Link to part 1 of this post: Part 1
In last week’s post, we discussed the factors that have made India among the top investment destinations globally for companies and investors. Yet, many companies continue to treat an Indian branch expansion with wariness, or choose to not engage at all. This is because several ‘proven’ business models failed when they came to India and yet others that found themselves wrapped in red tape. There is a general impression that there is a great deal of “chaos” in India – and this is absolutely true. Lengthy Government approval processes, confusing banking guidelines and the presence of a large unorganised sector (which may also compete with your product or service) are enough to scare many.
What are the challenges that businesses face when they try to set up an India office? Broadly, there may be systemic issues or specific issues. Systemic issues are those that affect all businesses in India or in a certain sector. Specific issues are those which specifically affect overseas companies looking to set up an Indian branch.
Complex taxation systems
India has both direct and indirect taxation in the form of income tax (IT) and goods and services tax (GST). The latter replaces many taxes, including service tax, value added tax, central sales tax and others. Both IT and GST systems are moving towards greater online reporting, however both require in-depth analysis and interpretation of tax law. There are also several monthly, quarterly and annual tax compliances for companies of all sizes. In addition to this, tax scrutiny/assessment or tax audit can often be a lengthy, time-consuming process, with extraneous factors influencing outcomes at times.
Regulation of FDI and foreign exchange
The Reserve Bank of India (RBI) controls all foreign exchange inflows and outflows, directly or through the banking system. Foreign direct investment (FDI) in India was historically heavily regulated, it is now more liberalised. However there are detailed compliance requirements for remittance of capital into India and for repatriation of profits to a parent outside India. Remitting money into or out of India through banking channels also requires a substantial amount of paperwork. Similarly, taking a loan from an overseas parent company falls under the External Commercial Borrowing (ECB) guidelines which restrict certain sectors from borrowing and place limits on amounts, interest rates, agreements, etc.
Complex legal systems and slow moving judiciary
A relic of the British era, India’s legal system is complicated and often archaic. There are several legacy laws that continue to apply to companies and individuals. All businesses require multiple registrations and certificates and manufacturing entities face the highest compliance burden. Labour laws are strict, however most small to medium sized companies do not have strong unions. Delays in court cases can stretch to decades and it is quite ordinary for all directors of a company to received personal notices in litigations against the company.
It’s therefore not surprising that most corporates prefer to settle disputes via arbitration and mediation rather than take the legal route.
Transfer pricing requirements
Transfer pricing requirements apply under the Indian tax law to companies which have transactions with their overseas parents, subsidiaries or group companies. The net of a “related party” for transfer pricing is extremely wide and therefore can bring a multitude of transactions under the scanner. There is a high risk of summary negative assessments, penalties and punitive damages being levied for actual or perceived non-compliance.
Differences in market
In size and scope, India is an extremely complex marketplace. For consumer brands in particular, it can be overwhelming to formulate a strategy. This is because of the multitude of regional languages, the varied income ranges of consumers, the difficulty of setting up a distribution network and so on. Local competition usually exists and has the first mover advantage. There is also a thriving and fragmented unorganised sector which cannot be analysed and competed with.
Differences in culture and problems with JV partners
Among the specific issues that overseas companies face is the difference in culture. This can be either work culture or social customs (or both). It therefore takes longer to establish a good JV partnership and both partners may occasionally find themselves befuddled by the actions of the other. There are often conscious and unconscious biases at play, which make integration difficult. In addition, employees in India are trained differently from employees in European or American contexts. So the conflict continues as Indian employees find themselves reporting to an overseas manager, or vice versa.
With all of these unique challenges, many companies choose to back out after a market study. Others start operations but find they are unable to achieve the growth rates they planned. But for each of these, there is also a success story of an overseas company that came prepared to face the challenges and adapted itself to win in the market. The key, then, is to know what your company is getting into, to consult experts as much as possible and to adapt your offering for the market. The final requirement is patience – there will definitely be surprises along the way but with preparation and patience the Indian branch office could become a powerhouse of the global business.
Interesting reading: McKinsey – How multinationals can win in India
AMA has a long history of guiding and assisting overseas companies in setting up an Indian office. To know more about our India set-up services for global businesses, please see: India strategy – setting up a company or business in India
Related posts: Foreign companies entering India – what structure is right for you? International tax considerations before setting up a company in India Cross-border Joint Ventures – Promises and Pitfalls Case Study: International tax and transfer pricing for an Indian subsidiary of a European group
Categories: India Strategy