concerned, to the foreign depository against
which DRs may be issued abroad. The transfer may happen on exchange, off-exchange
or through a public tender process.
4.2 Who can subscribe to depository receipts?
The Committee recommends that any person should be able to subscribe to the DRs
issued on the back of underlying Indian securities.
Since DRs represent essentially the same asset as the underlying securities, the
capital controls regime applies equally to both. The capital controls regime is adhered
to by allowing DRs to be issued only on the back of those securities in which a person
resident outside India can invest. Over and above these restrictions applicable to the
underlying securities, there is nothing further to be gained by restricting subscription to
The present Indian laws do not allow certain categories of persons to invest in Indian
securities. These restrictions will apply equally to permissible securities underlying
DRs. For example, the underlying securities cannot be issued to or purchased by a
foreigner who is not allowed to purchase Indian securities. The existing laws also allow
a person resident in India to take a limited amount of funds outside India and invest
in foreign securities. These funds may be invested in DRs and may flow back into
India. Since detecting these inflows will impose huge compliance and monitoring costs,
the Committee is of the view that these funds should be treated as foreign investment.
4.3 What should be the underlying securities? 35
This would enable both foreign and domestic investors to buy both DRs as well as
their underlying securities on the same level playing field and would provide excellent
arbitrage opportunities and thereby improve price efficiency.
4.3 What should be the underlying securities?
The Committee recommends that if a foreign investor is permitted under the existing
capital controls / foreign investment regime to hold any securities in India, DRs should
be allowed to be issued abroad on the back of all such securities. It further recommends
that any securities against which DRs may be issued must be in dematerialised form. It
does not recommend DRs on the back of FCCBs.
The Indian legislative framework provides for various capital controls. For inbound
investments, these can be broadly classified into the FDI scheme and the portfolio
investment scheme. The proceeds from foreign investors through the DR route are
treated as FDI. FDI can be through automatic route or approval route. In the automatic
route, FDI is allowed without any approval of the Government or the RBI in all activities
or sectors specified in the consolidated FDI policy. In the approval route, FDI is allowed
in activities not covered under the automatic route subject to prior approval of the
Government through the FIPB. FDI is completely prohibited in certain sectors like
atomic energy, gambling and betting etc.1
Keeping this overarching framework of capital controls intact, there is nothing further
to be gained by distorting a foreign investor's choice of investing in Indian securities or
an issuer's choice of using the DR route in comparison to other modes of participating
in the international capital markets. The Committee is of the view that the law should be
neutral to a foreign investor's choice of the mode for purchasing Indian securities and to
the Indian issuer's choice of mode of raising capital as long as the basic capital controls
are complied with. Therefore, the Committee recommends DRs on the back of any
securities as defined in the Securities Contracts (Regulation) Act, 1956 whether issued
by a company, mutual fund, government or any other issuer and the similar instruments
issued by private companies. For convenience, the Committee chose to refer to these
securities as permissible securities.
The present Scheme suggests that it may be possible to issue DRs on the back of
FCCBs. The Committee, however, does not envisage a FCCB to be permissible securities
since it is issued to persons resident outside India in foreign currency and there is no
practical utility to issue a DR on the back of FCCBs.
It is further clarified that the Committee intends all permissible securities to be in
dematerialised form before they can be used as underlying for a DR issue. This is
necessary for convenience in gathering data and information regarding DR issues and
for reconciliation and investigation purposes. This would enable the depositories the
disseminate the extent to which permissible securities have been used for DRs and the
headroom available for conversion from DRs to securities and vice versa.
Department of Industrial Policy and Promotion, Ministry of Commerce and Industry, Consoli-
dated FDI Policy, Apr. 5, 2013, URL: dipp.nic.in/English/Policies/FDI_Circular_01_2013.
36 Issues and policy directions
4.4 What is the limit on issue of depository receipts?
The Committee recommends that DRs should be allowed to be issued to the full extent to
which foreign investors can hold such securities in India. There should be no restriction
on the amount of money for which DRs can be issued, as is the present position.
The underlying securities and the DRs issued against them are essentially one and
the same asset.2 For all practical and economic purposes, capital controls should equally
apply to both. Under the existing capital controls regime, foreign investors have access
to the underlying Indian securities subject to some restrictions like sectoral limits,
percentage limits on foreign participation, quantitative restrictions etc. Subject to the
limitations applicable to the underlying securities, DRs may be issued abroad to foreign
investors. For example, the foreign investment in a company is ordinarily permissible up
to x%. However, it can be increased up to y% with the approval of the company in the
general body meeting. If no such approval has been granted, the permissible securities
on which DRs may be issued, whether sponsored or unsponsored, cannot exceed x%.
This will be in consonance with the capital control rules. Therefore, the Committee
recommends that if a foreign investor is permitted under the existing capital controls
regime to hold any securities in India, DRs should be allowed to be issued abroad on
the back of such securities to the same extent to which foreign investors can hold such
securities in India.
The current capital control framework allows foreign exposure to domestic securities
up to limits specified under the Foreign Exchange Management Act, 1999. Within
that limit, the issuer should be free to allocate capital. Similarly, the foreign investor
should also be free to invest within that limit. The elements of capital allocated and
the elements of capital invested should be freely fungible among themselves subject
only to the overall limit of foreign exposure as mandated by the capital controls regime.
This position is reflected in the current laws, which do not impose any monetary limit to
which DRs may be issued by an issuer.3 The Committee is of the view that this position
should be retained.
4.5 Who can issue depository receipts?
The Committee recommends that any person permitted under the laws of a foreign
jurisdiction to carry on the business of issuing DRs in that jurisdiction should be able
to act as a foreign depository for issue of DRs on the back of Indian securities. Indian
law should not go into regulating any eligibility requirements for a foreign depository to
The mandate of the Indian authorities is to protect the interests of Indian investors
against market abuse. Every country has domestic laws to safeguard the interests of
investors within its own jurisdiction. For example, the IDR Rules, 2004 provide that
IDRs could be issued only by domestic depositories registered as custodian of securities
with SEBI in India. Besides, the regulators have entered into international co-operation
Stigler, Shah, and Patnaik, see n. 12.
Department of Industrial Policy and Promotion, Ministry of Commerce and Industry, see n. 1,
4.6 Who can be a domestic custodian? 37
agreements to facilitate investigation and enforcement activities. Imposing additional
eligibility requirements on foreign depositories issuing DRs abroad without an effective
mechanism to monitor or enforce against off-shore service providers would be redundant.
Therefore, the Committee is of the view that Indian law should not provide any additional
eligibility requirement for a foreign depository, particularly when the domestic custodian
has responsibility to ensure compliance with Indian laws.
Nevertheless, the committee feels that only a person from a FATF and IOSCO
compliant jurisdiction and who is not prohibited from acquiring Indian securities and
has permission to issue DRs can act as a foreign depository. This would enable Indian
authorities to gather information from the authorities who have permitted the foreign
depository to issue DRs. This is an improvement over the earlier Scheme which allowed
any bank authorised by the issuer of Indian securities to act as foreign depository.
4.6 Who can be a domestic custodian?
The Committee recommends that a regulated market intermediary having permission
from SEBI to provide services as custodian of Indian securities underlying the DRs
should be the custodian.
Protection of Indian investors requires that safeguards be placed on custodians of the
underlying Indian securities in India. The Committee is of the opinion that the standard
applicable to any custodian of securities in India should also apply to any domestic
custodian in a DR issue. Specifically, a domestic custodian should be :
· A fit and proper person
· Prudentially sound
· Capable to effectively discharge its duties
· Capable to manage the business of custodian of securities
The above safeguards presently apply to any custodian of securities in India.4
Accordingly, a domestic custodian for DR issue must be a custodian of securities under
the SEBI Act, 1992 or any other person, such as depository, depository participant or
bank, meeting the above requirements.
4.7 What should be the conversion ratio?
The Committee recommends that the parties should be free to choose the ratio of DRs to
the underlying permissible securities.
In a sponsored issue, this ratio may be determined by the depositary agreement
between the issuer and the foreign depository. In an unsponsored issue, this ratio may be
determined by the foreign depository. The Committee is of the view that this ratio, being
guided by commercial realities prevailing in the domestic and international markets,
is best left to the prudence of the parties involved. The Committee could not envisage
a market failure arising out of a freely determined conversion ratio. Therefore, the
Committee recommends that the parties should be free to choose any ratio of DRs to the
underlying permissible securities.
4 See Regulation 6, SEBI, (Custodian of Securities) Regulations, 1996.
38 Issues and policy directions
4.8 For what purpose can depository receipts be issued?
The Committee recommends that DRs should be allowed to be issued for non-capital
raising as well as capital raising purposes. It also recommends that there should be
no end use restrictions on the funds raised through the issue of DRs per se and the
restrictions, if any, for an issuer should apply.
There are various commercial reasons for setting up a DR program. As long as such
a program is not detrimental to the interests of the Indian investors and the integrity of
the Indian capital market, there is no reason to restrict it.
The present Scheme permits capital raising DRs to be issued by both listed as well
as unlisted companies.5 This route should be kept open. We should not be limiting
capital raising to any specific sectors. Any issuer in a sector, which can access foreign
investment, should be able to use DR route for accessing international capital market.
There is lack of clarity regarding permissibility of non-capital raising DRs under
the present Scheme. Under the Scheme though an Indian company can sponsor an issue
of DRs against the shares held by its shareholders, this has not taken off. Non-capital
raising DR programs present no greater risk of money laundering than capital raising
DRs do. Nor do they expose the Indian investor or Indian capital market to any higher
risk of market abuse. Therefore, non-capital raising DRs should be allowed to be issued
on the back of permissible securities in a sponsored as well as unsponsored issue.
Currently, the funds raised through issue of DRs are not permitted for deployment
or investment in real estate and stock market. This position does not conform to the
principle that DRs and the underlying securities are the same asset and the rules of
capital control should apply equally to both. The same end use restrictions in terms of
cap and/or purpose, as are applicable to the underlying securities, must apply to the DRs
and no more. Therefore, the Committee is of the view that there should not be any end
use restriction on DRs themselves.
4.9 Where can depository receipts be issued?
The Committee recommends that DRs may be issued only in a foreign jurisdiction that
satisfies both the following requirements:
· The foreign jurisdiction is a member of the FATF, and
· The securities regulator of that jurisdiction is a member of IOSCO.
