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Finance Ministry questions FII funds in realty IPOs

The Finmin expressed doubts over asset price bubbles resulting from speculative investments, reports Gaurav Choudhury.

india Updated: Jan 11, 2007 21:47 IST
Gaurav Choudhury
Gaurav Choudhury

It may still take a while before foreign institutional investors (FIIs) are allowed to invest in initial public offers (IPOs) or pre-IPO private placements of real estate companies, with the Finance Ministry expressing concerns about possible asset price bubbles resulting from speculative investments made through this route.

The view in effect stymies a proposal from the Commerce Ministry that called for such investments.

Sources in the Finance Ministry, which did not wish to be identified, told Hindustan Times that allowing FII investments in the real estate sector, without the attendant restrictions applicable to other foreign direct investment (FDI) investors, would enable FIIs and their sub-accounts to access the Indian real estate sector.

“It is important to note that in times of economic booms there is a surge in the investment in assets such equity and real estate, thereby generating asset price bubbles, which was very much evident in the case of East Asian crisis of 1997-98 and the Japanese economy in the 1980s,” said the source.

The issue is important in the context of many forthcoming big-ticket IPOs by real estate companies such as Delhi-based DLF Universal.

Under the existing norms, FDI is permitted in those projects which involve a minimum area of 10 hectares or 50,000 square metres, a minimum capitalisation of $10 million for wholly owned subsidiaries and $5.5 million for joint ventures, and a lock-in period of three years for repatriation of profits.

At present, a majority of the projects of any individual real estate company does not comply with FDI norms.

FIIs are currently allowed to invest in real estate companies through the secondary market but they cannot invest in pre-IPOs or IPOs or follow on public offers (FPO). Under SEBI guidelines, any pre-IPO placement is subject to lock-in for a period of 12 months.

The finance ministry is of the view that the scope of activities under the construction and development sector is quite wide and includes housing, commercial premises, hotels, resorts, hospitals and educational institutions.

“The FDI guidelines prescribe certain conditionalities which have to be complied with both in letter and spirit. Allowing FII investments without prescribing these conditions would make it possible for foreign investments to come in through this route, thereby defeating the intent of the policy. The investment in IPOs and private placement by FIIs in such activities will have to be consistent with the FDI policy and all the FDI rules should apply,”said the source.

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