Recent visa-related lawsuits against Indian service providers are likely to fuel the fire caused by the immigration reform passed by the U.S. Senate in 2013
Recent visa-related lawsuits against Indian service providers are likely to fuel the fire caused by the immigration reform passed by the U.S. Senate in 2013
The U.S. federal government this week announced a settlement agreement with Infosys with a record fine of $34 million — a penalty Infosys agreed to pay in settlement of the investigation related to its I-9 paperwork errors and H1-B and B-1 visa matters. There is both good news and bad news in this settlement. The bad news reaches beyond the Indian heritage firms and affects the entire industry, including multinationals as well as firms that hold GICs, or captives, or have international work.
The good news
From an Infosys perspective the settlement is good news. It allows Infosys to move on, and undoubtedly its management and stockholders are breathing a deep sigh of relief at finally being able to get beyond these immigration issues overhanging operations during the ongoing investigation. There were no criminal charges nor an admission to criminal activity as to the way it brought foreign nationals into the United States to perform work for customers, but Infosys agreed that it failed to maintain accurate I-9 records for many of its foreign nationals in the United States in 2010 and 2011 as required by law.
The settlement involves putting audits and other compliance proofs in place. These measures and the agreement finding no criminal wrongdoing will help Infosys to move on and will help resolve concerns of customers, especially those in the financial services space, which are very gun-shy of attracting any more regulatory scrutiny.
Although the $34 million penalty is a record fine, Infosys can be pleased that it is small compared to its earnings and will be largely immaterial on earnings.
The bad news
On the downside, I think the picture for the broader industry is clouded and even chilling. While Infosys is able to move on, the hoped-for relaxing of visa reform has not arrived. Instead, this settlement indicates that a more intense regulatory environment awaits industry players.
The record fine foreshadows ongoing scrutiny of the visas in general and indicates that the immigration authorities are taking, and in the future, will likely take a very narrow view of how service providers can use visas.
It’s interesting to note that the language currently governing the visas is quite ambiguous, and reasonable people could easily differ in their interpretation. But this settlement and record fine signals that a very narrow interpretation will be used going forward and that the government will use penalties to enforce the regulations.
The forceful, negative response of Congress and Senator Grassley’s reaction (“It’s time that the administration and Congress do more to rein in the fraud and abuse to ensure that both American and foreign workers are protected.”) to the settlement is another indicator of bad news for companies that utilize talent outside the U.S. Rather than celebrating a victory for compliance and the significant enforcement of of law, they are dissatisfied with the outcome and are calling for further regulation.
The Congressional reaction is ominous. It does not bode bode well for future legislation and certainly encourages the bureaucrats in the immigration service to take a very narrow view of visas going forward.
In this second post in our blog series on impacts from U.S. immigration reform, we explore the likely outcomes that will affect the Indian heritage providers and their customers. As explained in our first post, Critical Impacts on the Global Services Industry Due to Upcoming Immigration Reform, the large Indian providers are the most aggressive users of H-1B visas and, therefore, are the biggest target for negative impacts from several onerous provisions in the proposed legislation.
Targets of the legislation
Recapping our analysis in our first post, we do not believe multinational providers (MNCs) such as Accenture or IBM nor the Global In-house Centers (GICs) will experience adverse impacts; in fact, they may receive some competitive advantage because of the visa reform tied into the immigration reform.
Technology firms such as Microsoft and the large Indian providers will experience the biggest impacts. However, while the tech companies will gain increased availability of H-1B visas, the Indian firms will suffer a hit to their operational costs in addition to having to depend on fewer visas for their U.S. workforces.
Through two lenses, or scenarios, we analyzed the impacts of the impact to Indian providers with current aggressive use of H-1Bs. The scenarios in our analysis are very difficult to calculate and are based on several current assumptions regarding the proposed legislation, but this is our best analysis at this time.
Case in point: likely financial impacts to Cognizant from H-1B visa reform
We used Cognizant in the scenario analyses because, as far as we can see, they have the highest proportion of H-1B use (85 percent) in their U.S. population of employees. This is far above the proposed thresholds that the reform will mandate.
In the first scenario — with only the most modest impacts from the reform provisions — the unmitigated hit to Cognizant’s earnings (not costs) would be in the range of 21-22 percent (see Exhibit 1).
Exhibit 2 details the impact if the legislation passes with the current most problematic language in the most onerous provisions intact. In this scenario, the unmitigated hit to Cognizant’s earnings could rise to 31 percent.
Source: Bernstein research
Clearly, the impact will be significant in both scenarios. The visa reform provisions will impact other Indian firms in a similar manner as Cognizant but to a lesser degree.
How will the H-1B visa reform provisions affect customers of the Indian providers?