There are concerns that DRs may be used for money laundering and market abuse
purposes. Investigations carried out by SEBI have thrown light on the kinds of violations
that can happen in the DR market. One such example is the `structured transactions'
which combined money laundering and market abuse to artificially inflate the prices of
the underlying securities in India. However, the money laundering and market abuse
concerns do not require absolute ban of issue or trading of DR in other jurisdictions.
companies, even without simultaneous listing on domestic exchanges, are allowed after
the recent amendment to the present Scheme. See paragraph 3, Ministry of Finance, Issue of Foreign
Currency Convertible Bonds and Ordinary Shares (Through Depositary Mechanism)(Amendment) Scheme,
2013, Notification No. GSR 684(E) [F.No.4/13/2012-ECB], Oct. 11, 2013.
4.10 Should depository receipts necessarily be listed? 39
Concerns regarding market abuse and money laundering should be addressed ad-
equately if the Indian regulators have appropriate powers to carry out investigations
concerning cross border transactions. For this it is essential that DRs be allowed to be
issued only in jurisdictions which are under legal obligations to extend cooperation to
Indian investigative agencies. This policy position is also reflected in the recent amend-
ment to the Scheme which limits listing of DRs on the back of securities of unlisted
companies to FATF/IOSCO compliant jurisdictions.6 . The international capital markets
use FATF and IOSCO standards to deal with money laundering and market abuse and
that should be adequate for DRs issued on Indian securities.
Under the extant Scheme, a listed company can issue shares for issue of DRs in any
jurisdiction and an unlisted company can do so in either FATF or IOSCO compliant
jurisdiction. In contrast, the Committee recommends that a company, listed or unlisted,
can issue shares for issue of DRs in a jurisdiction which complies with both FATF and
4.10 Should depository receipts necessarily be listed?
The Committee recommends that the law should not require DRs to be listed on any
The Scheme allows DRs to be transacted on exchanges, OTC exchanges and book-
entry transfer systems. The present formulation reads:7
"The Global Depository Receipts issued under this Scheme may be listed
on any of the Overseas Stock Exchanges, or over the counter exchanges or
through Book Entry Transfer Systems prevalent abroad and such receipts
may be purchased, possessed and freely transferable by a person who is a
non-resident within the meaning of section 2(q) of the Foreign Exchange
Regulation Act, 1973 (46 of 1973), subject to the provisions of that Act."
While there was a general agreement to continue the present dispensation, the
Committee had a detailed discussion on the desirability and feasibility of limiting issue
and trading of DRs issued on the back of listed securities to an `exchange' platform. It
noted that the extant Scheme allows DRs to be listed on overseas stock exchanges and
OTC exchanges and the term `exchange' has varied meanings in different jurisdictions.
While the vast majority of listing in India happens on the two national `standardised'
exchanges, this is not true for the rest of the world. Even India has about twenty
exchanges which have different standards of listing and trading of securities. It is,
therefore, possible that some `exchanges' may have standards inferior to those prevalent
in OTC markets. It would not be possible to grade exchanges internationally and limit
issue of DRs on select exchanges. Further, listing on an exchange itself does not prevent
risks of market abuse. The solution lies in improving the capacity to handle market
6 Seeparagraph 3, ibid.
7 Seeparagraph 6, Department of Economic Affairs, Ministry of Finance, Issue of Foreign Currency
Convertible Bonds and Ordinary Shares (Through Depositary Receipt Mechanism) Scheme, 1993, GSR
700(E), Nov. 12, 1993.
40 Issues and policy directions
Developed financial markets have a wide array of exchanges depending on tech-
nology used, participants allowed and information and trade matching rules. These
exchanges have played an important role in providing niche financing needs. Restricting
Indian firms to public `exchanges' will deny them the benefits of such niche markets.
The Report of the Financial Sector Legislative Reforms Commission has also recom-
mended that the law should be neutral in its treatment of organised financial trading
facilities.8 The Committee believes that restricting listed Indian companies from issuing
DRs in foreign OTC markets will be a step backwards. Prohibiting multiple avenues of
trading in securities will also inhibit the development of a rich competitive environment
in which securities are priced efficiently and exchanges are forced to maintain high
standards of integrity and service. Therefore, DRs issued on the back of any Indian
securities, listed or unlisted, may be listed on international exchanges as well as traded
on OTC systems abroad. This conforms to the present legal position. However, the
listing of DRs on an international exchange would carry certain privileges which the
Committee believes would encourage companies to prefer listing.
Two members of the Committee, namely, Mr. G. Padmanabhan and Mr. S. Ravindran,
are strongly of the view that the DRs on listed securities must be listed only on an
international stock exchange of comparable standard of major exchanges in India, for
the following reasons:
· Care should be taken to ensure that only genuine companies access funds abroad.
If many dubious companies are permitted to list abroad it will lead to eventual
increase in cost of capital for the Indian companies in future. Overseas regulators
will be concerned about the quality and genuineness of the issues only when retail
investors of their jurisdictions are permitted to participate. This will also enable
trading by overseas retail investors, thus, ensuring a level playing field between
the Indian and overseas markets.
· The stock exchanges for this purpose should be at least of the comparable stan-
dards with the major stock exchanges of India to ensure an acceptable level of
transparency, disclosures and accounting standards.
· The benefits envisaged, like higher valuation, greater shareholder protection,
greater visibility, greater analyst coverage, etc. on account of higher disclosure
standards, higher standards of corporate governance, better minority shareholder
protection, presence of sophisticated analysts, etc. prevailing in international
capital markets, shall accrue to the companies only by listing on public platforms
which are accessible to retail investors and not in OTC markets.
· As fungibility is allowed between DRs and the underlying Indian securities, an act
of manipulation in case of listed companies on account of lax regulatory regime
with respect to overseas OTC markets would ultimately have a bearing on the
integrity of market in India as has been seen by SEBI in recent GDR investigation
cases. Thus, DR programs in OTC markets should not be permitted for Indian
listed companies and listing on retail platform is imperative. This will also prove
to be a preventive measure for market abuse.
· The regulatory world is putting in checks and balances to restrict OTC markets
in respective jurisdictions and the G-20 recommendation is to move standardised
Clause 182, Financial Sector Legislative Reforms Commission, Indian Financial Code, Mar.
2013, URL: http://goo.gl/rInW6Râ.
4.11 How should underlying securities be priced? 41
OTC trades to exchange platforms.
4.11 How should underlying securities be priced?
The Committee recommends that permissible securities should not be issued to a foreign
depository for the purpose of issuing DRs at a price less than the price applicable to a
corresponding mode of issue of such securities to domestic investors under the applicable
laws. It believes that the floor price norm currently applicable to unlisted companies,
involving computation of the floor price based on discounted cash flows does not serve
any realistic purpose. This norm should be reviewed by the RBI.
The issue price of the fresh securities, against which DRs are proposed to be issued,
needs to be regulated to the extent necessary to protect Indian investors. Otherwise, DRs
against securities may be issued to a foreign investor at a price below the corresponding
issue price for the underlying securities offered to investors. Such under-pricing may
have the aim of unfairly diluting the investors' holding in the listed company. The law
must prevent such unfair practices. But beyond this, there is no reason for prescribing
any pricing norms for the underlying securities on the back of which DRs may be issued.
The present Scheme provides that for unlisted companies, the pricing should be
according to the Foreign Exchange Management Act, 1999.9 FEMA 20 provides that
in such cases, the fair valuation of shares should be carried out by a SEBI registered
Category-I Merchant Banker or a Chartered Accountant `as per the discounted free cash
flow method'.10 The Committee is of the opinion that discounted free cash flow method
may be used to subvert the purpose of the valuation itself. For this reasons, the RBI
should consider reviewing this provision. Further, the Committee is of the view that any
pricing norms can be subverted. Therefore, neither the law nor the regulations should
prescribe any specific pricing norm.
4.12 Is approval necessary for issue of depository receipts?
The Committee recommends that no specific approval should be necessary for issue or
creation of DRs on the back of any Indian securities. However, it does not recommend
dispensing with any approval that may be required under the Foreign Exchange Manage-
ment Act, 1999 for issue or transfer of underlying securities to any foreigner, including
a foreign depository for issue of DRs.
As explained above, DRs issued abroad do not in themselves compromise the market
integrity in India. If market abuse in India is suspected, the Indian authorities have
sufficient powers to investigate cross-border transactions across other FATF and IOSCO
compliant jurisdictions or in jurisdictions that have agreements with SEBI. Therefore, no
additional approval for issue or creation of DRs on the back of Indian securities should
be imposed by Indian laws.
DRs issued abroad are a source of foreign direct investment into the country. De-
pending on whether the industry comes within the approval route or automatic route,
9 See, DEA, see n. 7, paragraph 5(4)(e)(ii).
10 See, Reserve Bank of India, FEMA 20, see n. 7, Schedule 1.
42 Issues and policy directions
FIPB approval may be necessary.
It is, however, clarified that issue, creation, tendering or deposit of underlying Indian
securities may require approvals under other Indian laws. These approvals are applicable
irrespective of whether such securities are utilised for issue of DRs or for other purposes.
4.13 Should depository receipts form part of public shareholding?
The Committee recommends a two-phase approach. In the first phase, the Committee
recommends that DRs with underlying shares listed on a recognised stock exchange in
India should form part of public shareholding if such DRs entitle the holders of such
DRs to give voting instruction to the foreign depository and are listed on an international
exchange. In the second phase, based on the experience gathered, DRs in the OTC
system may also form part of public shareholding of a listed Indian company.
The reason for mandating a minimum level of public shareholding is to maintain the
minimum free-float and consequently reasonable liquidity of the shares in the domestic
market. This ensures that the shares are widely held, resulting in better price discovery
and reduced possibility of manipulation.
In case of DRs, the underlying shares are deposited with the domestic custodian. It
can be argued that removing the underlying shares from circulation reduces liquidity on
the domestic stock exchange. If so, the underlying shares must be excluded from the
minimum public shareholding of a listed company. But since the DRs can be cancelled
at any time and the underlying shares unlocked, liquidity might, in fact, not be affected.
If this is the case, then the underlying shares are no different from the other listed shares
and should form part of the minimum public shareholding.
The Committee commissioned a study to determine whether issue of DRs affects
the liquidity of the underlying listed shares on Indian stock exchanges. An event-study
analysis was carried out in which change in domestic trading volume of each firm was
measured during a period spanning ten days before and after the DR issue. The bold
line in the Figure 4.1 represents the average response of domestic volume for all firms
during the DR issue while the DR issue day was taken at day 0. The dotted lines are the
Figure 4.1 shows no significant change in the domestic volume after the issue of
DRs. From this it can be inferred that DR issue does not have any impact on domestic
trading volume in the short run. This study is supported by other studies carried out in
Australia and Israel.12
Based on these studies, the Committee concluded that the evidence supports the
proposition that issue of DRs does not negatively affect the liquidity in the shares of a
listed company in the domestic market. It is of the view that generally there is no need
to exclude shares on the back of which the DRs have been issued from numerator and
denominator, while calculating the public float of the company.
