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Information Technology Sector- H1-B Visa 'Premium Processing'

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Information Technology Sector- H1-B Visa 'Premium Processing' Institutional Equities Information Technology Sector 6 March 2017 H1-B Visa ‘Premium Processing’ Temporarily Suspended; Modest Negative Girish Pai Impact On Execution Likely; Sub-contracting Costs Could Potentially Rise Head of Research United States Citizenship and Immigration Services (USCIS), on 4 March 2017, stated that it was [email protected] temporarily suspending ‘Premium Processing’ of H-1B visa petitions (see its complete statement on Page +91-22-3926 8017 2). The change is slated to take effect from 3 April 2017 for all H-1B petitions (for both 85,000 capped visas and cap exempt visas–renewals and inter-company transfers, in our view) and may last up to six months. The premium processing option allowed companies to pay an extra US$1,225 per visa to have their petitions reviewed in two weeks, rather than the usual two to six months. In response to this development, industry body NASSCOM put out a statement on 5 March 2017 that ‘temporary suspension of premium H- 1B processing will create some process delays for companies - Indian and American - but is not a significant impediment’. A large Indian Tier-1 company that responded to our query on this matter indicated that very few of its H1-B visas go through this route and the few that are taken up are in case of renewals when they are close to expiry. We are not sure whether to extrapolate this statement to the entire industry as USCIS had indicated in its statement that there was a ‘significant surge in premium processing requests over the past few years’ indicating a large number of such applications. We understand that US technology companies like Microsoft (MS) and Facebook (FB), who rely on H1-B visas, are also probably large users of this premium processing programme. While it makes less sense for a fresh applicant to use this service (as anyway an applicant cannot be deployed before 1 October of any particular year), it makes a lot of sense in the case of renewal or inter-company employee transfer (which may be the case for MS or FB). The fact that both cap-exempt and non-exempt visa petitions will not witness premium processing for a while could mean visibility problems on project staffing, especially on new projects won in FY18. With about a third of the H1-B visa holder base renewing every year, it is quite likely that companies may rush through with premium processing requests by the end of March 2017 (USCIS says it will process them) to ensure that existing projects are not affected. We believe this could potentially be margin-dilutive in the March 2017 quarter. We see an increased use of sub-contractors and possibly building of onsite bench to handle any eventuality as the length of suspension can extend to six months. Any increase in onsite bench and hiring of sub-contractors will add to the cost base. Anecdotal evidence from Indian companies indicate that visa rejection rates have gone up in recent years and such premium processing service helps give Sector Update Sector visibility to project staffing. We are not very sure whether this marks the first step in the Trump administration’s tightening of visas. In anticipation of likely tightening of the H1-B visa regime, we had cut our margin estimates for companies under coverage in our report H1-B Related Minimum Wage Increase – Material Damage Likely To Margins Curbs on H1-B visas is popular on both sides of the aisle in US Congress: With about half-a-dozen pieces of legislation introduced (and re-introduced) since January 2017 to curb alleged misuse of the H1-B visa regime from both Democrats and Republicans, it is likely that this will be taken up at some point in time in 2017. While some of these legislations have argued for raising the minimum wage to US$100,000mn or to US$130,000mn, some have argued for a change from the current lottery-based system to the one based on merit (the employee with the highest compensation getting the visa first). But all of them seem to suggest that any large employer in the US (greater than 50 employees) with more than 50% of its staff on H1-B visas will not be eligible to bring in more H1-B visa holders. The last element has been forcing Indian companies to proactively recruit locally over the past few years to shift the employee mix. We believe that most large Indian IT services companies currently have 60%-70% of their US employee base as H1-B visa holders. Financial impact goes beyond increase in minimum wages: As stated by us in multiple updates written by us (see links to them on Page 2), the financial impact goes beyond just increase in minimum wage. Lower mobility of local staff could