TCS to be worst hit in IT Inc if US immigration Bill gets nod

Written by Debojyoti Ghosh | Debojyoti Ghosh | P P Thimmaya | Bangalore | Updated: Jun 17 2013, 23:39pm hrs
The proposed US immigration reforms Bill has become a hotly debated issue for the $76-billion Indian IT services industry, with leading brokerage houses feeling that if passed in its current form, it may hit the outsourcing business model and have a direct impact on the profitability of companies.

According to a recent research report by the Japanese brokerage house Nomura Securities, EBIT margins may see a decline of 150-400 basis points (bps) across companies and a 4-9% cut in compounded annual growth rate of their earnings per share (EPS) over the period FY13-16. The note pointed out that among the top-tier Indian IT firms, Infosys and TCS could be the worst hit.

TCS is likely to be the most severely affected among the Indian IT sector if the US immigration bill becomes law, on account of it having the lowest local proportion, Nomura said, adding the outplacement clause in the Bill could lead to 220-350 basis points impact on its margins and consequently about 5% depression in earnings CAGR over FY13-16.

As per the outplacement clause, H1-B-dependent employers firms with more than 15% of workforce on H1-B visas currently pay around $2,500 excluding attorney fees for normal H1-B processing and an additional $1,225 for premium processing.

The Bill proposes an additional $5,000 per visa as fees for firms with 30-50% of their resources on H1-B/L-1 visas and an additional $10,000 per visa as fees for firms with over half of their employees on such visas.

According to Nomura Securities, the proportion of local employees will have a major bearing on the Indian firms' performance. The lower the proportion, the higher the hit.

TCS followed by Cognizant could be most impacted on this count, in our view, with 16-30% local proportions, on our estimates. The impact on HCL Technologies, Wipro and Infosys is likely to be less severe on this count given local proportions of 36-40%, on our estimates, and these companies are likely to be compliant with 2015 local proportion requirements, the Nomura report said.

The brokerage house feels that even if the immigration bill gets passed without the H1B outplacement clause, Infosys' margins could correct by 170-290 bps leading to flat earnings over FY13-16. Recently, Infosys in its filing to the US Securities and Exchange Commission (SEC) said that the rising cost of doing business in its largest market could have a negative effect on its topline.

According to the filing, Infosys incurred $60 million in costs for visas during 2013 fiscal, compared with $45 million in costs for visas during 2012 fiscal. Restrictions on immigration may affect our ability to compete for and provide services to clients in the US, Europe and other jurisdictions, which could hamper our growth or cause our revenues to decline, the Bangalore-based software-services firm said in a filing to the SEC.

The US Immigration Bill primarily focuses on giving the impetus to local hiring of tech professionals as against getting somebody from overseas on an H-1B visa.

The key provisions in the bill, which has Indian outsourcers worried, are the restrictions on use of H-1B employees in what is called as outplacement clause, sharp increase in visa fees, higher minimum wage requirements, creation of H1-B job database.

Kotak Institutional Equities in its report said, The proposed immigration bill is likely to be a material negative for Indian IT companies, should it come to pass. We stay cautious on the sector. These kinds of restrictions also cut down the operational flexibility of Indian IT companies working in the US.

We continue to see limited scope for operational leverage on sluggish volume growth trajectory, cost escalation and continued pricing pressure as the company tries to regain market share.

This in our view will lead to about 170 bps decline in EBIT margins to 24% levels over FY13-15, said Ashwin Mehta and Pinku Pappan, analyst with Nomura India in its research report, if the Bill gets passed. J P Morgan in its recent report on the impact of the immigration bill on IT companies said that Cognizant, too, will be severely impacted, with its CY14 EPS likely to be hit by as much as 25%. In any case, we see FY15/CY 14 EPS of all the four firms (TCS, Cognizant, HCL Tech, Wipro) getting impacted by double-digit in percentage terms, said Viju George and Amit Sharma of J P Morgan.

The Bill, known as The Border Security, Economic Opportunity, and Immigration Modernization Act will have to pass through the Senate, which is expected to see a spirited debate, and later it will have to go through the House of Representatives where there is expectation that further amendments would be brought into this legislation.

The bipartisan bill, which was tabled in the Senate recently for debate and voting, focuses largely on immigration issues while H-1B reform is a smaller part of the bill, mostly relevant to Indian IT companies.

The Bill was introduced by four Democrats and four Republican senators, now popularly known as the 'Gang of Eight,' onApril 17.Brokerage firms feel, given the multiple stages involved, the time-frame before a final verdict comes out on this could be 4-6 months.

The US contributes around 60% to the country's IT sectors revenue. Kotak Institutional Equities recently wrote in a report, Indian IT companies do not have large centers of their own and typically deploy their resources at client sites as contractors. It could also just mean that an H1-B dependent employer cannot use the sub-contracting route to circumvent H1-B restrictions.

Any company with more than 15% of its employees in the US on H1-B visas qualifies as an H1-B-dependent employer.

The demand for H-1B visas which is currently capped at 65,000 is dependent on the prevailing economic situation in the US and this is reflected in the time taken to reach this cap in terms of applications being submitted. In 2013, the US received close to 135,000 applications and got filled up in a span of just under five days, but in 2012, it took more than two-and-half-months to reach this cap and a year before this, the time taken was even more.

As per data available with the US Department of Labour, out of the total number of IT professionals in the US, 18% of the workforce comprise Indians, showing its high dependence on software talent from India.