Limit for overseas investments through automatic approval route increased from US$ 50 m to US$ 100 m.
The limit for joint venture investments up from 25% of net worth to 50%.
Customs duty on inputs for hardware devices reduced to 5%.
The 100% deduction of export profits allowed to certain units under sections 10A and 10B of the Income-tax Act to has been reduced to 90% for the FY03.
Budget Impact
The software companies need to strengthen their presence overseas considering the fact that more and more critical projects are being outsourced. The increase in limit for overseas investment and joint ventures will help companies set up larger outfits. This move is likely to help top rung software companies like Infosys, Wipro, Satyam and HCL Tech.
Most of these companies have a huge amount of cash in their balance sheets. With the slowdown in topline growth RONW, ROCE has been deteriorating. The companies are looking at inorganic (acquisitions and joint ventures) for growth.
The decrease in customs duties will help hardware manufactures like HCL Infosystems and Wipro to price products more competitively. The unorganised sector in hardware as a 53% market share as it avoids paying taxes. This move will help the hardware companies to counter the cost leadership strategy of the unorganised segment.
The lowering of deduction in export profits to 90% (from 100%) will causes the effective tax rate for software companies to increase from 0% to 3.5%. The increased tax will cause the net profit figure to be lower. Most of the software companies earn a significant portion of their revenues from exports. The worst affected are likely to be the majors like Infosys and Satyam that have more than 95% of the revenues coming from exports.
Industry wish list
Mr. Nandan Nilekani, MD, COO and President, Infosys Technologies There are still some issues that need to be resolved by the Union Government for the software industry. One of them is the abolition of custom bonding. Companies operating under the STP scheme are required to get their premises custom bonded, necessitating multiple approvals from Department of Electronics-STP and also the Customs and the Excise departments. This results in a delay in the movement of computers and other equipment from one STP to another especially when software companies are setting up STPs in different parts of the country. Companies operating under the STP scheme should be allowed to operate without the requirement of customs bonding. And they should be allowed to import duty free goods without prior approval from government agencies.
Indian software companies should be allowed to maintain their surplus funds in the EEFC account (only if they do not have borrowing in the EEFC account) up to the limit they are entitled to make overseas acquisitions and to support their various needs abroad like payment of maintenance allowance to employees, marketing office expenses etc. These funds should be capable of earning interest.
The government should remove anomalies in tax laws for the software sector. An amendment to Sec 10A of the Income Tax Act, 1961, is required to remove ambiguities. Clarifications are also required on several withholding tax issues affecting the software industry. The Central Board of Direct Taxes (CBDT) should notify that payments made to international service providers who provide bandwidth outside India and who do not have a permanent establishment in India should not be subject to withholding tax in India on the payments made to them.
Mr. Jerry Rao, Chairman, Mphasis BFL In order to reduce transaction costs and facilitate cash flow management, companies be permitted to transfer funds to the overseas non-trading offices (marketing branches) directly from the corporate collection accounts maintained in foreign currency accounts abroad without having to route it through the EEFC accounts in India.
We recommend tax benefits should be allowed to supporting manufacturers to the extent of value edition.
We propose that the term "technical services" should be clearly defined to exclude the following:
Expenses incurred in developing software onsite
Expenses in foreign currency on marketing offices outside India.
Expenses incurred on foreign exchange on travel
We recommend that dividends received from overseas subsidiaries of Indian companies are not taxed in India.
National Association of Software and Service Companies (NASSCOM)
Softex form as well as Forms A and B should be dispensed with or be made into Self Declaration Forms.
Applicability of Section 10A/10B for on-site software development be made with retrospective effect.
CBDT should issue clear-cut guidelines on the method of computation of Income tax deduction under Section 80 HHE.
On-site services exports and software units in backward areas to get income tax exemption.
No fresh tax on e-commerce transactions for at least the next five years.
Enhancement of telecom infrastructure and allocation of more resources for power and National Internet Backbone.
Key Positives
Immense market potential - The IT service industry is estimated to be of the size of US$ 440 bn. Considering the sectors revenues in FY01, the market share of the Indian industry works out to be a small 2%. With Indian companies offering far superior prices for their services on the back of offshore advantage, it is more than likely that that the markets share will increase in the future.
High productivity - Most of the software companies have shown dramatic increase in productivity. The revenues are directly proportional to number of billable employees and the multiplier has been increasing over the years. For product companies the multiplier is higher, as the same effort is sold over and over again.
Technology development - Increasingly the software companies are entering the technology domain and a lot of pioneering technology is being developed in the country. Especially in the area of embedded software and telecom software.
Recognition as quality software providers - India is gradually gaining recognition across the globe as a world-class software services provider. This along with cost competitiveness has caused a lot of global majors consider India for their outsourcing needs. Best quality at least cost has been the competitive edge for the software companies.
The ability to manage costs - The sector has shown tremendous resilience in the difficult times it is facing. While the topline growth has decelerated sharply, the companies have managed to maintain operating margins by managing costs very judiciously.
Size of contracts getting larger - As the Indian software companies gain acceptance in the western markets, the size of contracts that are being awarded is increasing. While traditionally the size of contracts has been in the range of US$ 10 m to US$ 12 m, a contract of the size of US$ 50 m can make a considerable difference to the topline. The large software companies usually earn about US$ 130 m contract in a quarter.
Key Negatives
US economic slowdown - US accounts for more than 56% of the revenues from software export. A slowdown in the US economy has impacted the software industry’s growth. As compared to 66% growth in exports for FY01, the industry is expected to clock about 25% growth in FY02.
Intense pricing pressure - As a consequence of the tough economic environment, there is a price war raging. Almost all the companies have seen billing rates decline. This is a trend that is likely to continue and the future growth will have to be volumes based.
Lower end of value chain - The companies into body shopping and legacy system may see low growth due to stiff competition, as demand will go down. This will impact not only growth but also operating margins.
High cost of bandwidth - At present the availability of international bandwidth is just 1.5 Gbps against the current demand of 990 Mbps. However, the cost of bandwidth is far more as compared to developed countries.
Hardware - Unorganized sector gets an unfair cost advantage because of high excise duty. This is the key negative for hardware sector. The excise duty on computers is 16%. The unorganised sector does not pay these duties. The assembled industry holds about 53% of the market share of the PC industry. Also, the penetration of personal computers in India is quite low at 3.6 computers per thousand people, as against 362 per thousand people in the US.
