PHOENIX (Reuters) - Arizona steel fabricator Sheridan Bailey has been laying off employees in recent weeks even though he has plenty of orders on the books.

Fresh prints are found along a foot path north of the U.S. and Mexican border in Arizona's Avra Valley, March 31. 2007. A state law going into effect in Arizona on Tuesday targets employers who hire illegal immigrants. REUTERS/Jeff Topping

His firm, Ironco Enterprises, shed around 10 percent of its 100-strong workforce to get in line with a state law going into effect on Tuesday that targets employers who hire illegal immigrants.

“We have let some people go who we came to know were not properly documented. So in that respect the law is already doing what the framers expected,” he said.

The maker of steel frames for buildings is among an estimated 150,000 businesses across the desert state preparing for the measure that places Arizona at the vanguard of more than 100 U.S. states and municipalities taking on immigration enforcement.

The law, passed days after a federal immigration overhaul died in the U.S. Senate in June, punishes first-time violators who knowingly hire undocumented workers with a 10-day suspension of their business licenses.

A second offense means they lose it.

The measure also requires employers to use an online federal database, dubbed “E-Verify,” to check the employment eligibility of new hires in the border state, which is home to an estimated 500,000 illegal immigrants.

Many employers like Bailey say they are pruning their workforce of illegal immigrants to avoid prosecution, or have outsourced some operations to neighboring states and even over the border to Mexico.

Other businesses have put a freeze on expansion in Arizona out of fear they will face prosecution should they inadvertently hire an illegal immigrant.

“It is too much of a risk for us,” said Jason LeVecke, a franchise owner who operates a chain of 57 Carl’s Jr. hamburger restaurants in the state.

He plans to expand in Texas.

BUSINESS ‘DEATH PENALTY’

Immigration is the subject of a rancorous debate in the United States, where an estimated 12 million illegal immigrants live and work in the shadows.

The topic comes up frequently among Republican and Democratic hopefuls fighting to be their party’s candidate in the November 2008 presidential election.

The politicians must tread a fine line between appeasing anti-immigration sentiment and trying not to anger Hispanics, who make up the fastest-growing voter bloc in the nation.

Many Arizonans support the new law. They say it takes away the lure of jobs for illegal immigrants and clamps down on employers unfairly profiting from cheap migrant labor.

“The only people who should be nervous are employers who hire illegals at cheap rates to gain unfair advantage over their competitors. They should be worrying a lot,” said John Kavanagh, a Republican state lawmaker who co-sponsored the bill.

Gov. Janet Napolitano, a Democrat, signed the measure into law despite voicing concern that it was a business “death penalty.”

A coalition of business groups filed suit to block the measure, arguing that it will be harmful to local businesses. A U.S. District Court threw out the challenge earlier this month, but a new suit has since been filed.

Lawyers opposed to the employer sanctions law say that it is unconstitutional and is open to abuse by people making malicious anonymous complaints. They warn that it will also make Arizona less competitive nationally.

“(Already) we have had businesses shut down, businesses that will not go ahead with acquisitions. It is going to get worse before it gets better,” said Julie Pace, one of the lawyers bringing the employers’ suit.

“Arizona will get bypassed economically. We will be known as tough but stupid from an economic perspective,” she said.