Indian IT majors seemed to be returning to the days of ?cautious optimism? as they detailed their quarterly earnings last month. Within days, the glimmer of hope was lost as political protectionism from the US marched on.
First came legislation, seeking to reform the H1B and L1 visa programmes. Next was US President Obama?s new tax plan, which limits the ability of US-based multinationals to defer paying taxes on the income they earn overseas until they repatriate it. Already, firms receiving government bailout are being restricted from hiring Indians and other foreign workers through the H1-B programme, if they are replacing American workers.
Protectionist politics brings back the memories of 2004 to Indian offshoring industry?s top honchos, when anti-offshoring sentiment peaked before the US elections. This time, the rhetoric about job relocation seems to be reaching an all-time high after the government formation. This opens another front for the industry at a time when it is passing through its worst crisis.
Signs of worry are already visible in the $50 billion industry that earns about $30 billion from the US. ?This is definitely an area where we are watching the situation. It is possible that some new regulation may come in this regard,? according to Infosys CEO Kris Gopalakrishnan. BPO major, EXL Service president and CEO, Rohit Kapoor agrees, ?Protectionism in our biggest market could be a cause of concern.? Worry lines are only getting deeper as reports peg job lossess in the US at 51 lakh since December 2007. Unemployment rate for April spiked to 8.9%.
Whether these bills get passed into a law or not, the direction of US politics makes it clear that more protectionist measures could be on their way and offshoring could be under attack. Juxtaposition of Bangalore with Buffalo and a clear preference for companies that invest and give jobs in Buffalo rather than Bangalore in Obama?s statement is being seen as a strong indicator that Indian offshoring industry could again be a target of ire. Industry veterans are in a wait and watch mode to check if more direct attacks on moving jobs across borders are on their way.
The problem is that the backlash comes when the Indian outsourcing industry is already reeling under the pressures of a recession.
A slowdown in decision making has forced top players to predict a zero to negative growth for the current quarter.
This is perhaps the first time that the top industry players are talking of a negative growth. Pricing and margins are down by 2 to 4% and customers are taking much longer to sign contracts. Last quarter saw a drop of 21% in the number of deals signed compared to the previous quarter and a dip of 22% against the same period last year, according to deal tracking firm TPI. Contracts size was also down 18% and 27% respectively.
Industry lobbyists rightly argue that India is not the only target of ire. One front has been opened with China over tariffs of carbon-intensive goods. Another battle has been brewing with Mexico over allowing Mexican trucks (guaranteed by Nafta agreement) over long distances on American roads.
Others take solace in the fact that this isn?t India?s first brush with backlash and feel that the 2004 experience might come in handy now. ?Indian companies need to monitor the visa issues but they have got used to dealing with these and have perfected their business models to align with them,? says Everest India CEO, Gaurav Gupta. Indian companies? expertise in dealing with such situations perhaps gives him the confidence to rate these legal uncertainties at low to medium level risk.
Infosys, for one, seems to have worked out a three-pronged approach?hire more employees in the US; bring more work offshore and set up nearshore centres. ?One of the things is that out of the 2,000 experienced hires, we are looking at 1,000 outside India. Second is shifting more work offshore. We have seen this in the past when it becomes difficult to get H1 etc, clients actually are willing to come to India and work with us in India. The third is nearshore centres. We have a centre in Canada, we have a centre in Mexico,? Kris Gopalakrishnan of Infosys detailed in a call with analysts. According to analysts like Gupta, Indian companies would need to do all this to simply move up the value chain.
Some issues like visa reform in a time of job losses are trickier. To begin with, Indian IT majors have stepped up their PR exercise to recast their image as ?job creators? rather than ?job stealers?. Industry bigwigs?TCS, Infosys and Wipro?have made public statements on their plans to roughly double their non-Indian workers in five years. TCS has the highest number (10,000) of non-Indians, about 9% of its total employees. Wipro has been vocal about its plans for a second US-based development centre. Industry lobbyists are getting creative. Realising that raising these issues is like showing a red flag to a bull, industry has become more creative and has been pitching for service visas.
While anti-offshoring sentiment continues at an all-time high, the bigger question is if these political compulsions will enter the business equation for offshoring. Industry is worried because backlash did slow down the business for a short term during 2004 US elections. Political rhetoric doesn?t seem to have entered the business equations, at least till now. According to a survey by AMR Research conducted last month, barely 15% of the buyers look at moving jobs offshore as a very important factor preventing an outsourcing decision this year. In contrast, close to half view upfront transformation costs and potential disruption to their organisations as very important factors.
Indian captive operations of large multinationals currently seem to be worried the most. Rattled by Obama?s statement on providing incentives to those who create jobs in Buffalo rather than Bangalore, most of them are currently putting their heads to decipher the meaning of proposed tax changes and how they will impact their offshore savings. ?Some companies have already started modelling cost benefit ratio to see how much of their savings could be eroded by the new tax,? confirms Ernst &Young India tax director, Rajendra Nayak. Initial estimates peg erosion in offshore advantage by about 10%, though details on the new tax policy are not yet out and the impact is likely to vary a lot from one company to another.
?Companies will look at the trade-off between risk and value created by offshoring and the business equation will still be overwhelmingly positive. Request for proposals are being issued today and we might see momentum in deals too in a few months? assures Gaurav Gupta. Most companies have 15-20% margins of transfer pricing and will pay a tax on these. This, according to him, will have only a marginal impact.
Clearly, offshoring will continues to make business sense even if the current tax measures are made into law. ?I would expect the US companies to make decisions on their own that allow them to become strategically competitive and improve their market position,? says Rohit Kapoor of EXL.
While the industry is working on easing the tricky issues in the US, they are clear that these are only temporary roadblocks. Business model is sound, according to industry majors as well as analysts. Nasscom is busy projecting a bright picture for 2020, predicting revenue of $225 billion by 2020. And they seem right on mark. Gartner also forecasts that the offshore delivery model for IT services will increase in the coming years as US companies look to reduce costs. Today, 15% of IT services use the offshore model. In 2013, 25% of outsourced services will be offshored and by 2018, that number will jump to 40%, the firm predicts.
Even as long term business model seems sound, offshoring is going to be a rocky road in the short term. And politics of protectionism seems set to add a pothole or two.