Japanese companies increasingly look to India for business opportunities, but they have yet to fully tap the potential of one of the world’s fastest-growing economies with its vast pool of skilled human resources, said participants in a recent symposium in Tokyo.

At the same time, prospective investors in India still face a wide range of problems and risks including poor infrastructure, institutional shortcomings and inadequate information disclosure, they said.

“While India is making headlines in the last year or two, it has been growing consistently for the last 25 years,” with the average annual growth rate picking up to 7.5 percent to 8 percent since 2002, Arun Subramaniam, India representative of International Risk Ltd., told the Sept. 13 symposium organized by Keizai Koho Center under the theme, “Business opportunities and risks in India.”

In contrast to the Chinese development model, India’s growth has been mainly driven by its huge domestic market, Subramaniam said. Domestic consumption accounts for 66 percent of India’s gross domestic product — compared with 55 percent in the European Union and 44 percent in China, he added.

India today has a middle class of roughly 300 million people, and about 1 percent of its population is getting out of poverty each year, said the Bangalore-based consultant who analyzes business, regulatory and political risks involved in doing business in India.

The country’s potential as a market derives from its young population — with 54 percent of the total population below 25 years old as of 2001, Subramaniam said. This demographic pattern is promising both in terms of workforce and consumption, unlike in China, where the working population is expected to stagnate in the coming decade or so and could create social security problems, he added.

India’s biggest resource, Subramaniam said, is its skilled manpower. With its over 380 universities and 1,500 research institutes, India produces 2.2 million university graduates, 300,000 post-graduates and 9,000 PhDs every year, providing a large base of skilled manpower for companies operating in the country, he noted.

After concentrating mainly on China in the last several years, Japanese companies are now increasingly interested in Indian business opportunities. Subramaniam quoted a Japan Bank of International Cooperation report in 2005 that put India second — just behind China — as the preferred investment destination for Japanese firms — up from sixth in 2002.

Subramaniam stressed that relatively labor-scarce but capital-abundant Japan and capital-scarce but labor-abundant India can complement each other. Similarly, India’s software prowess and service skills complement Japan’s track record as one of the world’s greatest hardware producers, he added.

Size still a problem

Still, he said, India is very small in Japan’s scheme of things.

While 6,000 Japanese firms operate in China and 2,000 in Thailand, only 328 companies have invested in India, he pointed out. Of the total Japanese foreign direct investments of $35.5 billion in 2004, a mere $96.7 million went to India, he added.

Makoto Kojima, a professor at Takushoku University’s Faculty of International Development, also noted that Japan-India trade was about one-third of India’s trade with China in 2005, while South Korea has almost caught up with Japan in terms of its trade volume with India.

Japan accounts for a mere 2.8 percent of India’s growing information technology service exports — far below the 66.5 percent for the United States, Kojima said.

He also noted that Japan and India are finally beginning to step up government-level exchanges. In April last year, when Japan’s ties with China were at a low, then Prime Minister Junichiro Koizumi visited India and touted the “great potential” of economic relationship between the two countries.

In 2003, India took over China as the largest recipient of Japan’s official yen loans, and the two countries are expected to shortly begin talks for an economic partnership agreement, Kojima said.

The Japan External Trade Organization has recently singled out six core areas of investment opportunity for Japanese firms in India, namely: automobiles and motorcycles; infrastructure building; raw materials such as chemical and steel; biotechnology; food processing; and services such as hotel, tourism, retail and transportation.

Subramaniam also cited opportunities in other sectors such as financial services, capital markets and real estate.

As for the infrastructure building, he pointed out that there are no Japanese firms among the 26 foreign contractors taking part in the ongoing construction of 12,000 km of India’s national highway network.

Japanese firms are also slow to take advantage of India’s research and development potential, he noted.

For example, despite its widely-held image as a software power as opposed to China as the hardware power, India’s semiconductor industry is growing rapidly and is forecast to overtake that of China by the end of this decade, he said, adding that Japanese companies are again not among the major international chip makers that have invested in India.

Despite these opportunities, doing business in India still carry a wide variety of risks, the panelists told the symposium. Subramaniam said the biggest threat to growth is the “mismatch between rapid growth in certain sectors of the economy without corresponding infrastructure.”

While India is the fastest growing market for civilian aircraft and has 15 private airlines today, its airports remain completely inadequate to handle the rising volume of aviation traffic, he said. Similarly, road construction is not catching up with the rapid increase in the number of vehicles put on the roads every day, he added.

