Does President Obama’s State of the Union commitment to end tax breaks for companies that ship US jobs overseas represent a serious threat to India’s IT and BPO industry?

Even if that is not the case, is this an indication of the new American protectionism that should concern us? The Principal Analyst of Forrester, Sudin Apte; Former CEO of Mphasis, Jerry Rao; the CEO of Quatrro, Raman Roy and the President of NASSCOM, Som Mittal, discussed those CNBC-TV18’s Karan Thapar on India Tonight.

Below is the edited transcript of the interview.

Q: In the state of the Union address that he delivered the other day, President Obama promised to slash tax breaks for companies that ship our jobs overseas and to give those tax breaks to companies that create jobs in the United States (US). Is this a threat veiled or otherwise to India’s IT and BPO industry?

Roy: I don’t think so. There is nothing to do with the IT or BPO industry from what he is saying. As per the US law, if you earn a profit overseas, it is taxed only if you bring it to US. In 2004, they passed a law that allowed 80% rebate for bringing that money back to the US and that led to some USD 350 billion coming to US. Now, there is pressure on President Obama to re-enact that law which was a one year law to give the tax breaks, so that the money earned overseas can be brought back. It is likely to bring in USD 850 billion that US companies have lying overseas. So what he is saying is I will not give tax breaks to companies that have gone overseas, created those jobs, I want to give tax breaks to companies that are there. There is no linkage to IT or BPO.

Q: You have just heard the point that Mr Roy has made that this only refers to American tax law that treats the overseas subsidiaries of US companies as separate entities whose profits are only taxed when they are remitted. How confident are you as Chairman of NASSCOM that that is all there is to it and there isn’t something hidden that as yet hasn’t been recognized?

Mittal: I think this is not the first time he has made this statement, he had made the same statement before. We had researched this, we had discussed this with the authorities there and Mr Roy is right, this only refers to US company’s operation overseas. Even there many of the US corporations have more than 50% of their business coming from outside US and I think if they have to be competitive, they have to play by the rules that are local there.

Q: So you like Mr Roy are perfectly confident that this does not apply to the IT, BPO industry in India?

Mittal: Absolutely.

Q: I suppose the key issue is will the US government hereafter disallow offshoring cost as expenses that can be legitimately claimed in the books of US companies because if they take that step and disallow offshoring cost, that will presumably reduce the benefit US companies get from offshoring and therefore make it to that extent less attractive. Is that a genuine fear for you?

Rao: That is a theoretical option. I don’t think it is going to happen. I think to pass such a law is virtually impossible and will end up in years and years of litigation. But theoretically yes, there is a 0.1% probability that some kind of absurd law like that could actually be contemplated. But, I think I tend to agree with Mr Roy and Mr Mittal that is far from the present plan that anyone in the US administration or anywhere else has.

Q: You really do believe that it’s just a 0.1% possibility?

Rao: It’s very difficult to push through to say only one particular category of import expenses, of services, of goods of certain kinds will not be allowed as tax reduction, I do not know. I think there are enough ways the companies will be able to shield that if they have to. I think I won’t be completely against the spirit and maybe even the letter of WTO, so I do not see that kind of thing actually happening.

What I do not like about this statement and what I do not like about the series of statements that have come up from the administration is yes everybody should be concerned about increasing jobs, but why is this seen as binary, some jobs overseas versus jobs in the US. Obama is the leader of the free world; he should be concerned about jobs everywhere in the world and his policies should be for increasing jobs in India, in China and in the US.

Q: According to one of the calculations that was in the press over the weekend if Obama does disallow offshoring cost as legitimate expenses, it said that it will increase the cost of offshoring by anywhere between 35-40% for US firms, in other words it will ensure that offshoring is not as cheap as it would have been previously. What sorts of impact will that have on the off shoring business that India gets from America if the costs are affected by almost as much as 35-40%?

Apte: I think it wouldn’t impact that much. Let me start this way, I believe that there is a possibility that there is some restriction put on outsourcing of the jobs or offshoring of the jobs to India, but the larger context he is talking about are basically jobs and manufacturing jobs going to China. But let’s leave that aside and let me focus on your question on what would be the cost impact. We did a small analysis in terms of what will be the impact on a cost of offshoring per employee basis and our assessment was the number will go from current USD 45,000 average to roughly USD 51,000-52,000 average and if you compare that with an average starting salary of developer in United States, its still more than USD 80,000. So we still are talking about saving of USD 20,000-25,000 per FTE or full time employee and while attractiveness might have gone down, but there is still saving by sending jobs to offshore.

But I think if you ask me as an analyst this question, it’s not about cost arbitrage. Larger companies like General Electric or JP Morgan Chase, they sent anywhere between 15,000-20,000 jobs to India over last decade. Now will they get the people? So it’s not only the question of cost, it’s also question of availability of resources in United States.

Q: But you are underlining aren’t you that there will be a differential of somewhere between USD 25,000 to take the medium figure and that is something that companies both in America and India will bear in mind, am I right in pointing that out?