Further, there is a mismatch in the treatment of DRs under two different regulations.
While the DR holders have right to give voting instructions and have obligations under
11 The basic assumption is that DR issue take place by creating new shares.
12 See,Frino Alex and et. al., "The impact of ADR listing on liquidity", in: Market Insights (Sept.
2009); and Hauser, see n. 32.
4.14 Should depository receipts have voting rights? 43
Change in shares traded to total shares (percent)
q q q
q q q q
q q q q
-10 -5 0 5 10
Event time (days)
Figure 4.1: Event on DR issue and response of domestic trade
the Takeover Regulations, their holding do not form part of public shareholding.
In the first phase, for Indian companies with shares listed on an Indian stock ex-
change, DRs issued on the back of equity shares must form part of its minimum public
shareholding if the DRs entitle the holders to give voting instruction to the foreign
depository and if such DRs are listed on an international exchange. By `international ex-
change', the Committee means any platform in a foreign jurisdiction for trading of DRs
which is accessible to public and which provides pre-trade and post-trade transparency
Mr. S. Ravindran, one of the members of the Committee, is strongly of the opinion
that DRs should be included in public shareholding only if the following conditions are
· voting rights are available on such DRs;
· information regarding identity of ultimate beneficial owners and natural persons
who control is available;
· such DRs are listed and traded on stock exchanges' public platforms which are
accessible to retail investors of the jurisdiction; and
· there is instant fungibility between DRs and underlying shares.
4.14 Should depository receipts have voting rights?
The Committee recommends that the law should not prescribe anything about voting
rights or exercise of such rights in respect of DRs. It, however, notes that the DR holders
need to comply with the Takeover Regulations if they have the right to instruct the
foreign depository to vote on their behalf.
Under the company law, the shareholder is a member of the company and has
voting rights associated with the shares. The foreign depository being holder of shares
underlying the DRs is a member in the books of the company concerned. However,
44 Issues and policy directions
the exercise of such voting rights is usually governed by terms of issue / depository
agreement. It may provide that the DR holders have the right to instruct the foreign
depository to vote on their behalf. It often provides that the depository would vote as
per instruction from the board of the issuer.
In 2010, SEBI noted that there were different types of voting arrangements. These
· The right to give instructions to the custodian bank for exercise of voting rights
vests with the Board of Directors of the issuer company.
· The right vests with the DR holders.
· A combination of the two above, in which; in the first instance, the right to instruct
is with the holders of the DRs and in the event of their failure to exercise the said
right, it is deemed to have been vested with the Board of Directors of the issuer
It was noticed that the DR holder has no control over the terms of the deposit
agreement and has to accept them if she is interested in subscribing to the DRs.
Further, the SEBI Board considered whether it is advisable to restrict issuers from
inserting clauses which empower the management to exercise voting rights on DRs at
the expense of DR holders. The SEBI Board recommended to the Government/RBI to
modify the DR Guidelines to provide that the `terms of issue' should not curtail the voting
rights of DR holders and empower the management to exercise voting rights on DRs.14
The present Takeover Regulations have built on this experience and include `depository
receipts carrying an entitlement to exercise voting rights in the target company' within
the definition of `shares'.15
The Committee is of the view that businesses should be free to structure financial
products as per their business needs. Therefore, it may be commercially plausible to
have DRs with the right to instruct voting or with a right to the underlying cash flows
without voting rights. Further, a DR holder, not being a member of the company, cannot
directly exercise voting rights in the company.16 According to the draft rules issued
under section 41 of the Companies Act, 2013, a DR holder may become a member of
the company and be entitled to vote only on conversion of the depository receipts into
the underlying shares.17 Therefore, the Committee recommends that it is not necessary
to mandate anything about the voting rights on DRs.
For the growth of a sustainable market in corporate control it is essential to have
knowledge of the ownership structure of a company. In case of DRs, the identity of the
ultimate natural owner of DRs is not known, though only a Know Your Customer (KYC)
compliant person can hold DRs in a FATF jurisdiction. The Committee is of the view
that it is not necessary that the identity of the ultimate natural beneficial owner of a DR
be disclosed, except in cases of potential change in control or takeover of a company.
This position is in alignment with the present Indian laws that do not require disclosure
13 See, SEBI, Agenda and decision of the SEBI Board on Voting Rights of GDR / ADR holders, May 19,
2010, URL: http : / / www . sebi . gov . in / cms / sebi _ data / boardmeeting / 1299139899141 -
a.pdfcq (visited on 10/10/2013).
14 See, ibid.
15 See Regulation 2(v), SEBI, Takeover Regulations, see n. 17.
16 See, SEBI, Agenda and decision of the SEBI Board on Voting Rights of GDR / ADR holders, see
n. 13, paragraphs 5.0 to 10.0.
17 See, Ministry of Corporate Affairs, Draft Rules under section 41 of Companies Act, see n. 16, Rule 5.
4.15 How to deal with public shareholding for unsponsored issues? 45
of the identity of the ultimate natural owners of Indian securities. Since identity of the
ultimate natural person having beneficial ownership is not available even for Indian rupee
denominated equity shares and other securities, it will not be appropriate to highlight
DRs as a special concern.
However, the Committee notes that a recent amendment to the (Issue of Capital
and Disclosure Requirements) Regulations on August 26, 2013 requires an issuer to
disclose the identity of natural persons who would be ultimate beneficial owners of the
shares proposed to be allotted in preferential allotment.18 Though this is not strictly
comparable to issue of DRs, such a requirement in case of DRs cannot be monitored.
What is material is the cognisance of voting rights. The Committee understands that
if the DR holder has voting rights, this opacity may be misused for hostile takeover of
corporate control leading to unpredictablity. This issue is adequately addressed by the
Takeover Regulations. Therefore, the Committee has taken note that DR holders are
already subject to applicable disclosure norms and other obligations under the Takeover
Mr. S. Ravindran, a member of the Committee, is strongly of the view that in
absence of availability of information regarding identity of ultimate beneficial owners
and natural persons who control, the voting DRs would potentially expose the corporates
to unpredictability in the ownership structure which may not be in the interest of the
shareholders of such listed companies.
4.15 How to deal with public shareholding for unsponsored issues?
The Committee recommends that if listed shares are used for an unsponsored DR pro-
gram, such DRs must give the holders the right to instruct the foreign depository to vote
on their behalf and must be listed on an international exchange.
The Committee notes that there can be sponsored as well as unsponsored DRs. In
case of sponsored DRs, the company has given the consent and is, therefore, aware
of the consequences of issue of DRs on public shareholding. However, in case of
unsponsored DRs, the company has not given the consent. It is possible that when
a public shareholder transfers underlying shares to a foreign depository, the public
shareholding of the company would reduce if the underlying with the foreign depository
does not constitute part of public shareholding. In such cases, a company which is
otherwise complying with the public shareholding requirement can face concerns. It
is, therefore, necessary that the underlying shares transferred to a foreign depository
should form part of public shareholding. The Committee is, however, conscious that
this facility can be misused. A promoter can transfer the underlying shares from his
holding to a foreign depository and as a consequence, the company would meet public
To balance these concerns, the Committee recommends that the shares underlying
the DRs shall form part of public shareholding if the DRs holders have the right to
give voting instructions and such DRs are traded on an international exchange. And,
unsponsored DRs on underlying listed shares can be issued only if these are listed on an
international exchange and DR holders have the right to give voting instruction.
18 See Regulation 73, SEBI, (Issue of Capital and Disclosure Requirements) Regulations, 2009.
46 Issues and policy directions
4.16 How should depository receipts be taxed?
The Committee recommends that the following should not be taxable events in India:
· issue of permissible securities to a foreign depository;
· issue of depository receipts on the back of permissible securities;
· conversion of DRs into permissible securities;
· conversion of permissible securities into DRs;
· transfer of DRs in permissible jurisdictions.
The Committee recommends that the tax treatment of returns and transactions on
securities underlying DRs should be similar to that of any other underlying securities.
It, however, recommends that the tax treatment of transfer of underlying listed shares
through a public tendering process to a foreign depository for issue of DRs should be
aligned with that of sale of shares on a stock exchange.
The Committee further recommends that the Ministry of Finance should research
the desirability and feasibility of residence-based vs. source based taxation.
As explained earlier, DRs and the underlying securities are one and the same asset.
The creation of DRs on the back of underlying securities and conversion of DRs into
the underlying securities and vice versa, do not involve any transfer of asset and hence
should not attract any tax in India. Further, transactions in DRs do not involve transfer
of underlying securities from one person to another and hence should not attract any
tax in India. However, the transactions in DRs outside India may attract taxes, if any,
at applicable rates in those jurisdictions. This would ensure that use of DR route for
capital raising does not involve any additional tax and thereby does not distort investor
preference for the same asset.
Under the Income Tax Act, 1961, capital gains can be of two types:
1. `Long-term capital gain': Gains arising on the sale of shares held for more than
2. `Short-term capital gain': Gains arising on the sale of shares held for 12 months
Under the present law, with respect to a sale or purchase of equity shares on a
recognised stock exchange, both the buyer and seller are required to pay STT on the
total transaction value. Long-term capital gains realised upon sale of equity shares is
exempt from tax.19 Any short-term capital gain is taxed at 15% (plus applicable cess
and surcharge).20 The capital gains tax exemption is not available for an off-market
transaction. The differential tax treatment results in limited appetite for transferring
shares to a foreign depository for issue of DRs.
The Committee looked into the tax treatment provided to shareholders in an open
offer. It was noted that the Takeover Regulations Advisory Committee (TRAC) under the
Chairmanship of Mr. C. Achuthan had observed that open offers being a highly regulated
activity in the interest of investors, cannot be considered as off-market deal. Therefore,
the TRAC had recommended that the there should be parity in the tax treatment given to
the shareholders, who tender their shares in an open offer and those who are selling the
same in the open market.21
19 See section 10(38), see n. 11.
20 See section 111A, ibid.
21 See paragraph 17, Takeover Regulation Advisory Committee, Report of the Takeover Regulation
4.17 How to deal with market abuse? 47
The Committee observed that tendering of shares by shareholders of a company
in a sponsored DR issue is also an investor friendly activity and is different from an
off-market transaction. It is, therefore, desirable to align the tax treatment of tendering
of shares by shareholders of a listed company for issue of DRs with that of sale of shares
on a stock exchange.
