In the span of a month, US President Donald Trump went about slashing corporate tax rate in America from 35% to 21% to get back jobs, while India Prime Minister Narendra Modi upped the ante at Davos, Switzerland, of his nation's tryst with globalisation. India is committed to being an open market, he said.
In the run-up to Budget 2018, this tug-of-war between market ideologies (protectionist rhetoric vs free-market intent) points to the need for India's $154 billion technology services (IT) and business process management (BPM) industry to become far more competitive and skilled.
A seasoned CEO of a publicly-listed company, who requested anonymity, puts it in perspective: "The entire Indian IT industry was based on US data leaving the US for work to be done from India." Now, the world's best technology companies are entrenched here to compete: Amazon, Google, Alibaba, et al. "Free markets means Indian companies will face more competition," he says. "It also means those who survive and win will become globally competitive by beating international competition. The consumer wins."
He forgot one thing: even talent wins. And that matters a whole lot for the IT-BPM industry which employed 3.9 million persons in 2016-17, and is threatened by automation. The talent war will get fiercer, even as Trump tightens the leash on the economics of the business model that has served Indian IT.
For most part of the 21st century, Indian IT thrived on cost efficiencies and talent availability. Companies shipped the work to India for engineers to carry out maintenance and development tasks. But young and highly-skilled graduates today have more (and the world's leading technology organisations) to choose from than before Y2K. With the US government's decision to slash corporate tax rates by 14 percentage points, offshore IT delivery simply won't taste as sweet.
"The US tax reforms make America a far more attractive place for investment than it has been in the past two decades," concedes a senior official of Nasscom, the trade body for the IT-BPM industry. It also imposes a tax on import (into the US) of services if rendered by related parties. "So, it will be more expensive for US companies to set up offshore centres in India," the official adds. "If it is third-party sourcing, the vendors and companies don't get impacted."
The offshore centres in India are referred to as 'global in-house centers' (GIC). By Nasscom's estimates, there were more than 1,100 GICs set up here in 2016-17, which employed 1.8 million Indians and contribute up to 10% of India's IT services exports.
"Right now, multinational companies stand to lose their competitive edge, because they will be taxed more, which will add to the cost of offshoring," agrees Milan Sheth, partner and technology industry leader for EY India. "There will be challenges in the way IT companies operate and how their clients sign contracts. This (US tax reforms) makes it difficult for Indian IT companies and GICs in India."
While the MNCs and top five IT companies-TCS, Cognizant, Infosys, Wipro and HCL Technologies-have the wherewithal to cope with such macro shifts, the mid-sized and small companies will look at the Union Budget for a framework to neutralise the impact caused by the tax reforms in the US.
As has been the case before every Budget, there will be the demand to do away with the minimum alternate tax (MAT) levied on special economic zones (SEZ) at 18.5%. "This will be a welcome change for small IT companies as they can reinvest profits in product development," says Naveen Aggarwal, partner, KPMG India. The arguments in the past centred on the trade-off between tax loss to government and job creation. That won't cut it anymore.
The Central Board of Direct Taxes' guidelines related to Place of Effective Management (PoEM) will also significantly impact how small Indian IT companies globalise, Aggarwal says, "An objective test for determining tax residency of foreign Indian-headquartered entity is required to provide certainty," he adds.
Apart from this, the Budget must promote infrastructure development to churn high-quality technology talent. This is critical as artificial intelligence (AI) and machine learning (ML) drive the march of automation, affecting growth in employment. This is already visible in the BPM industry, which has traditionally been a generator of high-volume, lower-skill jobs. The Nasscom senior official says: "Existing jobs are getting modified. The key thing has become about skills. How do you quickly prepare a digital workforce?"
Sheth says that mid-sized IT companies and BPM outfits could still benefit from incentives based on the ability to create jobs. "Possibly for every incremental hire and placed in an SEZ, government can continue export concessions and incentives for the near or medium term," he says, referring to the transition period before Indian IT companies begin to accrue a greater share of digital revenue. In fiscal year 2017, digital revenue accounted for 14% of the total exports output. That is expected to touch 38% in 2025.
Meanwhile, the consumer electronics industry too has been facing the brunt of imports from China; in the mobile handsets market, for instance. According to at least two chief executives, the Budget must focus on improving the macro factors like infrastructure and road networks, rather than just incentivising local manufacturing. "We need stricter implementation of existing policies like 'Preferential Market Access' (PMA) in government procurement under 'Make In India'," says one of the chief executives.
And finally, a Budgetary push beyond the intent to secure India's networks. In last year's Budget speech, finance minister Arun Jaitley said, "Cyber security is critical for safeguarding the integrity and stability of our financial sector." He announced a Computer Emergency Response Team for the financial sector (CERT-Fin). "This entity will work in close coordination with all financial sector regulators and other stakeholders." As India embraces the free market philosophy-at least in its technology sector-cybersecurity is a hygiene factor to survive, not just become competitive.
The IT-BPM Industry
7.7%: IT-BPM share of India's GDP in FY2016
170,000: Employees added in FY2016
$38 billion: Domestic IT-BPM in 2016-17
258: the number of offshore development centres set up in India in 2016
10%: the share of Global In-house Centers (GIC) of IT services exports
Source: Nasscom Strategic Review 2017
1 . US Tax Reforms : 14 percentage-points cut in corporate tax rate Solution: Incentives for companies with a track record to maintain their offshore units in India
2. Talent in the age of automation : As IT companies optimise hiring and employees seek new jobs, government can create a marketplace for tech talent for Digital India initiatives. The private sector has been a source of talent for government in several developed countries.
3. Skills development: Incentivise businesses to generate high-quality technology talent.