“So you could have a situation where there are vast investments made in manufacturing but (the products) don’t reach the market,” he told the audience.

Little has been done to deal with electricity shortages and many companies are forced to generate their own power, he said. Prime industrial locations are increasingly in short supply and prices are getting sky-high, he added.

A slowdown in the U.S. economy and further increase in oil prices could also stall India’s growth and the inflow of investments, he said. Lagging economic reforms and asset price bubbles in major cities are also sources of concern, he added.

Uncertainty is one of the major risks in doing business in India, Subramaniam said.

On the slow track

“India takes too long to process business applications, (for investors) to set up the business, run and close it down,” he said, noting that these processes could take twice as long as they take in China.

He also cited inadequate information disclosure.

“Despite very strong corporate governance laws, companies reveal only as much as they need to. They formally adhere to (U.S.-based rules of disclosure) but in fact (the facts disclosed) are often not enough for investors,” he said. “As a result, the more closely-held the company is, the less information is available.”

India’s old business tradition has created multiple layers of corporate control and extremely complex shareholding structures, he said. With old business families controlling large numbers of companies in a conglomerate, control and ownership are dispersed and it “is therefore difficult to know what exactly a company is worth, what exactly is a company’s relation to others, what is the exact liability of a company,” he noted.

Subramaniam pointed to India’s multiple legislative sources as another risk factor. The country’s constitution divides legislative power between federal and provincial governments, resulting in some overlap in jurisdiction, he said. Creation of labor laws, for example, is the task of the central government, but their enforcement is left in the hands of local authorities, which have the power to amend the laws to suit their needs.

Labor disputes have been a big concern for Japanese firms investing in India such as Honda Motor Co., he said. While the number of strikes has declined over the past five years, India’s Labor Ministry statistics show that the strikes are becoming more prolonged, he said. The number of days lost due to strikes in 2005 rose 40 percent from the previous year to about 6.7 million days, he added.

Aside from the strong power of some militant labor unions, Subramaniam noted that India’s restrictive labor laws often force employers to use contract labor, and the involvement of third-party contractors supplying such labor can create problems.

The general investment environment, however, is much better than it was just several years ago, some of the panelists said. Eiichi Ono, executive adviser of Mitsubishi Chemical Corp., said things have changed a lot since the company launched its first chemical plant in the country in 2000.

Mitsubishi Chemical case

When Mitsubishi Chemical decided on its $380 million project to build a purified terephthalic acid plant in the suburbs of Calcutta in the late 1990s, the company faced various problems ranging from poor road conditions, to a complicated import tariff system, as well as inconsistent interpretation of laws and regulations among different sectors of the government, Ono told the audience.

The local government tried — sometimes aggressively — to lure what was then the largest investment by a single Japanese company in India, but officials’ promise to build an access road from the nearest national highway to the plant was fulfilled only as recently as last year, he said.

But institutional reforms over the past several years, including tax cuts and lifting of some foreign exchange control, have improved the business environment, Ono said. Bureaucrats are now willing to listen to what foreign investors have to say and are ready more than ever to build the necessary infrastructure, especially roads, he added.

Mitsubishi Chemical’s India unit started to make profit in its third year of operation, prompting the company to decide on building a second plant. Its ground-breaking ceremony was held in late August, Ono said.

Masahiko Kaji, president of TATA Consultancy Services Japan Ltd., the Japanese unit of India’s major information technology group, urged Japan to outsource more of its IT and other knowledge-intensive operations to India to beef up its own global competitiveness.

Today, roughly 220 of the world’s leading companies on the Fortune 500 list use the IT services provided by Indian firms, while about 100 of the Fortune 500 companies have established research and development units in India, Kaji said.

Many American companies initially outsourced to India because of cost advantages, but today they do so to take advantage of the country’s high-quality human resources and technological competitiveness, he added.

Behind the strength of India’s IT industry is the competitive nature of its engineering education, Kaji said. Each year, roughly 200,000 applicants vie for 4,000 openings at Indian Institutes of Technology, he noted.

While Japan in the future could face shortages of IT human resources due to the declining birthrate, retirement of corporate engineers and other factors, India continues to produce competent engineers, Kaji stressed. While only about 20,000 people enter the IT industry each year in Japan, 120,000 do so in India, he added.