To alleviate the impact of diminished margins, we can assume that the Indian service providers may want to try to pass the increased costs through to customers. However, when we view this possible tactic in light of the current global services market, we believe they would not succeed in cushioning their impact by using this tactic.
The industry has clearly moved into a more mature phase. Competitive intensity in the market has been rising and service provider margins have been falling. (This is particularly evident if we take into account the impact of the pronounced rupee depreciation over the last few years.) A look at the competitive dynamics reveals the following:
In these competitive dynamics, we think it is reasonable to believe that the Indian firms will have little, if any, success of passing the visa reform costs on to their customers. Customers are ready to switch providers, and providers are available at the same price point as the Indians firms’ current price point.
Furthermore, the margins that the Indian players currently enjoy would still be significant after the adjustment due to visa reform.
Therefore, we believe the impacts to the Indian service provider’s margins will have little effect on customers and may, in fact, be a silver lining for them. While it’s conceivable that the Indian providers would try to pass the cost increases through to their customers, we strongly believe the competitive dynamics in the current market will render that strategy unsuccessful. Instead, we believe these firms will most likely take a hit to their earnings.
Thus, this outsourcing model will remain intact for those companies that want to leverage it and the legislation will not cause prices to rise significantly.
Will lower margins reduce service providers’ willingness to invest in services capabilities and innovation? At this time, we believe that reduced margins will not motivate the providers to reduce investments and thus lower the quality of services to customers. Our belief is anchored in history with the Indian players’ strong demonstration of successfully navigating wage inflation impacts in India as well as other market changes that impact their margins. Furthermore, we estimate that it will require several years for the the changes in visa law to fully take effect; so the Indian providers will have plenty of time to adjust.
In fact, we believe their service quality may improve. Why? Because pressure on their margins, especially in today’s highly competitive market, will motivate them to create more attractive offerings (such as SaaS or BPaaS offerings) and develop greater differentiation through increased value in order to secure increased pricing. We see that the market’s competitive intensity will likely remove any constraints for investing in customers, innovation or intellectual property in order to sustain their margins.
In addition, paying higher wages and increasing the use of U.S. citizens in the Indian players’ workforce could in many cases contribute to greater client intimacy.
In our next post in this blog series on H-1B visa reform tied to impending immigration reform, we’ll provide some guidance on mitigation strategies available to the service providers that will be hit the hardest by the new law.
We’ve reached an interesting point in the use of H-1B work visas in the global services industry. Despite many years of debating the necessity to change U.S. visa policies, visa reform failed to get traction. However, the situation has changed with the sweeping U.S. immigration bill. H-1B visa reform is by necessity part of this proposed legislation.
Assessing the probability of immigration reform passing is difficult. However, we believe that Wall Street in its valuation of Indian stocks is currently factoring in a 50 percent probability that the immigration bill will pass.
The U.S. Senate introduced a bipartisan plan to the Judiciary Committee in April with a vote planned for late June or early July. On May 16, a bipartisan group from the U.S. House of Representatives reached an “agreement in principle” and is currently planning to introduce legislation early in June.
If the legislation passes Congress with the visa reform provisions intact, or close to the current form introduced by the Senate, the legislation will result in a much-wanted increase in H-1B visas but will also plunge the global services industry into business model changes because of some onerous provisions in the bill.
We’ve been working with a group of industry experts on the issues involved in the proposed legislation. In this blog post we explore the hard truths of the fundamental provisions and their critical impact on the services industry. We draw heavily on an analysis presented by Rod Bourgeois of Bernstein Research at his 10th annual equity analyst conference and worked with him on this material. We sincerely thank Rod and as well as Jeff Lande of The Lande Group both of whom have been instrumental in helping to develop the thinking in this analysis.
Let’s look at key aspects and implications of the reform provisions and how those fundamentals will impact service providers and their customers.
Who will be affected by the visa reform provisions?
The impacts — both negative and positive — from the visa reform will affect the India-based outsourcing providers, technology companies (such as Microsoft), MNCs (multinational providers such as Accenture and IBM), Global In-house Centers (GICs), sometimes called “captives,” and customers. I’ll discuss the impacts to MNCs, GICs and customers later in this blog.
The two major constituent groups that are most impacted are the Indian outsourcing firms and the technology companies. Historically, these groups were nearly identical in their perspective on H-1B visa: both wanted the “pie” of visas to increase, as providers exhausted the quotas within a week or two after issuance.
But today, getting a larger slice of the visa pie is also of paramount importance to the tech firms. To achieve this they have an interest in restricting access to that pie by other large consumers of H-1Bs (mainly the Indian firms).
In addition, there is a growing sense on Capitol Hill that, although they are operating within the current law, the Indian service providers exploit the H-1B structure to achieve a competitive advantage by paying lower wages than they otherwise would have to pay in the United States.
