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Software: Hard landing?

Limiting of the 100% deduction of export profits allowed under sections 10A and 10B of the Income-tax Act to a 90% deduction is a major dampner

Budget Provisions
One of the major sentiment dampners for the software sector during this Budget was the proposal to tax the software exports. Yashwant Sinha has proposed to restrict the 100% deduction of export profits allowed to certain units under sections 10A and 10B of the Income-tax Act to a 90% deduction for the assessment year 2003-2004.

The second provision is relating to investment in overseas companies. Indian companies wishing to invest abroad may now invest up to US $ 100 million on an annual basis through the automatic route, up from the existing limit of US $ 50 million.

Indian companies making overseas investment in joint ventures abroad by market purchases may now do so without prior approval up to 50% of their net worth, up from the current limit of 25%.

Reactions
B. Ramaswamy, President and Managing Director, Sonata Software

For the software industry the proposal to enhance the investment to $100 million and allowing investment in joint ventures (JV's) upto 50% of the networth on an automatic basis is a welcome step. This will help companies to chart out aggressive inorganic growth strategy.

Curtailment of 10A benefits is disappointing especially since there is already a time limit for this benefit upto 2010.

Proposals regarding dividend tax is definitely a dampner from the retail investor's point of view.

While a lot of emphasis is rightly laid on reforms in the agricultural sector, the issue of industrial growth needs to be addressed more vigorously.

Sanjeev Aggarwal, CEO, Daksh eServices

The IT enabled services industry is still at a nascent stage and in this short span has created a large job market in India. It has also complemented the development of multiple ancillary industries like training, transportation etc. For an industry with such potential, a restriction in the deduction of export profits does not augur well.

Vishnu Dusad, Managing Director, Nucleus Software Exports

Extremely limited innovation used in waking up the economy from deep slumber, giving it a long-term direction & short-term fillip to the economic activity in the country. Demonstrates the "well" vision rather that vision of the global leadership.

The way the defence ministry's bureaucrat's had the fog cleared, when they spent a month in Siachen, the finance ministry & bureaucracy should consider travelling to China to understand how misleading "growing by leaps & bounds", could be.

IT industry will continue its competitive edge as no required impetus has been given to domestic software industry such as breaks for the purchase of Software Products.

Nucleus will be generating a few opportunities through implementation of some of the tax administration proposals.

Pramod Khera, Managing Director, Aptech Training

The reform process that was initiated in the last couple of budgets is continuing with further rationalization of customs duty. Selective exemptions have been given to certain industries like textiles, tourism & telecom, which will help them. But overall the sentiment has been dampened due to bringing back of dividend tax & imposition of surcharge.

The IT Training Industry is dependant upon the growth of the IT industry as a whole. Overall the budget is quite friendly to the IT Industry & this should add to the improving sentiment amongst the students & help the industry revive this year.

A. G. Muralikrishnan, Chief Financial Officer, Aztec Software and Technology Services

The Union Budget 2002-2003 is an average budget as far the IT Industry is concerned. Restricting the deduction u/s 10A/10B to 90% is definitely not a step in the right direction. The message so far conveyed to the IT industry is that 100% deduction will be available till 2010. Investments that have been made based on this premise would be affected. Although 10% of the profits being taxed is not so significant, it definitely sends a signal of uncertainty vis-à-vis the quantum of deduction for the subsequent years.

Taxation of dividends is a step in the reverse direction because this decisively brings back the concept of same profits being taxed twice. With the increase in Corporate as well as individual taxes as a result of the 5% surcharge the impact on this count will be even more. The tax payouts by Corporates who have invested in Mutual Funds will also be higher as a result of dividends being taxed. Savings on account of abolition of 10% distribution tax by Mutual Funds will be more than offset by the Corporate Tax of 36.75%.

On the other hand the Budget seems to have addressed the infrastructure sector. Commendable is the small beginning that has been made with respect to reduction of Government workforce by 12,500.

Srinivisan, CEO & MD, ICICI Infotech

I am of the opinion that the overall impact will be somewhat adverse effect by changing the dividend tax paradigm. Apart from that there doesn't seem to be a clear direction as to how it will overall effect the countries economy.