DRs are convertible into the underlying securities. Since both are essentially the
same asset, the holder of the DRs also holds the underlying securities. Therefore, ideally
the period for which the foreign investor holds the DRs should be taken into account
in calculating the capital gains tax arising out of sale of the underlying securities by
the foreign investor in the domestic market. However, the foreign investor, who has
converted DRs into underlying securities, has bought the DRs in a foreign jurisdiction.
Therefore, it is recommended that, for the purposes of calculating capital gains tax under
Indian laws, the time for which the investor held the underlying securities will start from
the date on which the DR is converted into the underlying securities.
DRs being foreign securities traded in foreign jurisdictions will attract taxes in those
jurisdictions. If Indian laws impose tax on such transactions, it would amount to source
based taxation leading to double taxation. The present law provides that trading in DRs
outside India should not be amenable to tax in India. The Committee is of the view that
the present position be retained.
A deeper problem lies in the problem of source-based taxation. As has been em-
phasised by the Report of the Working Group on Foreign Investment, India's penchant
for source-based taxation is problematic. It is advantageous for an Indian firm to
list in a jurisdiction like Singapore, London or New York, as these countries practice
residence-based taxation, and make no attempt at taxing the financial income of non-
residents. Until Indian tax policy is made compatible with globalisation, on-shore
financial intermediation will be at a disadvantage.22 The Committee, therefore, en-
dorses the recommendation of Report of the Working Group on Foreign Investment that
the Ministry of Finance must embark on the technical studies about residence-based
4.17 How to deal with market abuse?
The Committee recommends that any use, intended or otherwise, of DRs with a potential
to cause market abuse in the Indian securities market would need to be dealt with as a
market abuse in India. For this purpose, `market abuse' shall mean any action prohibited
under Chapter VA of the SEBI Act, 1992. SEBI has adequate legal powers to address
issues concerning potential market abuse in DRs in jurisdictions that are FATF and
Since 2009 investigations carried out by SEBI have thrown light on the kinds of
market abuse that can happen in the DR market. Broadly, the entities involved have been
divided into three groups by SEBI:24
Advisory Committee, tech. rep., July 19, 2010.
22 See, Working Group on Foreign Investment, see n. 1, at pg. 125.
23 See, ibid., at pg. 125.
24 See paragraphs 53 to 59, SEBI, In the Matter of Market Manipulation Using GDR Issues, see n. 21.
48 Issues and policy directions
· Entities located overseas, which subscribe and deal in the DRs.
· FIIs or sub-accounts which buy DRs overseas, convert them into normal equity
and thereby bring these DRs to India in a form that is tradable in Indian bourses.
· Entities trading in Indian stock markets as majority counterparties to FIIs or
The steps involved in the `structured DR transactions' are claimed as follows:
· An arranger facilitates issue of capital raising DRs to particular foreign entities.
· Such issuances are typically for substantially large components of the pre-issue
paid up capital of the issuer company - in some instances, one-half to one-third of
the prior capital was issued as DRs, and typically such issues are by companies
having very poor traded volumes in the stock market.
· Certain FIIs related to the arranger convert a substantial volume of DRs into the
· The underlying securities are sold in India to a set of related counterparties on
domestic stock exchanges.
· The related counterparties in turn manipulate the price and volumes and sell down
to retails domestic investors after which the market volumes go back to erstwhile
minuscule levels, leaving retail investors holding illiquid stock.
The Committee observed that because of fungibility, the market for DRs in a foreign
jurisdiction is intricately linked to the domestic market for the underlying Indian secu-
rities. Any market abuse having an effect on the Indian market using the DRs abroad
will impact the Indian securities market. Therefore, the Committee is of the view that
any market abuse of the Indian securities market, merely because it may involve DRs in
the foreign jurisdiction, would not got out of the jurisdiction of the SEBI Act, 1992. A
contrivance or a device using DRs to manipulate price or volume and conduct fraudulent
securities transactions in India would fall foul of section 12A in Chapter VA of the SEBI
Act, 1992. It would be indeed be open to SEBI to use its ample powers to pursue such
cases and bring regulatory action if facts make out a violation.
The Committee believes that SEBI indeed has jurisdiction in such events and no
further provision is currently required for conferring jurisdiction. The Committee also
noted that the Supreme Court has ruled in favour of SEBI having jurisdiction even where
fraud or violations are found in unlisted securities of public companies. In Bhagwati v.
Peerless, the Supreme Court categorically stated:25
"...shares of Public Limited Company not listed in the stock- exchange is
covered within the ambit of Regulation Act."26
In Sahara v. SEBI, the Supreme Court observed:27
"The power vested with SEBI, is not limited in any manner, and shall there-
fore, be deemed to extend to both "listed" and "unlisted" public companies."
It would indeed be open to SEBI to use its ample powers to pursue such cases and
bring regulatory action if facts make out a violation.
25 See, Supreme Court of India, Bhagwati Developers Pvt Ltd v. Peerless General Finance and
Investment Company Ltd and Anr, (2013) 3 Company Law Journal 241, per Prasad, J.
26 `Regulation Act' here refers to the Securities Contracts (Regulation) Act, 1956.
27 See, Supreme Court of India, Sahara India Real Estate Corporation Ltd. v. Securities and Exchange
Board of India, (2013) 1 Supreme Court Cases 1, per Khehar, J.
4.18 How to deal with money laundering? 49
The Committee, therefore, believes that SEBI has adequate means of investigating
potential market abuse in cross-border transactions involving DRs. If such DRs are
issued only in jurisdictions compliant with IOSCO and FATF, it would be easier to have
engagement with regulators in these jurisdictions to get information necessary in aid
of such investigations. New financial instruments and markets will require more effort
from SEBI and other regulators for effective oversight. Under such circumstances, the
Committee is of the view that SEBI, being the regulator of market for securities, is the
appropriate authority to investigate market abuse related to DRs on the back of securities,
as defined in the Securities Contracts (Regulation) Act, 1956.
Mr. S. Ravindran, a member of the Committee, however, feels that SEBI can exercise
jurisdiction only over companies whose securities are listed or are proposed to be listed
on Indian stock exchanges.
4.18 How to deal with money laundering?
The Committee is of the view that the powers available to the enforcement directorate
and the FIU under the present law are adequate to collect necessary information and
investigate potential money laundering using DRs in FATF compliant jurisdictions.
Therefore, it recommends that DRs on underlying Indian securities should not be issued
in non-FATF compliant jurisdictions.
Concerns have been raised that the DR route provides new opportunities for money
laundering. Jurisdictions with weaker anti-money laundering regimes and financial
institution secrecy laws may be used to launder funds by investing in the DRs through
related parties. The conversion of these DRs could lead to laundering of proceeds of
The Committee deliberated on the chances of money laundering using the DR route
through jurisdictions with financial institution secrecy laws. The Committee is of the
view that as far as FATF countries are concerned, this should not be an issue. It was
noted that under the present laws FDI can come from non-FATF jurisdictions. The
FATF Recommendations, 2012 specifically impose a duty on the member countries
to `ensure that financial institution secrecy laws do not inhibit implementation of the
FATF Recommendations'.29 It further prohibits financial institutions `from keeping
anonymous accounts or accounts in obviously fictitious names'. Extensive customer due
diligence obligations have been imposed on financial institutions as adequate safeguards
against money laundering.30 The recommendations mandatorily require financial insti-
tutions to keep necessary records of transactions, both domestic and international, for
at least five years and report suspicious transactions to the FIU.31 There are extensive
provisions for international cooperation for sharing of information including exchange
of information between FIUs, financial supervisors and law enforcement authorities
of member countries.32 Therefore, the Committee is of the view that allowing DRs to
28 See paragraph 62, SEBI, In the Matter of Market Manipulation Using GDR Issues, see n. 21.
29 See Recommendation 9, Financial Action Task Force (FATF), FATF Recommendations, 2012, see
30 See Recommendation 10, ibid.
31 See Recommendation 11, ibid.
32 See Recommendation 40, ibid.
50 Issues and policy directions
be issued in any FATF compliant jurisdiction should be an adequate measure to check
potential money laundering.
The Committee notes that Issue of Foreign Currency Convertible Bonds and Ordinary
Shares (Through Depositary Mechanism)(Amendment) Scheme, 2013 enjoins upon SEBI
the duty to exercise oversight on unlisted companies related to Prevention of Money
Laundering Act, 2002 in respect of DRs sponsored by them. It requires the companies
to file a copy of the return which they submit to the proposed exchange/regulators also
to SEBI for the purpose of Prevention of Money Laundering Act, 2002 (PMLA).33
The Committee notes that under the Prevention of Money Laundering (Maintenance of
Records) Rules, 2005, financial market regulators, such as SEBI and RBI, have specified
roles.34 It is for the Government to define and redefine the responsibilities among the
FIU, financial market regulators and others depending on exigencies.
4.19 What should be the enforcement mechanism?
The Committee is of the view that SEBI can use appropriate powers available under the
present law to get necessary data about DRs issued on the back of Indian securities from
the domestic custodian. This data can be used by the RBI to enforce compliance with
the capital controls regime.
The Committee is of the view that under the existing laws SEBI has adequate powers
to investigate suspicious instances of market abuse using the DR route by coordinating
with the securities regulators of the corresponding foreign jurisdiction under the aegis
of IOSCO. It is of the view that under the existing laws the Enforcement Directorate
along with the FIU has adequate powers to investigate suspicious instances of money
laundering using the DR route by coordinating with the appropriate regulators in the
corresponding foreign jurisdictions under the FATF framework.
When the Scheme was notified in 1993, both IOSCO and FATF were fledgling
institutions. Then the international capital markets did not have to meet FATF and
IOSCO standards. The Scheme, therefore, allowed an issuer to sponsor DRs in any
jurisdiction. However, the amendment to the Scheme in 2013 clearly recognises the
power of FATF and IOSCO and limits the issue of DRs by unlisted companies to
FATF/IOSCO compliant jurisdictions. The international capital market uses the FATF
and IOSCO mechanism to deal with money laundering and market abuse respectively.
There is no reason why these two standards should not be adequate from the perspective
of India or why India should look for additional cover.
4.20 Which law/authority should govern issue of depository re-
The Committee acknowledges that the issue of depository receipts abroad can not be
governed by an authority in India. RBI, SEBI, Ministry of Corporate Affairs and Min-
istry of Finance, all have a role and can use appropriate powers available under the
present law to get necessary data about DRs issued on the back of Indian securities from
33 See paragraph 3, Ministry of Finance, Issue of Foreign Currency Convertible Bonds and Ordinary
Shares (Through Depositary Mechanism)(Amendment) Scheme, 2013, see n. 5.
