China?s expat salary rule drives IT Inc up the Wall

The Great Wall of China just grew a little higher. In a move that could raise costs for Indian IT firms operating across the border, the northern neighbour has enacted a social security law which makes hiring an expat employee there almost 40% costlier. The move comes at a time when IT blue chips like TCS, Infosys and Wipro are trying to widen their presence in the Middle Kingdom with considerable success.

China claims the move bestows the same benefits on foreign workers that are available for locals, but companies aren?t buying the argument. Indian IT services companies active in China feel the law will make them less competitive in the $30-billion market.

The law makes it mandatory for non-Chinese employers to contribute 37% of each expat employee?s salary into the country?s social insurance pool. Employees are separately required to chip in with 11% towards the same. The move, which has several ambiguities, has faced criticism from companies across the world as a protectionist measure designed to encourage hiring Chinese workers. It comes at a time when Indian IT firms are struggling to gain a foothold in the tough Chinese IT market.

Said V Balakrishnan, chief financial officer, Infosys: ?This is definitely a wrong move on the part of the Chinese government. It is going to increase cost of operations for global companies and restrict free movement. It is incorrect to tax foreign workers in this manner.?

India?s technology blue chips have been bullish on China for a while. Infosys reported a net income of $8.73 million from its Chinese operations in FY11. Early this year, it said it would be hiring 1,000 employees there by 2012. Rival Tata Consultancy Services is looking to triple its headcount to 5,000 by 2014, while Wipro targets a workforce of 3000 in 2-3 years. Infosys and Wipro currently hire over 5% from outside China.

Indian IT firms in China typically rely on expat talent for mid-senior level management. Although they are a small pie of the work force, they account for a large chunk of wage costs.

?Typically, salaries for such employees at this level are around $100,000,? says Abhijeet Ranade, associate director with PricewaterhouseCoopers, India. ?37% per expat employee ? even if there are only 10 of them ? works out to be a large additional expense. These costs need to be well-justified in relation to revenues and scale of operations,? he adds.

Wages in China have been rising for several years, with data from last year?s IMF World Economic Outlook report ranking it the third-most expensive in wage costs among emerging Asian economies. Cost escalations can dent the competitive edge of Indian IT services firms living on low margins.

Said Nishchal Khorana, head of consulting, ICT practice at Frost & Sullivan, South Asia & Middle East: ?The rules will impact Indian IT firms’ competitive advantage. The resulting rise in cost of operations and delivery negatively impacts margins, at the same time making competition with domestic Chinese companies and global MNCs stiffer.?

The social security contribution will go towards pensions and insurance for medical, unemployment, maternity and work-related injury. Some of these components, such as pensions, are payable only after 15 years of service, which far exceeds the two-three year period that expats tend to spend there. There is also lack of clarity on the insurance being provided under the scheme. Expat employees are already covered in accordance with insurance norms of their home countries, which would mean duplication of costs for employers.

These firms may now need to look hard for managerial-level employees from the Chinese talent pool. However, as Pradeep Udhas, executive director and head IT/BPO, KPMG India points out, ?the centres they (Indian IT firms) have in China are global delivery centers. Local talent to manage such operations is not necessarily available due to language barriers. But on the flip side, it might make India more competitive as a destination.?

Companies however, say the cost escalation will not impact their expansion plans, as growing in China is critical for them. Says Rajat Mathur, chief sales and operations officer (Asia-Pacific and Japan), Wipro Technologies, ?We maintain a 95:5 ratio between Chinese and non-Chinese employees. The increased costs will not hamper expansion plans.? The company, which did not share the extent of the impact in financial terms, currently has 1000 employees in four centres across China.