What will the legislation do?
Objectives. The legislation specifically targets service providers that have a high proportion of H-1B visa holders in their U.S. workforces. The primary objectives are wrapped in the “outplacement” provision, which aims to:
Threshhold of H-1B use by providers. The legislation also establishes a threshold for the use of H-1B visa holders serving U.S. clients, with the threshold ratcheting downward as follows:
Providers operating with a larger ratio of H-1Bs than the allowed threshold will not be allowed any new H-1B visas.
Heightened wages. The legislation includes a provision that effectively will make the providers aggressively using visa holders pay their H-1B employees approximately 20 percent more than they currently pay. This likely will necessitate raising wages for other employees too.
H-1Bs on site in client locations. We believe the most onerous provision of the legislation is a clause prohibiting providers from placing H-1B visa holders on clients’ sites if the provider’s overall U.S. workforce includes more than 15 percent H-1B visa holders.
In picturing the impact to Indian providers, think of Cognizant. We believe their current U.S. staff includes more than 85 percent H-1B visa holders.
Increased H-1B application fee. A consequence of the reform legislation effort will substantially raise the H-1B application fee to $10,000 for employers with 50 or more employees of which more than 50 percent are H-1B or L-1 employees. This sting especially will significantly affect the Indian outsourcing providers as they currently pay $4,325 per visa application.
It’s clear that the service providers that are currently major users of H-1B visas will see the most impact on their business from the visa reform. Who are they? Exhibit 1 shows the 13 top H-1B visa recipients based on their inventories in FY2011-FY2012.
If Congress enacts the legislation in or close to its current state being considered by the Senate, service providers that heavily depend on H-1B visas as part of their business model will need to change their U.S. operating business model in order to accommodate the legislative mandates. It will become significantly more costly for providers whose models depend on the H-1B visas.
Complying with the mandates will require providers to lower their number of H-1B employees as well as pay them higher wages. We believe this will raise their costs to the equivalent of reducing their net margins by 20-30 percent if they don’t employ mitigation strategies.
Moreover, the legislation will result in a larger pie of H-1B visas available and thus will be beneficial to firms that have wanted more visas but availability ran out. But the Indian providers (who currently hold the largest slices of that pie) will not be able to participate as aggressively in the new larger pie.
How will the legislation impact MNCs and GICs?
From an outsourcing perspective, we don’t believe the proposed legislation will have any negative effect on MNCs because companies such as Accenture, IBM, and others already are below the 15 percent threshold. Their overall U.S. business models do not depend on H-1Bs (although they do certainly leverage them in their outsourcing businesses), and they have a relatively small proportion of H-1Bs in their workforce.
Indeed, we believe the visa reform legislation could have a positive effect on MNCs because it will raise the operating costs of their Indian competitors and thus could result in a modest advantage of leveling the playing field.
Likewise, we don’t believe the legislation will negatively affect the GICs. Their parent organizations already have large onshore employee population and will easily fall below the 15 percent threshold for H-1Bs. In fact, it may become more attractive to move work to GICs once Congress passes the legislation because the Indian service providers are constrained in their operating models (i.e., offshore internally vs. through third-parties).
As discussed already, the large Indian outsourcing firms will take the biggest hit. While a few Indian heritage providers, particularly on the BPO side, may fall below the threshold ratios, overall we don’t believe the legislation will have a negative impact on this class of Indian providers.
We won’t know the full impact to service providers until the legislation is adopted. But if Congress passes it with provisions close to the bill’s current form, the impact to the global services industry will be far reaching.
It’s important to note that the language in some clauses of the current form of the legislation lack clarity and some clauses currently lack Congressional consensus on how to apply the provisions. We believe the most significant of these areas are as follows:
Location. The outplacement provision’s current language is as follows: “An H-1B dependent employer may not place, outsource, lease, or otherwise contract for the services or placement of an H-1B nonimmigrant employee.” Some believe this language only restricts the Indian providers’ ability to place visa holders on site at clients’ offices. But our analysis is that Senator Durbin’s intent by the language in the provision is broader and intends to restrict the ability to “contract for” H-1B visa holders to serve clients. Obviously, this would significantly undermine the Indian firms’ current business model.
Triggering ratio of H-1Bs. What will be the triggering ratio of visa holders to U.S. employees in the outplacement provision? While some assume it will be the same as for other visa-related provisions (50 percent), we believe the current language calls for a triggering ratio of 15 percent. Again the hit is hardest to Indian firms.
Applicability to new or existing visas. The current lack of clarity in the legislation brings question to when the heightened wage requirements will apply to new or existing visa holders. If the outplacement provision were to apply only to new H-1B visas — which expire after three years — the provision would be phased in over three years. The outcomes of this scenario include:
Everest Group believes the provision is most likely to apply only to new visa holders. Even so, we don’t believe that this will reduce the amount of the margin impact on Indian firms due to heightened wage requirements.