34 See Rules 3, 4, 5 and 7, Prevention of Money Laundering (Maintenance of Records) Rules, 2005.
4.20 Which law/authority should govern issue of depository receipts? 51
the domestic custodian.
DR is a superstructure. Its foundations lay in the matters which are governed
under company law, securities law, foreign exchange law, capital controls and money
laundering and these matters are administered by various authorities. The Scheme
merely synchronises the various provisions of these laws to make issue of DRs possible.
Whether DRs are issued or not, these matters in any case would need to be governed
adequately. If such matters are well governed, the DRs as such do not create any concern.
Besides, no single authority has jurisdiction over all these matters.
As explained before, there is no need for any approval or oversight over the issue of
DRs abroad against Indian securities. However, it is prudent to have necessary legal pow-
ers to extract necessary data for regulatory purposes. In every issue of DRs, the domestic
custodian will provide custodial services for the Indian securities and should ensure
compliance with Indian laws before agreeing to provide custodial services. Therefore,
the Committee is of the view that SEBI and other authorities can use appropriate powers
available under the present law to get necessary data from the domestic custodian.
5 -- Conclusion
This Chapter summarises the principles guiding the recommendations of the Committee
and its recommendations based on the same. It uses the relevant recommendations to
draft a brand new DR scheme which may replace the extant 1993 Scheme. It explains
the draft scheme in common parlance. It ends with suggestions for further areas of work
which would complement this work.
The principles guiding the recommendations of the Committee are:
1. The recommendations are circumscribed by the foreign investment regime in
vogue in India. Without seeking any change in the said regime, the Committee
has attempted to reform the framework for depository receipts, though it believes
that the foreign investment regime presents ample scope and need for reforms.
2. The Indian firms, domestic investors and foreign investors must have full free-
dom to access financial services, including capital, within the prevalent foreign
investment regime. The State should be agnostic if a firm uses DR route or FDI
route to secure investment from overseas or if a foreign investor invests in the
country / a firm through DR route or FII route as long as the total investment in
Indian firms is within the permissible limits. Therefore, DRs should not suffer
any additional restriction or enjoy any privilege compared to any other route of
3. There should not be any intervention that can distort the freedom of choice of the
Indian firms, domestic investors or foreign investors unless there is likelihood or
evidence of market failure.
4. The potential for misuse of a particular mode of participation or access should
not prohibit the mode. The solution lies in addressing the misuse by upgrading
capability to prevent, detect and penalise the misuse.
5. While protection of domestic investors in securities is a primary concern for the
State, the protection of foreign investors in DRs is not. The Committee believes
that the regulator of the relevant jurisdiction would screen the DRs in the interest
of investors in those jurisdictions as Indian authorities do before allowing issue of
IDRs in India.
6. The taxation regime should be neutral between domestic investors in securities
and foreign investors in securities or DRs on securities.
7. The issue of DRs should not inconvenience or adversely affect the interests of
existing holders of securities.
8. FATF concerns are real and should be addressed while allowing foreign invest-
9. FCCB is a type of instrument distinct from the securities and, therefore, FCCBs
or DRs on the same needs to be dealt with separately.
10. The provisions which have lost utility or have become irritants in course time
should give way to contemporary provisions in the changed environment.
The Committee recommends as under:
1. Any person permitted under the laws of a foreign jurisdiction, which is FATF and
IOSCO compliant, to carry on the business of issuing DRs in that jurisdiction and
not prohibited from acquiring securities in India should be able to act as a foreign
depository for issue of DRs on the back of Indian securities. Indian law should
not regulate any eligibility requirement for a foreign depository.
2. A custodian of securities, a depository, a depository participant, or a bank having
permission from SEBI to provide services should act as custodian of underlying
3. The custodian should have the obligation to provide various information to the
authorities in respect of issue and redemption of DRs and ensure compliance with
the law before agreeing to provide custodial services in respect of permissible
4. Irrespective of its track record or performance, any Indian issuer should be able
to issue fresh securities on the back of which DRs may be issued abroad by a
foreign depository. This would be issue of DRs for capital raising purposes. Only
exception to this is an issuer who has been specifically prohibited by an Indian
authority to issue capital or access capital market. The regulatory prohibition is
sacrosanct and must not be circumvented. Otherwise, a prohibited issuer would
issue permissible securities based on which DRs would be issued and such DRs
would be converted back in course of time into permissible securities tradeable in
India. Thus, the issuer can do something indirectly which it could not have done
5. Any person holding Indian securities should be able to transfer the securities on
the back of which DRs may be issued abroad by a foreign depository. This means
that DRs should be allowed to be issued for non-capital raising purposes also.
Such person may transfer securities with or without approval of the issuer of such
securities. She may transfer the securities to the foreign depository on exchange,
off exchange or through a tender process. If it does not have approval of the
issuer, it would be called unsponsored DRs. If such DRs have listed securities as
5.2 Recommendations 55
underlying, these need to be listed on an international exchange and DR holders
must have the right to give voting instructions, that is, the right to direct the
foreign depository to vote in a particular manner on their behalf in respect of such
6. The DRs should be allowed to be issued on any kind of securities and not on
equity shares only. These securities could be issued by any entity, company
- public or private, listed or unlisted - mutual funds, government or any other
issuer. However, these securities should be available in dematerialised form and
should be accessible to residents outside India under the extant Foreign Exchange
Management Act, 1999 (FEMA).
7. The DRs should be subject to the same capital controls as are applicable to
underlying securities. If foreign investment is permitted under the extant FEMA
in any securities in India, DRs should be allowed to be issued abroad on the back
of such securities to the extent foreign investment is allowed in such securities in
India. Therefore, there should be no restriction on the amount up to which DRs
can be issued, as is the present position. Similarly, the DRs should be allowed to
be converted to underlying securities and vice versa within the limits under the
FEMA. The conversion ratio of DRs to permissible securities should be left to
commercial considerations of the parties.
8. Any person should be able to subscribe to the DRs issued on the back of underlying
securities. This means that a foreigner as well as an Indian should have the option
to buy both Indian securities as well as the DRs on them. However, the underlying
securities cannot be issued to or purchased by a foreigner who is not allowed to
deal in Indian securities.
9. The DRs should be issued only in a foreign jurisdiction that satisfies twin require-
ments, namely, the foreign jurisdiction is a member of the FATF and the securities
regulator of that jurisdiction is a member of IOSCO.
10. The law should not require the DRs to be necessarily listed on a formal interna-
tional exchange. Two members of the Committee however insist that the DRs
issued on the back of listed securities must be listed on international stock ex-
change of comparable standards of major stock exchanges in India.
11. In case of a listed company, fresh securities on the back of which DRs may be is-
sued, should be issued at a price not less than the price applicable to corresponding
mode of issue to domestic investors.
12. The price norm currently applicable for issue of unlisted securities for the purpose
of issuing DRs, which uses discounted cash flows method based on so many
assumptions about uncertain future, does not serve any realistic purpose. This
requirement should be dispensed with.
13. There should be no end use restrictions on the funds raised through the issue of
DRs. The end use restrictions as are applicable to issue of permissible securities
under FEMA should apply to DRs also.
14. No approval should be necessary for issue or creation or redemption of DRs on
the back of any Indian securities. However, no approval required for issue of
underlying securities to a foreign depository under the FEMA should be dispensed
15. The DRs based on equity shares of a listed company should form part of public
shareholding if such DRs entitle the holders the right to issue voting instructions
and are listed on an international exchange. For this purpose, international ex-
change would mean a trading platform which is accessible to public and which
provides pre-trade and post-trade transparency. Based on the experience gathered,
if considered appropriate, the DRs in the OTC system may be included in public
shareholding. However, one of the members is of the view that to form part of
public shareholding, such DRs should meet two additional requirements, namely,
the identity of ultimate beneficial owners and natural persons who control such
DRs are available and there is instant fungibility between the underlying shares
and the DRs.
16. While the voting rights should be exercised by the foreign depository in respect of
underlying securities, the depository may take instruction from DR holders. If the
DR holders have the right to instruct the depository to vote on their behalf, they
should have obligations under the Takeover Regulations. This would enable the
DRs with voting rights to count for public holding as well as have the obligations
under the Takeover Regulations.
17. The tax treatment of DRs should be similar to that of the underlying securities.
18. The conversion of a DR into the underlying securities and vice versa should not
be taxable events. The trading of DRs outside India should not attract any tax in
19. The tax treatment of transfer of securities by holders of such securities through
a public tendering process to a foreign depository for issue of DRs should be
aligned with that of transfer of shares on a stock exchange.
20. The use of DRs or market of DRs which has potential to cause abuse of the Indian
market for underlying securities should be considered as abuse of the Indian
securities market and should be dealt with accordingly. SEBI should be able
to gather relevant information from domestic custodian directly and through its
counterpart in foreign jurisdiction from foreign depository. It should be able to
deal with market abuse adequately.
21. The powers available to the enforcement directorate and the FIU under the present
laws are adequate to collect necessary information and investigate suspicious
money laundering using DRs in FATF compliant jurisdictions. SEBI should
continue to play the same role as it has been assigned under the Prevention
of Money Laundering (Maintenance of Records) Rules, 2005 in coordination
with FIU and enforcement directorate. One of the members however feels that
monitoring of compliance of unlisted companies with PMLA may not be feasible
under the existing legal framework.
5.3 The Depository Receipt Scheme, 2013
Based on the analysis in the preceding chapters and the recommendations crystallised at
Chapter 5.2, the Committee has drafted the Depository Receipts Scheme, 2013 which
is at Annexure-D. The scheme provides a comprehensive framework for issue and
redemption of depository receipts based on Indian securities within the extant foreign
investment regime, while each of the economic agents, namely, the issuers of securities,
the holders of securities, and the holders of DRs have full freedom to participate in
5.3 The Depository Receipt Scheme, 2013 57
the market for DRs. The scheme does not lay down a stringent framework to protect
the interests of DR holders, which the Committee feels, is the responsibility of the
regulators in those jurisdictions. It, however, treats the investors in securities and the
foreign investors in DRs at par in terms of taxation and ensures that the permissible
securities are not issued to a foreign depository on favourable terms. The salient features
of the scheme are:
1. A DR is a foreign currency denominated instrument which can be subscribed by
any person, including an Indian, albeit within his outward remittance entitlement.
2. DRs can be issued in a foreign jurisdiction which is a member of FATF and
the regulator of securities market of that jurisdiction is a member of IOSCO.
This jurisdiction is called permissible jurisdiction in the scheme. Under the
earlier Scheme, the listed companies could sponsor DRs in non-FATF/non-IOSCO
3. These can be issued by a foreign depository which is regulated in a permissible
jurisdiction and has permission to issue DRs in the permissible foreign jurisdiction.