On the IT industry front I think that the deduction available under section 10A of income tax act which has been reduced from 100% to 90% would result in a minor disadvantage for the IT industry.

There are no significant measures announced for the industry, hence there is no noteworthy impact on ICICI Infotech as an organisation per se.

The overall long-term implications of the budget are not very clear. In developed countries there is a general expectation of a stable tax regime, to enable the corporates to make long-term plans and projections.

Frequent modification of various elements of tax, excise and customs duties do not help in energizing the economy as it makes it difficult for companies to plan ahead predictably.

Deepak Ghaisas, CEO- India Operations, i-flex solutions

Overall, this is an average budget and not very exciting. On the other hand, it is not below expectations either.

From the IT industry's point of view, there are a few disappointments. The extension of tax holidays u/s 10A/10B have not come through, and there is nothing to acknowledge the rough times the IT industry is going through.

However, a positive outcome of this budget is that no fresh taxes have been proposed for the software industry, which ensures its continued growth.

Among the top benefits introduced by the budget is the flexibility Indian software companies will now enjoy in terms of investments abroad. Doubling the investment limit abroad to US $100 million per annum through the automatic route from the existing US $50 million and allowing overseas investments in joint ventures abroad by market purchases up to 50% of the company's net worth will provide a boost to the growth strategy of Indian companies. This will now allow software companies in India to aggressively pursue a global vision and grow their 'Made in India' products and services across foreign markets, in turn encouraging software companies to extend their businesses and increase employment opportunities with foreign exposure.

What would have been well appreciated are initiatives promoting the expansion and development of the domestic IT software market, which again are absent from this year's budget proposal. The extension of scope of service tax will increase the tax base, but e-commerce fortunately has not been brought into the ambit of service tax.

The boost for the Agriculture Industry is very important. If the plans announced for the Agro based sector come through, they would escalate the purchasing power of the rural population and in turn boost overall demand. Also important are the measures announced for entertainment and the tourism industry.

The industrial slowdown has affected tax collections to the extent of 13%, but nothing much has been done to boost industries except to announce a few infrastructure initiatives. Things like airports conforming to international standards are anyway a necessity as these are the structures that give the 'First Impression' of the country when any investors, tourist comes to the country.

Gopal Krishnamurthi, CFO, Mascot Systems

The positives for the industry are -
Allowing investment of $ 100 million through the automatic route up from $ 50 million; Increasing joint venture investments abroad of up to 50% of the networth; Bringing down the peak rate in customs duty to 30% from 35% and expanding the fibre optic network by 75,000 km.

The negatives for the industry are -
Proposal to allow only 90% tax exemption on income earned from software services comes in as a dampner at a time when industry is focusing on moving work offshore, Should the above point be applicable to IT enabled services, this will affect a nascent and upcoming sector, Investment of surpluses in dividend yielding mutual funds will cease / come down as dividend becomes taxable at the corporate tax rate - this will result in flight of money into growth funds for longer tenure to avail long-term capital gains.

Industry Impact
Overall, the impact in absolute terms will not be very large due to the change in the Sec. 10 A/10 B clause. However, the sentimental impact is much larger. The fact that the software exports were exempted from taxation earlier till 2010 and will now be taxed in the coming year can cause a sense of insecurity among the software companies. The industry association needs to keep its legs moving and make sure that the current 90% deduction is not further reduced in future.

The other provision relating to investment in overseas companies is a welcome one. In fact, it has been due for a long time, since the time when valuations were sky high and Indian software companies were talking of acquisitions. Although now there is hardly any talk of acquisition or investment in overseas companies, this enabling provision will certainly help the sector in future as and when the activity picks up.

Company Impact
With the investment option moving up to $ 100 million, large software companies like Tata Consultancy Services, Infosys Technologies, Wipro, Satyam Computer Services etc. can look towards the acquisition and joint ventures in a new way to improve their global standing.

Amongst the lower cap companies, the difficulties seem to be getting more and more as the days progress. Earlier, it was only competition and demand problems, which were a cause of concern. Now, the Government policy also needs to be looked into carefully and this is a serious cause for worry for all these companies.

Companies to watch
Infosys, Satyam, Wipro, Digital, Mphasis BFL, E-Serve International, Geometric Software

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