This is just the first in a series of blog posts exploring the multi-faceted impacts from the proposed legislation. In future blogs over the next two weeks, we’ll provide more detailed analysis and guidance on the impact to the Indian heritage firms and the possible mitigation actions providers can employ to protect their business. We’ll also discuss in detail how the outcomes will likely impact customers. Everest Group is also preparing to publish a more in-depth analysis in a viewpoint for our research subscribers.
On August 20, 2012, the Alabama District Court dismissed the whistleblower retaliation lawsuit initiated by Jack Palmer against Infosys. Interestingly, the judgment also ordered the plaintiff to bear the court costs, further underlining the emphatic rejection of the lawsuit. Yet in the face of this particular win for Infosys, it is important to understand the implications of the judgment for Infosys customers and investors, and for the offshore IT services industry as a whole. Should all concerned breathe a sigh of relief, leave this chapter behind, and move on to other important business? Unfortunately, no – at least not yet!
Infosys’ legal troubles are far from over. Earlier in August, Satya Dev Tripuraneni, a California-based former Infosys employee also filed a lawsuit against Infosys for whistleblower retaliation. While the judgment in the Palmer case provides encouragement to Infosys, we must take into account that the Tripuraneni lawsuit was filed in a different jurisdiction with a different judge, and has a different set of facts.
The second and more important thing to keep in mind is that the judgment in the Palmer case only exonerates Infosys from any wrong doing in response to the whistleblower’s lawsuit. It does not provide any additional clarity on the underlying issue of visa misuse by Infosys. This is currently the subject of a federal criminal investigation, and the outcome is likely to have a more direct impact on the company and the broader services market.
Unlike the whistleblower case, Infosys is on potentially weaker footing on this issue, as it admitted that the Department of Homeland Security found errors in a significant percentage of Form I-9 employer eligibility verifications with respect to employees working in the United States. An unfavorable outcome from the investigation could prove quite serious, as the consequences extend well beyond a financial fine to possibly include reputational damage, a drop in market valuation and stock price, and a shift of client work away from Infosys. The implications may also impact other Indian heritage service providers with by proxy negative reputation overhang.
The favorable resolution of the Palmer case brings much needed good news to Infosys and other India-based companies, and Infosys itself can take a deep breath and feel somewhat validated in the position it has taken to date. However, the dark clouds of the criminal investigation continue to loom ahead, and Infosys – and by extenstion the industry – is far from out of the woods.
As is well-documented at this time, a whistle blower and current Infosys employee has brought suit against Infosys claiming that Infosys has criminally manipulated U.S. immigration law to allow it to bring large numbers of employees into the United States to do work under visas that do not allow such activities. This in turn led the U.S. Citizenship and Immigration Services to launch a criminal investigation of Infosys.
This brings to mind a notorious case in which the government’s criminal investigation of accounting firm Arthur Andersen related to its conduct at Enron created unintended consequences. Andersen was subsequently found not guilty; however, the government’s enthusiastic pursuit of the case and aggressive use of its position “to protect the public good” created an environment in which Arthur Andersen went out of business. The investigation and subsequent closing of Andersen caused massive disruption in the Anderson audit base, put tens of thousands out of work and destroyed the lives of thousands of Andersen partners.
Infosys is unlikely to be put out of business, but I think there is a warning which should be applied to this emerging, but eerily similar, situation. As the criminal probe progresses, one could imagine that the consular officials overseeing issuing visa’s in India cast a jaundiced eye over Infosys visa applications. If Infosys starts to be seen by these consular officials as a criminal organization, or at least practicing overly aggressive strategies in applying for visas, we could see increased scrutiny of Infosys’ visa applications, which could create a scenario that might impede Infosys’ normal operations. Such a scenario is not altogether unbelievable given the current political climate with 9 percent unemployment and the early stages of a presidential election brewing, which could drive populist rhetoric on such issues. Should this behavior indeed transpire in part or in whole, it would have a substantial effect on Infosys’ ability to conduct operations as normal in the United States. Costs would rise, knowledge transfer could be delayed or forgone and Infosys’ ability to find and capture new work could be impacted. No wonder Infosys stock price is down today.
The worst case scenario is that a more aggressive posture by U.S. immigration officials on top of an environment that is already unfriendly could spread to Indian heritage service providers and outsourcers in general. At this time it is too early know if what scenario will unfold, but the situation deserves close attention. Like the Arthur Andersen situation, we may find well-intentioned and vigilant public employees operating in a time of high political tension create unforeseen and negative consequences well beyond the intended scope of the investigation and without regard to what the actual resolution of the investigation turns out to be.