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Anti-Outsourcing Laws in the USA: Attempts to keep jobs and data on U.S. soil

6/15/2005
Client Alert

As more and more companies look to outsourcing as a way to cut costs and focus on core competencies, proposed U.S. state and federal laws to limit outsourcing (and especially offshoring) have markedly increased.  These so-called "anti-outsourcing" laws contrast significantly with the approach to offshoring in Europe – but, given the size of the U.S. market and the global nature of outsourcing, such laws may have an effect on both outsourcing customers and vendors within the U.S. and elsewhere.

The National Foundation for American Policy recently reported that the number of state bills to restrict outsourcing rose from 4 in 2003 to more than 200 in 2004, though only 5 of the latter group became law in that year.  Currently, active bills to restrict outsourcing are pending in over 20 states, including New York, California and Washington, as well as at the federal level.  The bills include prohibitions on outsourcing jobs when receiving state aid (even, in some cases, within the U.S. if the work is performed outside of the state providing funding), restrictions on offshoring personally identifiable information ("PII") such as patient data, and requirements that offshore call centers disclose their location and/or re-route calls to U.S. operators upon request. 

It is interesting to note the differences between the approach to offshoring in the U.S. and in Europe.  In the U.S., the tide of media coverage and public opinion over the past 2 years (especially during the Presidential election campaign of 2004) has directly led to the "anti-outsourcing" laws discussed below.  Countries in Europe have taken the opposite course (and, indeed, the EU Commission has even published research showing that offshoring by EU-based businesses has had a net positive effect on EU jobs).  Similarly, European public opposition (although it does exist) to offshoring has reached nowhere near the levels in the U.S.; hence European countries are not taking the same steps to tighten rules on offshoring as are apparent in the U.S. 

The current and proposed state and federal laws in the U.S. directly affect (of course) U.S. companies that are currently engaged in offshoring business operations, or which contemplate joining the growing trend of offshore outsourcing.  But, despite the prevailing attitude in Europe, such laws also affect the business decisions of any multinational business with operations in the United States – as well as the delivery models of the main outsourcing vendors.  U.S. anti-outsourcing laws may therefore have an effect on the global outsourcing market. 

Summarized below are some of the key issues arising out of this wave of U.S. state (and potentially federal) anti-outsourcing laws.

Keeping Jobs and Tax Dollars At Home

Much of the proposed legislation focuses on preventing state contracts from going offshore, either via prohibitions on offshoring or through preferences to companies that will perform work in the state at issue, or within the territorial boundaries of the U.S.  For example, last year, North Carolina enacted a bill that provides a preference for North Carolina or U.S. products and services, but notably includes an exception where such preference results in sacrifice or loss in price or quality.  Other state laws passed in 2004 also place similar preferences on state use of local services or goods. 

The most stringent restriction on the use of offshore services or goods enacted by a state in 2004 is found in a Tennessee bill that creates a preference, in state contracts for data entry or call center services, for vendors who would provide such services within the United States. 

Regardless of the specific type of preference mechanism, the primary impetus behind anti-outsourcing legislation is clear: provide incentives to keep jobs and state funds in the U.S.

Critics suggest that such proposed legislation is likely to fail or will survive only in a watered-down form.  Considerations include possible unconstitutionality and the concern that such restrictions on offshoring may actually curb, rather than enhance, economic growth.  State contract bans that lack exceptions of the kind contained in the North Carolina law referred to above may force states to pay premiums if competitive bids from offshore vendors are excluded.  Furthermore, placing out-of-state and foreign companies at a disadvantage could lead to a backlash against U.S. providers of services and goods abroad, and a decrease in foreign investment in the U.S., further aggravating U.S. trade imbalances.  Notably, these were all reasons cited by Governor Schwarzenegger in his veto of Assembly Bill 1829, a California ban on contracting for state work to be performed outside the U.S.

Keeping Sensitive Data Safe and Consumer Eyes Open

Where services are nonetheless performed offshore, the principal driving forces behind anti-outsourcing bills are to protect financial and other sensitive consumer data and to ensure that consumers are adequately armed with knowledge and/or control over the handling and use of their data.  (It is also relevant that there is a wave of state legislation, modeled on a California bill, imposing notification requirements on data processors in the event that unencrypted consumer data stored by such processors has been hacked or its security otherwise breached.)  Many proposed bills to restrict the transfer of PII overseas are specifically targeted at data security risks created by offshoring functions involving health data.  Similar legislation with respect to the transfer of financial data has also been proposed.  Arguably, existing statutes (such as the Health Insurance Portability and Accountability Act ("HIPAA"), in the case of electronically stored or transmitted health related information, and the Gramm-Leach-Bliley Act ("GLBA"), in the case of financial information) already impose data protection obligations on U.S. companies operating, in part, overseas.  Overall, these bills seek clearly to establish offshore vendors’ and captives’ obligations with respect to PII collected in the U.S. and transferred overseas, or collected via telephone by overseas vendors.

