Features

Obamanomics for Outsourcing

DQI Bureau

21 May 2009 00:00 IST

New Update

It is difficult to analyze the implications of Obamas policies on the
outsourcing industry in isolation. Hence, we will look at some macro areas and
identify where there could be possible implications.

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Regulation of the US Workplace: The current framework allows easier
unionization and equal access to employees for the unionization process. The
union contracts stipulate the extent of outsourcing permitted and to that
extent, in some industries, this would have a bearing on how much work gets
outsourced. Institutions that received a portion of the bailout money are
prohibited from hiring H1B workers. This has had an impact on staff augmentation
companies in the technology sector. There could also be stipulations on
employment of foreign nationals by US companies. However, there are no new labor
protections under NAFTA.

International Trade Policy: The core elements of WTO, NAFTA, and other free
trade agreements stands. The Buy American policy is applicable only to steel
and construction material, at least as of now. None of the policies, even those
which may sound protectionist, contravene any of the WTO regulations, according
to Bierce.

How Obama Intends to Prevent
Tax Abuse

Obama is looking to raise taxes
on multinationals because they have become so sophisticated at minimizing
global taxes. The draft legislation that adopts his views is the Tax Haven
Abuse Act of 2009, introduced on March 2, 2009, by Sen Carl Levin in the
Senate and Rep Lloyd Dogett (D, Tx) and sixty-three co-sponsors in the House
on March 3, 2009. In early May, the treasury department issued its own
analysis for removing tax incentives for shifting jobs overseas.

The key objective is to attack artificial tax
schemes that have no substantial economic effect, particularly where the
foreign subsidiaries have no employees and no business other than to serve
as an accounting entry for tax minimization. A secondary objective is to
raise taxes on US multinationals since they get to deduct foreign taxes
immediately but dont have to recognize US taxable income till they actually
declare dividends from foreign subsidiaries. That will change.

I dont see
much impact of this on the mainstream IT services and BPO activity

William B Bierce,
founder and partner, Bierce & Kenerson PC

The draft legislative version of the Obama
tax proposal would tax foreign corporations as if they were domestic
corporations where the management and control of a corporation needs to be
treated as occurring primarily within the United States because,
substantially all of the executive officers and senior management of the
corporation who exercise day-to-day responsibility for making decisions
involving strategic, financial, and operational policies of the corporation
are located primarily within the United States, and the law would disregard
corporate formalities and corporate offices and directors, if the decisions
are made by individuals resident in or citizens of the United States.

There should be little impact on US service
providers with foreign BPO service delivery centers:

Companies that ship jobs overseas would
still be entitled to prove that their foreign BPO captives have
substantial economic effect, under the regulations to be implemented
within two years after the law is enacted.
It is not clear how the changes would
raise taxes, but they could
deny foreign tax credits for foreign taxes
paid on offshore operations by foreign captives
reform tax deferral rules to curb a tax
advantage for  investing and reinvesting overseas
The US treasury already issued an Internal
Revenue Bulletin, 2006-34, that says back office work does not require a
significant profit markup since it does not generate new customers,
products, technologies or competitive advantage.

The impact on offshoring to captives would be
minimal since the capital expenses of establishing and growing a major
offshore BPO captive are low, and little reinvestment of dividends is
required to continue their operations. All things being equal, the tax
changes could promote offshore BPO to unrelated service providers. It might
have some impact for virtual captives, but straight offshore ITO and BPO
would not be affected since there are unrelated companies rendering the
services and charging arms length pricing. Theres no risk of collusion or
tax avoidance there.

The tax proposals aim to increase US jobs in
various ways, but not very effectively. In short, the annual tax impact
might be only $10 bn a year over ten years.  The economic benefits of
captives and outsourcing far exceed this amount: access to large labor
pools, work cultures, wage arbitrage, absorption of volatility in
transactions processed, conversion of fixed cost to variable cost, hiring a
skilled HR manager to manage the onboarding, training and career path of the
individual who has non-pyramidal options for personal development across
multiple client enterprises, and local legal regimes that offer a modest
level of regulatory restrictions.

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Environment: Environment (and energy) has always been a hot button issue for
Obama since the campaign days. There is a proposal for cap and trade in energy
credits and an effective tax on energy consumers. It might adversely impact the
competitiveness of the American industry, especially in energy-intensive sectors
like manufacturing. No particular implication here for the global services
industry.

Global Sourcing Strategies in
the Obama Era

For Service Providers

Integrate locally (like the Japanese
automakers in 1980s )
Focus on advantage of outsourcing over
captivesthe gap is going to widen
Costs
Skill-sets
Variability of cost profile
Offering virtual captives is an
opportunity
Understand new risk-sharing expectations
and risk-management
Develop proprietary IP to escape commodity
pricing

For Enterprise Customers

Benefits of outsourcing will continue to
outweigh the costs
Outsourcing will have a slight advantage
over shared services captives
Supply chain risk management to support
emerging mandates
Data Protection and Privacy
Business Continuity
Relationship Governance
Compliance

Foreign Direct Investments: Foreign investment would continue to get promoted
under bilateral investment treaties and WTO trade-related investment measures
and zero capital gains tax is likely to continue. However, foreign acquisitions
of US companies would factor in national security considerations. Service
providers who handle projects that involve national security would have to pass
through higher scrutiny so that US security interests are not harmed. Overall,
foreign direct investments would continue to get welcomed and such companies as
Tatas, Infosys, etc, are encouraged to hire US workforce.

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Taxation: Taxation has been one of the most important areas in Obamas
campaign promises. The basic thrust here is to stop abusive tax structures that
promote jobs offshore. The two-pronged approach here is to stop Americans from
tax abuses by concealing assets in safe havens and by asking companies to
repatriate foreign income immediately, rather than deferring it, so that they
can be given a tax credit (as per international tax treaties). This could mean a
slightly higher tax rate for some companies. Overall, there is no tax impact on
foreign companies and American companies can continue to do business as usual in
offshore locations.

Data Protection and Privacy: The current framework in the US is very
disjointed, compared to comprehensive frameworks prevalent in Canada and
European Union. Obama is championing large-scale adoption of automation in
healthcare using IT and federalizing data breach notification under which
encryption is promoted as a safe harbor. It means that service providers engaged
in aspects of healthcare IT and BPO would need to give notice to Americans that
their personal information is outsourced. Such companies are therefore going to
assume higher risk and would have to accordingly plan for risk management and
privacy data protection strategies.

Ed Nair

The author is editor, Global Services, a Cyber Media publication. With
inputs from William B Bierce, partner and founder, Bierce & Kenerson PC

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