lead to lower utilisation onsite (H1-B holders are very mobile within the US, according to companies), higher fresher cost, the higher-than-usual wage inflation as there is a scramble for onsite talent, likely rebadging of employees who are transferred to the vendors’ rolls, etc in our view are areas which could lead to margin dilution going forward. We believe mitigation in the form of a shift in work offshore is there, but statements by players like Cognizant Technology Solutions indicate that the room here is not substantial. Automation is probably the only key lever that could play a role in mitigating the pressure. However, we believe replacement of onsite based labour in a material way by automation is sometime away. Digital business is onsite-centric and project-oriented with low visibility of demand and prone to lower utilisation: With incremental business coming from digital projects over the past several quarters, the delivery mix has been increasingly shifting onsite. Also, while digital project sizes have been going up over time, unlike traditional services, these are still small with low demand visibility. Our discussions with industry indicate that there are times when teams are idle between projects. This phase, when the manpower is not billed, could hurt margins. Pressure on US President Mr. Donald Trump to deliver on his campaign promises: Having made H1-B visas one of the issues in his campaign (see Mr.Trump’s statement in this regard on Page 4), there has been a call from US Senator Mr. Richard Durbin, someone who has been focused on this matter for more than a decade, to write a letter to Mr. Trump to take action before 1 April 2017 (see Page 5). It remains to be seen if an executive order will be issued before that. NASSCOM and Indian government have been in dialogue with the Trump administration to prevent such a thing. Institutional Equities We have a negative view on Indian IT services sector: In the near term, we believe the changes to H1- B visa rules are likely to be realised and they will have a material negative impact on the margins of the companies under our coverage over FY17-FY19 (H1-B Related Minimum Wage Increase – Material Damage Likely To Margins). We expect RoIC to also move down in tandem. We expect the sector to post 3%-6% US dollar or USD revenue growth in FY18 (likely lowest on the street, organic). In our sector reports Structural And Cyclical Speed-breakers Ahead and Downside Risks Open Up - It Is That Time Of The Cycle!, we had indicated the reasons for being bearish on the sector: These include: (1) The probability of below-trend growth in the US over the next 12-24 months is high as the economic cycle is maturing. This, in our view, will have a deleterious impact on Global 2000 corporations’ sales growth - key driver of Indian IT sector’s revenue growth. (2) We believe volume growth, pricing and margins are all likely to disappoint current consensus expectations amid intense competition because of convergence of capabilities and strategies among Tier-1 Indian players. (3) We see revenue cannibalisation from automation to accelerate as the entire industry is in a challenger-defender paradigm and some players have already factored in aggressive assumptions on gains from it and therefore have to deliver unless they want to witness material margin downside. (4) We do not believe digital business is material enough to offset the pressure one expects in traditional business. Besides we believe Indian industry is not getting a fair share of this business because of lower capabilities in consulting and design. (5) We see P/E multiple remaining compressed for the sector as revenue and earnings growth will be anaemic. We also expect return ratios to move down materially over FY17-FY19. Links to reports published by us on the H1-B and related issues Indian IT Services Sector - The Trifecta Creates Risks Information Technology Sector- H1-B Related Minimum Wage Increase – Material Damage Likely To Margins Information Technology Sector- An Executive Order On H1 B Visas Could Bring Forward The Pain To FY18 Tata Consultancy Services- Exhibits Divergence From Peers On H1-B Visa Issue United States Citizenship and Immigration Services (USCIS) statement on premium processing USCIS Will Temporarily Suspend Premium Processing for All H-1B Petitions Starting April 3, 2017, USCIS will temporarily suspend premium processing for all H-1B petitions. This suspension may last up to 6 months. While H-1B premium processing is suspended, petitioners will not be able to file Form I-907, Request for Premium Processing Service for a Form I-129, Petition for a Nonimmigrant Worker which requests the H-1B nonimmigrant classification. We will notify the public before resuming premium processing for H-1B petitions.
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