Key Themes in Anti-Outsourcing Legislation

Offshoring and Reliance on Government Contracts

Businesses that are dependent upon government contracts may want to consider on-shoring as an alternative to offshoring.  However, some of the proposed legislation in effect sends mixed messages.  For instance, where a 5% preference on pricing is granted to in-state bidders, the labor arbitrage available to an offshore provider who is not otherwise excluded from the bidding may still permit that offshore provider significantly to underbid its "local" competitors and make a handsome profit.  Thus, if price preferences are the primary incentive mechanism, to be effective they may have to be significant in order to "level the playing field" in the bid process. 

Opt-In Consent Mechanism For Transfer of PII

Proposed legislation may complicate compliance requirements for businesses that send customer or employee information to be processed or stored offshore.  Certain pending bills restricting transfer or use of PII outside the U.S. require companies to procure prior written consent to any transfer, sale or other disclosure of PII to a third party outside the U.S..  (Note also that companies may have other compliance issues of this nature under existing federal and state laws, such as GLBA, the Fair and Accurate Credit Transactions Act and the Fair Credit Reporting Act; these are outside of the scope of this discussion.)  However, some bills, such as New York Senate Bill 1597, part of which pertains to financial institutions, allow such transfers outside the U.S. without consent when the transfer is to an offshore captive under common ownership or control.  This exception may also apply to offshore joint ventures with vendors (though it is not clear whether such joint ventures would need to be majority-owned by the customer).  The "written" consent requirement in SB 1597 appears to preclude reliance on an opt-out mechanism; though, presumably, a client could opt-in on-line or via hard copy. 

Transparency of Call Center Operations

The most common requirements of bills relating to offshoring call center operations is that operators must disclose their location or, at the customer's request, transfer a customer call to a U.S. operator or an actual employee of the U.S. company.  Such bills vary in both substance and motivation.  For example, Arizona Senate Bill 1260 seeks to void any transactions (such as sales of merchandise) conducted on a call where the operator neglects to disclose his/her location.  This appears to be premised on consumer protection – i.e., it should be evident to a consumer, at all times, whom he/she is dealing with, and what relationship an operator has to the company providing goods or services to the consumer.  Florida Senate Bill 614 which recently died in committee required the disclosure of the operator’s location within the first thirty seconds of the call and, in any event, prior to solicitation or exchange of any PII of the customer.  Such restrictions are aimed at ensuring informed consent to disclosure or transfer of PII overseas when such PII is collected by telephone.  

Differences in requirements and motivations behind call center legislation may complicate the business of crafting uniform call scripts and policies, in particular where offshore call centers service customers in a multiplicity of states and/or countries. 

Mandatory Disclosure of Jobs to be Offshored

Several pending state and federal bills would require disclosure of jobs to be moved offshore or services which will be provided through offshore entities.  For instance, New York Senate Bill 1597 requires 180 days’ prior notice of offshoring (or any plan to engage in offshoring) to be given to employees in New York whose jobs are affected by offshoring, and to the relevant state agency.  This aspect of New York’s SB 1597 is not unlike the federal proposed Senate Bill 14, the Fair Wage, Competition and Investment Act (currently under review in the Senate Committee on Finance), which would amend the Worker Adjustment and Retraining Notification (WARN) Act to require 90 days’ advance notice to employees and state and federal governments of offshoring resulting in a loss of 50 or more employees.  These types of disclosure requirements not only warrant monitoring to ensure compliance but also raise corporate public relations considerations.

Considerations For Your Business in a Climate of Uncertainty

For Customers

  • When entering into a services agreement with a sourcing vendor, consider including provisions that will act to shield your company from liabilities or penalties under the agreement in the event that a development in the law increases risks or costs of performing under the agreement.
  • Consider including enhanced termination rights, without penalties, in the event that such legal developments materially increase the cost of receiving services or materially restrict the parties' contemplated services arrangements.
  • When drafting the "duty to co-operate" language in your services agreement, consider specifying that the vendor will assist you with any reporting requirements concerning the number of workers providing services offshore, and that related compliance costs will be shared.
  • In the "compliance with laws" provision in your services agreement, consider specifying that the vendor must comply with all applicable rules and laws with respect to its operations, and clarify that it is the vendor’s duty to ascertain all such applicable laws.

For Vendors

  • Consider providing for alternative on-shore delivery of services for clients with substantial government contracts businesses (although, as noted above, whether or not this is advisable depends on the applicable legislation).

For Both Customers and Vendors

  • Monitor developments in proposed anti-outsourcing legislation in jurisdictions applicable to your business.  Don’t forget to check relevant local law in the foreign countries where offshoring takes place.  Note also that anti-outsourcing initiatives are a popular subject-matter for executive orders, so be sure to consult executive orders as well as pending bills.  Such executive orders currently exist in Alaska, Florida, Massachusetts, Michigan, Minnesota, Missouri, New Jersey, and North Carolina.
  • If your company is public, consider disclosing in 10-Ks and 10-Qs, as a risk factor, that governments may enact legislation that would make the financial benefits received from certain servicing arrangements no longer available.

Conclusion

There is, as yet, no legislation in the U.S. that serves as an absolute barrier to outsourcing or offshoring IT and business processes.  It is prudent, however, to monitor developments in the anti-outsourcing arena, especially for businesses contemplating sending a significant number of jobs offshore or where the collection, storage, and processing of personally identifiable information may be shipped offshore.  Companies should also pay attention to the public relations issues surrounding offshoring; operations involving offshore call centers, in particular, may warrant close monitoring.