Under the earlier Scheme, it was any bank authorised by the issuer.
4. These can be issued on the back of securities issued or transferred to a foreign
depository and deposited with a domestic custodian. Such custodian is a regulated
entity in India and has the permission to provide services as a custodian for these
5. These can be issued on the back of securities, as defined under the securities
laws (earlier it was limited to equity of companies) and similar instruments
issued by private companies, which are in dematerialised form (demat was not
a requirement earlier) and which can be acquired by persons resident outside
India under the FEMA. These securities are called permissible securities under
the scheme. However, DRs can not be issued on FCCB which was allowed under
the earlier Scheme.
6. These can be issued by the foreign depository by way of public offering or private
placement or in any other manner prevalent in the permissible jurisdiction.
7. These may be listed or traded on a platform in a permissible jurisdiction which
is accessible to public for trading and which provides pre-trade and post-trade
transparency. Such a platform is called international exchange under the scheme.
It is not necessary to list or trade DRs on an international exchange. If these are
listed on such an exchange, the underlying permissible securities would enjoy
8. These can be issued on the back of permissible securities with or without the
approval of the issuer of such securities. The DRs issued without the approval
of the issuer concerned are called unsponsored DRs. Under the earlier Scheme,
unsponsored DRs were not explicitly allowed.
9. Unsponsored DRs on listed securities as the underlying can be issued only if such
DRs give the holders the right to issue voting instruction and are listed on an
international exchange so that these form part of public shareholding.
10. The issue of DRs as such shall not require any approval under any law from any
authority in India. However, the issue or transfer of permissible securities to a
person resident outside India to form the underlying for DRs would require the
approvals, if any, under the FEMA.
11. The issuer of permissible securities could be a company - listed or unlisted, private
or public - of varying standards. The scheme does not lay down any standard
for issuers of permissible securities for issue of DRs and believes that this is best
decided by the authorities of the permissible jurisdictions. This is similar to the
provisions in the rules relating to IDRs, which prescribes eligibility for issuers for
sponsoring DRs in India.
12. The permissible securities underlying the DRs can be issued to the foreign deposi-
tory by any mode permissible for issue of such securities to domestic investors.
13. The permissible securities underlying the DRs can be issued to the foreign deposi-
tory at a price not less than the price, if any, applicable to the corresponding mode
of issue of such securities to domestic investors under the Indian law.
14. The permissible securities underlying the DRs can be transferred to the foreign
depository by holders of such securities through transactions on an Indian stock
exchange, on OTC or on tender through a public platform. The DRs issued on the
back of permissible securities transferred by holders of such securities is called
non-capital raising DRs.
15. The permissible securities can be issued or transferred to a foreign depository for
issue of DRs up to the limit such securities can be allotted to persons resident
outside India under the FEMA.
16. The DRs can be converted back to permissible securities and vice versa within the
17. The foreign depository shall exercise voting rights, if any, in respect of permissible
securities. The terms of issue of DRs may give a right to the DR holder to issue
18. If the DR holders have the right to instruct the depository to vote on their behalf
and the DRs are listed on an international exchange, the shares underlying such
DRs will form part of public shareholding in case of listed companies. Such
holders of DRs shall have the same obligations as if they are holders of the
underlying permissible securities. For example, a holder of DR shall comply with
the Takeover Regulations if applicable to the underlying permissible securities. In
any other case, such shares shall not be part of total holding or public shareholding.
19. The persons issuing or transferring permissible securities to the foreign depository
and the custodian holding such securities shall be responsible for compliance with
20. The depositories and custodians shall have the obligation to maintain certain
records and disseminate certain information. The custodian shall file with SEBI the
document issuing the DRs on the back of securities (not permissible securities) in
a permissible jurisdiction. The Indian depositories shall disseminate the details of
outstanding DRs and the extent to which permissible securities may be converted
21. The use of DRs or market of DRs to abuse the Indian market for underlying
securities shall be considered as abuse of the Indian securities market and should
be dealt accordingly. The abuse for this purpose would mean insider trading,
fraudulent and unfair trade practices and takeover irregularities to the extent
applicable to permissible securities. Though this is clarificatory, this would serve
as a strong deterrent for potential miscreants in the market for DRs.
5.3 The Depository Receipt Scheme, 2013 59
22. The issue of permissible securities to the foreign depository, issue of DRs, conver-
sion of DRs into permissible securities and vice versa and transfer of DRs would
not attract any tax under Indian law.
23. The transfer of permissible securities from holders of securities to a foreign
depository will be taxed in the same manner as that kind of transaction is taxed.
However, if such transfer happens through a public tendering process, it would be
taxed at par with a transaction on stock exchange in India.
24. The returns on permissible underlying securities to a foreign depository and
transfer of permissible securities after conversion from DRs shall be taxed as
domestic investors are taxed in such events.
25. The various provisions of the scheme shall be implemented by the respective
authorities, namely, Ministry of Finance, Ministry of Corporate Affairs, RBI and
26. This scheme will replace the Issue of Foreign Currency Convertible Bonds and
Ordinary Shares (Through Depository Receipts) Scheme, 1993 except to the extent
relating to FCCBs.
The major changes in the framework for issue of DRs by companies are summarised
in Table 5.1. A detailed comparison of the extant Scheme and the proposed scheme is
presented in Table 5.2.
Table 5.1: Eligible companies and jurisdictions
Company DRs Purpose Mode of Issue of DRs Permissible
Extant Framework Proposed Framework
FATF/IOSCOa Others FATF and IOSCOb Others
Listed Company Sponsored Capital Raising Listing Yes Yes Yes No
No Listing Yes Yes Yes No
Non-Capital raising Listing Yes Yes Yes No
No Listing Yes Yes Yes No
Unsponsored Non-Capital raising Listing Doubtful Doubtful Yes No
No Listing Doubtful Doubtful Yes No
Unlisted Company Sponsored Capital Raising Listing Yes No Yes No
No Listing Noc No Yes No
Non-Capital raising Listing Yes No Yes No
No Listing No d No Yes No
Unsponsored Non-Capital raising Listing No No Yes No
No Listing No No Yes No
a The jurisdiction has to be either FATF compliant or IOSCO compliant.
b The jurisdiction has to be both FATF and IOSCO compliant.
c It was allowed till October 10, 2013.
d It was allowed till October 10, 2013.
5.3 The Depository Receipt Scheme, 2013 61
Table 5.2: Detailed comparison of the 1993 Scheme and the
Sl. No. Parameter 1993 Scheme Proposed Scheme
1 Approval for issue of Required from Not required
DRs from authorities MoF
2 Issuer of DRs (foreignA bank autho- A regulated per-
depository) rized by issuer son having legal
of underlying capacity to issue
3 Custodian of DRs (do- A bank which acts A regulated en-
mestic custodian) as a custodian tity having legal
capacity to act
as custodian for
4 Jurisdictions for issue of Anywhere for FATF and IOSCO
DRs listed companies; compliant juris-
5 Purpose of issue of DRs Capital raising No change
6 Quantity / Limit on is- No limit No change
sue of DRs
7 Kind of issue of DRs Sponsored Both sponsored
8 Mode of issue of DRs Public offer, pri- No change
vate placement or
any other manner
9 Listing of DRs Not required No change
10 End Use Restricted No restriction
11 Securities underlying Equity shares and Any securities
DRs FCCB which are avail-
able to persons
India and in
12 Subscribers of DRs Any person No change
13 Mode of issue of under- Any mode permis- No change
lying shares sible under law
14 Mode of transfer of un- Not applicable On Exchange, Off
derlying securities to Exchange and ten-
foreign depository der process
15 Pricing of Listed shares as Listed shares as
underlying per SEBI rules; per SEBI rules;
Unlisted shares No restriction on
as per discounted other securities
cash flow method
16 Issuer of underlying se- Any company - Any issuer - listed
curities listed or unlisted or unlisted
17 Whether underlying No Yes subject to cer-
shares form part public tain conditions
18 Conversion from under- Permissible No change
lying securities to DRs
and vice versa
19 Voting rights associated Foreign deposi- No change
with underlying securi- tory
20 Obligations No explicit provi- Custodian, de-
sion pository, issuer
21 Market Abuse No explicit provi- To be dealt by
22 Oversight on PMLA FIU, Enforcement No change
23 Taxation More than those At par with do-
applicable to do- mestic investors /
mestic investors / domestic securi-
domestic securi- ties
5.4 Implementing the scheme
For convenience of the agencies which are required to implement the above recommen-
dations, the Committee identified the various agencies which would be responsible for
implementation of the various paragraphs in the scheme as in Table 5.3.
Table 5.3: Implementation of the Scheme
Paragraph in scheme Agency to implement Instrument for implementation
Entire scheme Ministry of Finance Gazette Notification
2.1(a) SEBI Custodian Regulations; Depositories Regulations
2.1(g) Explanation Ministry of Finance Schedule to be notified
2.1(h)(ii) SEBI SEBI to specify instruments issued by private companies as
`security' for dematerialisation
3.1 RBI FEMA Notification
3.2 SEBI and stock exchanges Listing agreement
4 and 5 RBI FEMA Notification
6 RBI and SEBI FEMA Notification; (Issue of Capital and Disclosure Re-
7.1 Ministry of Corporate Affairs Clarification under the Companies Act, 2013
7.2 Ministry of Finance Securities Contracts (Regulation) Rules
7.3 Ministry of Finance, SEBI and Stock Exchange Listing Agreement; Securities Contracts (Regulation) Rules
7.4 SEBI Provided in Takeover Regulations
8.1 SEBI Custodian Regulations; Depositories Regulations
8.2 SEBI Depositories Regulations
8.3 RBI FEMA Notification
9 Ministry of Finance Taxation laws
10 RBI FEMA Notification
11 SEBI Respective Regulations
12 RBI FEMA Notification
Schedule Ministry of Finance Gazette Notification
5.5 Further areas of work
The Committee feels that reforms in a niche segment like DRs would not yield full
benefits. The entire framework governing capital controls and foreign investment need
to be reviewed comprehensively. This would include in particular review of framework
· External Commercial Borrowings (ECBs) and FCCBs;
· Direct listing of Indian companies abroad;
· Dual listing of Indian companies;
· FII-FDI regime;
· Residence-based taxation vis-a-vis source based taxation; and
· Relationship between authorities in India and in foreign jurisdictions.
Abdallah, Abed Al-Nasser and Christos Ioannidis, "Why do firms cross-list? Inter-
national evidence from the US market", in: Quarterly Review of Economics and
Finance 5 (2010), pp. 202213.