Apte: The point that I am trying to say that saving will get reduced by USD 5,000 to 6,000 if we assume that all tax rebates on overseas jobs will go or the tax benefits are taken away. But attractiveness still remains though it is not as high it use to be three years back or it is today.

Q: One view is that disallowing offshore cost as legitimate expenses might stop additional or new business being offshore, but it is highly unlikely to result in the pullback of jobs that have already been shipped overseas, would you agree with that business may not grow as fast, but business that’s already overseas won’t be affected?

Roy: If at all they were able to implement the law to say that part of expenses can be linked to offshoring because what 10% of the CEO salary you link to off-shoring, 20%-30%, the only people who will gain if that law comes into being are lawyers. So it will create a lot of jobs for lawyers because there is going to be a lot of litigation.

Q: That has never stopped America legislating in the past, it is unlikely to stop it now either?

Roy: Let us take that at face value. I think we have a persecution complex, we are trying to see that just because he said something it has to be linked to offshoring and we want to find a reason, okay it is not IT jobs then it must be a law that he is contemplating that will make it happen. I think it is as Jerry said it is going to be tough to be able to even create a law that allows you to segregate those expenses.

Q: If there is going to be a change in the profitability of offshoring and if the cost is going to go up, even if that does not affect existing offshoring business won’t it put pressure on US companies to hammer out better terms thus reducing even further the profit margin for Indian BPO because surely when Americans discover that their benefit is going down they will put pressure on you and other like you to bring our cost down?

Mittal: I personally think that this debate should take a different route. Who is off-shoring to whom? Many US corporations who do work in India more than 50% of their revenues come outside US. So if Texas Instruments is developing a chip for India or China is that offshoring work here. Because that work that is genuinely of the subsidiaries that is happening here.

The biggest impact is not going to be on the Indian companies it is going to be on the US companies and their competitiveness, their ability to deliver, their ability to deliver products on time. I think the whole world today is short of talent and they would be depriving themselves. We have also not taken into account the impact that would happen of what the other countries will do to the US because this protectionism is not going to be there in a one way street.

Q: Clearly the other guests on this panel, with a possible exception of Mr Apte, do share your view that this is not going to have any major serious, worrying effect on IT and BPO companies, but do you think that point apart, it now would be wise for Indian IT or BPO companies to look much more actively at markets in Europe and elsewhere? Up till now the US represents 50-60% of India’s USD 40 billion IT, BPO exports, has the time come now to diversify and look beyond America?

Rao: I think that is happening already. In a sense if you look maybe a few years ago, it was 70-80% and it is already down to 50-60%. I think the real pressures on the margins are going to come because US business is finding it difficult to make profits because of the economic environment. So if the environment improves, I don’t see a problem for profit margins or for business for anyone. That is the larger question not saying it is between overseas jobs and American jobs.

I want to comment a little bit more on that, everybody today believes that a small recession was converted into a great depression because the US Congress in the 30s passed something as Smoot-Hawley Act where they put curbs on international trade. Surely the present US administration doesn’t want to go down in history as the ones who by putting restrictions on international trade convert a recession into a great depression and that is what will happen if they start taking anti free-trade measures, which is why we all believe that this is just a rhetoric, it will just go away, it is just a talk, it doesn’t have any substance.

Q: As an analyst who looks at the figures and who looks more importantly at the possibility of even 0.1% chances becoming reality, what is your advice to people in the IT, BPO business in India?

Apte: It is two-three things, they have to plan. One is that the industry as well as industry association need to strengthen their lobbying in Washington DC that is surely required because it is not a question of what is actual law, GE and Citibank surely understands that this may not be a reality and they possibly will subscribe to what Mr Rao said. The issue is the new customers those who are not understanding offshoring fully make it little baffled by some of these political rhetoric. I think Indian industry and especially larger brands need to use their weightage in US to lobby.

Secondly, they have to work on their value proposition to remain highly competitive and continue saving by sending jobs to India. These are the two things they have to do on priority. Whatever we say of European market and opening up, at this point in time and if you look at what has happened in last twelve months, those successes have been very limited, especially in continent.

Q: Your colleague Ameet Nivsarkar, Vice President of Nasscom has gone on record to several newspapers over the weekend that he fears there maybe an indirect protectionism that is emerging from the United States. You mentioned already that Obama has spoken in these semi-apocalyptic terms at least once before when we was a candidate. Do you share Mr. Nivsarkar’s concern?

Mittal: Let me put this in perspective. I read the speech that President Obama had released before he spoke. This particular statement wasn’t in his script. He added that when he actually delivered the speech because that was something he had said before. So I think it is one of many things he talked about.

Second, I think he has spoken about doubling up his exports and when he does doubling up of exports it cannot happen by protecting US on one side because it will always be done by protectionist tendencies coming from other countries.

I think what Mr. Nivsarkar mentioned and we all know that there are ways of stopping things like movement of people in our industry, movement of people both sides is very important and there have been attempts from the house against that.

But President Obama and Dr. Manmohan Singh in their joint Communiqué just in November both committed that free flow of professionals both ways should be allowed and unhindered. So I do not think even that indirect protectionism can come in. We need to all time be alert about it though.

Vishal
IC