Alex, Frino and et. al., "The impact of ADR listing on liquidity", in: Market Insights
Benos, Evangelos and Michael S. Weisbach, "Private benefits and cross-listings in the
United States", in: Emerging Markets Review 5 (2004), pp. 217240.
Coffee Jr., John C., "Racing Towards the Top: The Impact of Cross-Listings and Stock
Market Competition on International Corporate Governance", in: Columbia Law
Review 102 (2002).
Hauser, Shmuel, "The effects of dual listing on share prices and liquidity in the absence
of registration costs", in: Journal of Service Science and Management 4 (2011),
Howell, James Bo, "SEC Rule 144 and the Global Market", in: Asper Review of Interna-
tional Business and Trade Law 7 (2007).
Karolyi, G. Andrew, "Why do Companies List Shares Abroad?: A Survey of the Ev-
idence and Its Managerial Implications", in: Financial Markets, Institutions and
Instruments 7 (1998).
Patnaik, Ila and Ajay Shah, "The investment technology of foreign and domestic insti-
tutional investors in an emerging market", in: Journal of International Money and
Finance 39 (2013), pp. 6588.
"Red Chips Rising", in: Business Week (International Edition) (June 8, 1997), URL:
Stigler, Matthew, Ajay Shah, and Ila Patnaik, "Understanding the ADR premium under
market segmentation", in: NIPFP Working Paper Series (July 29, 2010), URL: http:
Velli, Joseph, "American Depository Receipts: An Overview", in: Fordham International
Law Journal 17 (1994).
Companies Act, 1956.
Companies Act, 2013.
Constitution of India, 1950.
Department of Economic Affairs, Ministry of Finance, Issue of Foreign Currency Con-
vertible Bonds and Ordinary Shares (Through Depositary Receipt Mechanism)
Scheme, 1993, GSR 700(E), Nov. 12, 1993.
Department of Industrial Policy and Promotion, Ministry of Commerce and Industry,
Consolidated FDI Policy, Apr. 5, 2013, URL: dipp.nic.in/English/Policies/
Financial Sector Legislative Reforms Commission, Indian Financial Code, Mar. 2013,
Foreign Exchange Management Act, 1999.
Income Tax Act, 1961.
Ministry of Corporate Affairs, Companies (Issue Of Indian Depository Receipts) Rules,
2004, Notification number GSR 131(E) dated 23rd February 2004.
-- Draft Rules under section 41 of Companies Act, 2013.
National Stock Exchange, Model Listing Agreement, May 13, 2013, URL: http://www.
Press Information Bureau, Government of India, Finance Minister's Speech, Oct. 24,
2013, URL: www.finmin.nic.in/press_room/2013/FMspeech_8thFSDC24102013.
pdf (visited on 11/24/2013).
Prevention of Money Laundering Act, 2002.
Prevention of Money Laundering (Maintenance of Records) Rules, 2005.
Reserve Bank of India, Amendment to the `Issue of Foreign Currency Convertible Bonds
and Ordinary shares (Through Depository Receipt Mechanism) Scheme, 1993', A.P.
(DIR Series) Circular No. 69, Nov. 8, 2013.
-- Foreign Exchange Management (Transfer or issue of security by a person resident
outside India) Regulations, 2000, Notification No. FEMA 20/2000-RB dated 3rd
May 2000, May 17, 2000.
SEBI, (Custodian of Securities) Regulations, 1996.
-- (Depositories and Participants) Regulations, 1996.
-- (Issue of Capital and Disclosure Requirements) Regulations, 2009.
-- (Substantial Acquisition of Shares and Takeovers) Regulations, 2011.
SEBI Act, 1992.
Securities and Exchange Commission, General Rules and Regulations, Securities Act
of 1933, 17 CFR 230.114A, 1933.
Securities Contracts (Regulation) Act, 1956.
Securities Contracts (Regulation) Rules, 1957.
Securities Laws (Amendment) Second Ordinance, 2013, Sept. 16, 2013.
The International Organization of Securities Commissions, Multilateral Memorandum
of Understanding Concerning Consultation and Cooperation and the Exchange of
Information, May 2002 (version revised upto May 2012).
Unlawful Activities (Prevention) Act, 1967.
Committee for Promotion of Investments in Publicly Traded Research and Development
Companies, Interim Report, tech. rep., Israel Securities Authority, 2013.
Committee on Financial Sector Reforms, Report of the Committee on Financial Sector
Reforms, tech. rep., Planning Commission of India, Sept. 12, 2008.
Financial Action Task Force (FATF), FATF Annual Report, tech. rep., Financial Action
Task Force, 2009-10, URL: www . fatf - gafi . org / media / fatf / documents /
reports/2009%202010%20ENG.pdf (visited on 10/19/2013).
-- FATF Recommendations, 2012, tech. rep., Financial Action Task Force, 2012, URL:
pdfs/FATF_Recommendations.pdf (visited on 10/19/2013).
Financial Sector Legislative Reforms Commission, Report of the Financial Sector
Legislative Reforms Commission, tech. rep., Government of India, 2013.
Ministry of Finance, Report of the High Powered Expert Committee on Making Mumbai
an International Financial Centre, tech. rep., Feb. 10, 2007.
Takeover Regulation Advisory Committee, Report of the Takeover Regulation Advisory
Committee, tech. rep., July 19, 2010.
Working Group on Foreign Investment, Report of the Working Group on Foreign In-
vestment, tech. rep., Department of Economic Affairs, Ministry of Finance, July 30,
Bombay High Court, Price Waterhouse and Co. v. Securities and Exchange Board of
India,  160 Company Cases 324.
Ministry of Finance, Issue of Foreign Currency Convertible Bonds and Ordinary Shares
(Through Depositary Mechanism)(Amendment) Scheme, 2013, Notification No. GSR
684(E) [F.No.4/13/2012-ECB], Oct. 11, 2013.
SEBI, Agenda and decision of the SEBI Board on Voting Rights of GDR / ADR hold-
ers, May 19, 2010, URL: http : / / www . sebi . gov . in / cms / sebi _ data /
boardmeeting/1299139899141-a.pdfcq (visited on 10/10/2013).
-- In the Matter of Market Manipulation Using GDR Issues, WTM/PS/ISD/02/2011,
Sept. 21, 2011.
Shah, Ajay, The Tale of One Market Inneficiency, Abnormal Returns around GDR Issues
by Indian Firms, Apr. 14, 1995, URL: http://126.96.36.199/eps/fin/
papers/9507/9507001.pdf (visited on 10/19/2013).
Supreme Court of India, Bhagwati Developers Pvt Ltd v. Peerless General Finance and
Investment Company Ltd and Anr, (2013) 3 Company Law Journal 241.
-- N. Narayanan v. Adjudicating Officer, SEBI, (2013) 178 Company Cases 390.
-- Rai Sahib Ram Jaway Kapur v. The State of Punjab, All India Reporter 1955 Supreme
-- Sahara India Real Estate Corporation Ltd. v. Securities and Exchange Board of
India, (2013) 1 Supreme Court Cases 1.
Stakeholders who engaged with the Committee
Sl. No. Name Designation Organisation
1. Mr. Ashok Khurana Director General Association of Power
2. Mr. Debashish Purohit Head, Equity Capital Markets BAML
3. Mr. Neil Atkinson Vice-President, Depository BNY Mellon
4. Mr. Vinu Kurian Vice-President, Depository BNY Mellon
5. Mr. Arun Chatterjee Vice President, BNY Mellon
6. Ms. Aparna Salunke Vice-President, BNY Mellon
7. Mr. Abhishek Agarwal Vice President, Issuer Services Citi
Sales Securities & Fund
8. Mr. S. Nagnath President and Chief Investment DSP Blackrock Investment
Officer Managers Pvt. Ltd.
9. Mr. P.V. Krishna Managing Director Goldman Sachs
10. Mr. Sanjiv Shah Co-Chief Executive Director Goldman Sachs
11. Mr. Vinay Menon Managing Director, Equity JP Morgan
Capital & Derivatives Market
12. Mr. Vijay Bhojwani Vice President, Depository JP Morgan
13. Mr. Alastair Walmsley Head, Primary Markets London Stock Exchange
14. Dr. Darko Hajdukovic Senior Manager, Primary London Stock Exchange
15. Mr. J.N. Tikku Joint Director Ministry of Corporate
16. Mr. Manu J. Vettickan Deputy Director Ministry of Finance
17. Mr. Jitendra Asati Assistant Director Ministry of Finance
18. Mr. H.S. Mohanty DGM RBI
19. Mr. V.S. Sundaresan CGM SEBI
20. Mr. Amit Tandon DGM SEBI
21. Mr. Anjan Patel AGM SEBI
22. Mr. Shailesh Pathak President SREI Infrastructure Ltd.
23. Mr. Ashok Pareek Executive Director SREI Capital Markets
24. Mr. Suresh C. Senapaty Executive Director & Chief Wipro
25. Mr. Partha Sarathi Guha Patra Vice-President & Head- Wipro
MINISTRY OF FINANCE
(Department of Economic Affairs)
New Delhi, 11th October, 2013
Foreign Currency Convertible Bonds and Ordinary Shares (Through
Depositary Receipt Mechanism)(Amendment) Scheme, 2013
G.S.R. 684(E). -- Central Government hereby amend the Foreign Currency
Convertible Bonds and Ordinary Shares (Through Depositary Receipt
Mechanism) Scheme, 1993, namely: -
1. This Scheme may be called the issue of Foreign Currency Convertible
Bonds and Ordinary Shares (Through Depositary Receipt Mechanism)
(Amendment) Scheme, 2013.
2. The Scheme shall be deemed to have come into force from the date of
publication of Notification; and
3. In the Foreign Currency Convertible Bonds and Ordinary Shares
(Through Depositary Receipt Mechanism) Scheme, 1993;
In Paragraph 3(1)(B) the words "Unlisted Indian Companies Issuing
Global Depository Receipts/Foreign Currency Convertible Bonds shall
be required to simultaneously list in the Indian stock Exchanges(s)"
shall be replaced by the following
"Unlisted companies shall be allowed to raise capital abroad without the
requirement of prior or subsequent listing in India initially for a period of two
years subject to the following conditions.
a. Unlisted companies shall list abroad only on exchanges in
IOSCO/FATF compliant jurisdictions or those jurisdictions with
which SEBI has signed bilateral agreements;
b. The Companies shall file a copy of the return which they
submit to the proposed exchange/regulators also to SEBI for the
purpose of PMLA. They shall comply with SEBI's disclosure
requirements in addition to that of the primary exchange prior to
the listing abroad;
c. While raising resources abroad, the listing company shall
be fully compliant with the FDI Policy in force;
d. The capital raised abroad may be utilised for retiring
outstanding overseas debt or for operations abroad including for
e. In case the funds raised are not utilised abroad as
stipulated at d above, such companies shall remit the money
back to India within 15 days and such money shall be parked
only in AD category banks recognised by RBI and may be used
SHARMILA CHAVALY, Jt. Secy.
The Depository Receipts Scheme, 2013
November 26, 2013
1 Preliminary 3
2 Definitions 3
3 Eligibility 5
4 Issue 5
5 Limits 6
6 Pricing 6
7 Rights and duties 7
8 Obligations 7
9 Taxation 8
10 Approval 9
11 Market Abuse 9
12 Repeal and savings 10
Schedule 1: Permissible Jurisdictions 10
The Central Government hereby notifies the following Scheme for facilitating
issue of depository receipts outside India, namely:-
1. This Scheme may be called the Depository Receipts Scheme, 2013.
2. This Scheme shall come into force on such date as the Central Govern-
ment may specify by notification in the official gazette.
3. The provisions of this Scheme shall be implemented by the respective
authorities, namely, the Reserve Bank of India, the Securities and Ex-
change Board of India, Ministry of Corporate Affairs and Ministry of
1. In this Scheme, unless the context otherwise requires:-
(a) `depository receipt' means a foreign currency denominated instru-
ment, whether listed on an international exchange or not, issued
by a foreign depository in a permissible jurisdiction on the back of
permissible securities issued or transferred to that foreign deposi-
tory and deposited with a domestic custodian and includes `global
depository receipt' as defined in section 2(44) of the Companies
(b) `domestic custodian' means a custodian of securities, an Indian
depository, a depository participant, or a bank and having permis-
sion from sebi to provide services as custodian under this Scheme;
(c) `foreign depository' means a person which:
i. is not prohibited from acquiring permissible securities;
ii. is regulated in a permissible jurisdiction; and
iii. has legal capacity to issue depository receipts in the permis-
(d) `icdr' means the sebi (Issue of Capital and Disclosure Require-
ments) Regulations, 2009.
(e) `Indian depository' means a depository under the Depositories
(f) `international exchange' means a platform for trading of deposi-
tory receipts, which:
i. is in a permissible jurisdiction;
ii. is accessible to the public for trading; and
iii. provides pre-trade and post-trade transparency to the public;
(g) `permissible jurisdiction' means a foreign jurisdiction:
i. which is a member of the Financial Action Task Force on
Money Laundering; and
ii. the regulator of the securities market in that jurisdiction is a
member of the International Organisation of Securities Com-
Explanation: The list of permissible jurisdictions as on the date
of notification is at Schedule 1 (Schedule to be developed).
(h) `permissible securities' mean `securities' as defined under section
2(h) of the Securities Contracts (Regulation) Act, 1956 and in-
clude similar instruments issued by private companies which:
i. may be acquired by a person resident outside India under the
Foreign Exchange Management Act, 1999; and
ii. is in dematerialised form.
(i) `right to issue voting instruction' means the right of a depository
receipt holder to direct the foreign depository to vote in a partic-
ular manner on its behalf in respect of permissible securities.
(j) `sebi' means the Securities and Exchange Board of India.
(k) `unsponsored depository receipts' mean depository receipts issued
without specific approval of the issuer of the underlying permissi-
2. Words and expressions used and not defined in this Scheme but defined
in the Securities Contracts (Regulation) Act, 1956 or the Securities and
Exchange Board of India Act, 1992 or the Depositories Act, 1996 or
the Companies Act, 2013 or the Reserve Bank of India Act, 1934 or
the Foreign Exchange Management Act, 1999 or Prevention of Money
Laundering Act, 2002 and rules and regulations made thereunder shall
have the meanings respectively assigned to them, as the case may be,
in those Acts.
1. The following persons are eligible to issue or transfer permissible se-
curities to a foreign depository for the purpose of issue of depository
(a) any Indian company, listed or unlisted, private or public;
(b) any other issuer of permissible securities;
(c) any person holding permissible securities;
which has not been specifically prohibited from accessing the capital
market or dealing in securities.
2. Unsponsored depository receipts on the back of listed permissible se-
curities can be issued only if such depository receipts:
(a) give the holder the right to issue voting instruction; and
(b) are listed on an international exchange.
1. A foreign depository may issue depository receipts by way of a public
offering or private placement or in any other manner prevalent in a
2. An issuer may issue permissible securities to a foreign depository for
the purpose of issue of depository receipts by any mode permissible for
issue of such permissible securities to investors.
3. The holders of permissible securities may transfer permissible securi-
ties to a foreign depository for the purpose of the issue of depository
receipts, with or without the approval of issuer of such permissible se-
curities, through transactions on a recognised stock exchange, bilateral
transactions or by tendering through a public platform.
1. The aggregate of permissible securities which may be issued or trans-
ferred to foreign depositories for issue of depository receipts, along with
permissible securities already held by persons resident outside India,
shall not exceed the limit on foreign holding of such permissible secu-
rities under the Foreign Exchange Management Act, 1999.
Explanation: For example, foreign investment in a company is ordi-
narily permissible up to x%. However, it can be increased up to y%
with the approval of the company in the general body meeting. If no
such approval has been granted, the permissible securities on which
depository receipts may be issued, whether sponsored or unsponsored,
cannot exceed x%.
2. The depository receipts may be converted to underlying permissible
securities and vice versa, subject to the limit in sub-paragraph 1.
The permissible securities shall not be issued to a foreign depository for the
purpose of issuing depository receipts at a price less than the price applicable
to a corresponding mode of issue of such securities to domestic investors under
the applicable laws.
Explanation 1 : A company listed or proposed to be listed on a recognised
stock exchange shall not issue equity shares on preferential allotment to a
foreign depository for the purpose of issue of depository receipts at a price
less than the price applicable to preferential allotment of equity shares of the
same class to investors under the icdr.
Explanation 2 : Likewise, where a listed company makes a qualified insti-
tutional placement of permissible securities to a foreign depository for the
purpose of issue of depository receipts, the minimum pricing norms for such
placement as applicable under the icdr shall be complied with.
7 Rights and duties
1. The foreign depository shall be entitled to exercise voting rights, if any,
associated with the permissible securities, whether pursuant to voting
instruction from the holder of depository receipts or otherwise.
2. The shares of a company underlying the depository receipts shall form
part of the public shareholding of the company under the Securities
Contracts (Regulation) Rules, 1957, if:
(a) the holder of such depository receipts has the right to issue voting
(b) such depository receipts are listed on an international exchange.
3. In the cases not covered under sub-paragraph 2, shares of the company
underlying depository receipts shall not be included in the total share-
holding and in the public shareholding for the purpose of computing
the public shareholding of the company.
4. A holder of depository receipts issued on the back of equity shares of
a company shall have the same obligations as if it is the holder of the
underlying equity shares if it has the right to issue voting instruction.
1. The domestic custodian shall:
(a) ensure that the relevant provisions of the Scheme related to the
issue and cancellation of depository receipts is complied with;
(b) maintain records in respect of, and report to, Indian deposito-
ries all transactions in the nature of issue and cancellation of de-
pository receipts for the purpose of monitoring limits under the
Foreign Exchange Management Act, 1999;
(c) provide the information and data as may be called upon by sebi,
the Reserve Bank of India, Ministry of Finance, Ministry of Cor-
porate Affairs and any other authority of law; and
(d) file with sebi a copy of the document, by whatever name called,
which sets the terms of issue of depository receipts issued on the
back of securities, as defined under section 2(h) of the Securities
Contracts (Regulation) Act, 1956, in a permissible jurisdiction.
Explanation: This obligation under sub-paragraph 1d is in respect
of securities, and not permissible securities.
2. Indian depositories shall coordinate among themselves and disseminate:
(a) the outstanding permissible securities against which the deposi-
tory receipts are outstanding; and,
(b) the limit up to which permissible securities can be converted to
3. A person issuing or transferring permissible securities to a foreign de-
pository for the purpose of issue of depository receipts shall comply
with relevant provisions of the Indian law, including the Scheme, re-
lated to the issue and cancellation of depository receipts.
1. The following shall not be considered as transfer under the Income Tax
(a) issue of permissible securities to the foreign depository;
(b) issue of depository receipts on the back of permissible securities;
(c) conversion of depository receipts into permissible securities;
(d) conversion of permissible securities into depository receipts;
(e) transfer of depository receipts in permissible jurisdictions.
2. The transfer of permissible securities from a holder to a foreign depos-
itory for the purpose of issuing depository receipts will be taxed at the
same rate and in the same manner as a transfer of such permissible
securities in India.
Provided that if such transfer relates to listed securities and are ten-
dered to a foreign depository in pursuance to a public tendering process,
such transfer shall be deemed to be a transaction on stock exchange
for the purpose of taxation.
3. Any return on the permissible securities to a foreign depository from
the issuer shall be taxable in the manner in, and at the rate at which
such return to domestic investors are taxed.
4. Any transfer of permissible securities after conversion from depository
receipts shall be taxed at the same rate and in the same manner as
transfer of permissible securities.
1. Any approval necessary for issue or transfer of permissible securities to
a person resident outside India shall apply to the issue or transfer of
such permissible securities to a foreign depository for the purpose of
issue of depository receipts.
2. Subject to sub-paragraph 1, the issue of depository receipts shall not
require any approval from any government agency if the issuance is in
accordance with the Scheme.
Explanation: If the issue of permissible securities underlying the deposi-
tory receipts does not require approval under the Foreign Exchange Man-
agement Act, 1999, no approval will be required for issue of such depository
11 Market Abuse
1. It is clarified that any use, intended or otherwise, of depository receipts
or market of depository receipts in a manner, which has potential to
cause or has caused abuse of the securities market in India, is market
abuse and shall be dealt with accordingly.
2. For the purpose of this paragraph, `market abuse' means any activity
prohibited under Chapter VA of the Securities and Exchange Board of
India Act, 1992.
12 Repeal and savings
1. The Issue of Foreign Currency Convertible Bonds and Ordinary Shares
(Through Depository Receipt Mechanism) Scheme, 1993 shall be re-
pealed except to the extent relating to foreign currency convertible
2. Notwithstanding such repeal, anything done or any action taken un-
der the Issue of Foreign Currency Convertible Bonds and Ordinary
Shares (Through Depository Receipt Mechanism) Scheme, 1993, shall
be deemed to have been done or taken under the corresponding provi-
sions of this Scheme.
Schedule 1: Permissible Jurisdictions