Outsourcing with Chinese Characteristics

Historically, there have been two ways for a software outsourcing industry to develop in a country: through domestic demand, and through foreign demand.

The US, Japan, and other developed countries are prime examples of the first option. Large domestic customers - financial services firms, manufacturers, retailers, government organizations, the military - slowly turn to outside vendors to fulfill steadily more comprehensive technological functions. At first, outsourcing firms are brought in as consultants for specific projects, such as the roll-out of a new software system. Or they come in to handle a specific task, such as email management.

Some outsourcing companies started out as primarily hardware vendors, and initially their technicians only visited customers to help them set up new equipment. Other outsourcing companies were business or accounting consultants that moved into providing technology services as well. Others handled paper-based processes, such as payroll, and became technology companies when those processes were automated.

The biggest of these firms took the expertise they developed in the domestic markets and went global with it. The major examples are American companies - Accenture, BearingPoint, EDS, IBM, HP.

Then there's the export-oriented approach. A large customer based, say, in New York, needs some short-term programming help. One of the programmers already on staff knows just the guy - a friend back in the programmer-s country of origin. The staff programmer serves as a liaison, bridging language and cultural gaps between his employer and the growing team of outside programmers in India, Russia, or Israel.

When global companies were hit with the Y2K problem, hiring new programmers just to do that one fix didn't seem practical to many. In any case, there was a shortage of people in the United States who were willing to do the boring work of changing date formats in applications written in ancient computer languages. India was the best positioned to scale up to meet demand, with a large number of English-speaking programmers who knew the old languages and who were happy with the work. The small teams composed of friends and brothers-in-law morphed into real companies - companies that now had insight into the software development processes of major American firms.

When the Y2K crisis was over, these firms turned to other low-end programming tasks. Using their connections with customers in the US and elsewhere in the developed world, they offered to take on software testing, maintaining legacy systems, and rewriting old software to work on new computer platforms.

Today, of course, Indian outsourcing firms do extremely high-level software development, to some of the highest quality standards in the world.

China is not following either of these paths. Instead, it is feeling its way along in a completely new direction - outsourcing with Chinese characteristics. This includes localizing international software and websites to work in the Chinese market, serving domestic firms, and outsourcing projects for Japanese companies and some work for international clients.

It's not an easy path, however. Chinese firms have to compete with the American and Indian giants for both large domestic accounts and for the localization business. All of the world's major outsourcing firms are scaling up in China, and are bringing in their expertise and finely-tuned, world-classes development processes.

It's hard to imagine how, without government intervention, Chinese firms will be able to compete.

If they do then the Chinese path might become a realistic model for other developing nations to follow, the same way that its economic transformation has become a classic case of a peaceful - and profitable - transition to a free market economy.

Selling Computers In China's Frontier

It's not easy to sell computers outside of the big cities, with logistics one of the main challenges.

I was at a logistics conference a year ago, where Carrefour president Jean-Luc Chereau showed slides from a typical loading dock (Carrefour has been in China since 1995, and has over 100 hypermarkets in dozens of cities around the country).

The reason I mention them is because one of the slides he showed is still stuck in my head. It was of a loading dock somewhere within China. A nice modern truck was pulled up, unloading cardboard boxes. Next to it was a bicycle, piled sky-high with computer boxes.

I'd hate to see that fall over in the middle of a busy street.

I also had a quick chat with Ying Wu, executive director of business transformation for global supply chain at Lenovo Group. He said that many of his company's computers were sold at small mom-and-pop stores around China - many of which didn't even have Internet access. As a result, Lenovo was forced to develop a sales tracking system that allowed store owners to report their data via cell phone text messages.

Despite these obstacles, China's computer sales continue to rise.

In 2006, Gartner reports that total PC shipments to China were over 28 million - making it the second-largest computer market after the US. This year, Gartner predicts, Chinese consumers will buy more than 33 million desktops, notebooks, servers and other computers. And China's computer sales will continue to grow at double-digit rates, the research firm predicts.

China has an advantage over many other markets, such as India, or Europe, in that everybody in the whole country reads the same language. As a result, applications and operating systems only need to be translated into Mandarin, and everyone is all set, making the computers accessible to people throughout China.

In addition, it seems that Chinese consumers clearly understand the need for computer ownership when it comes to their children’s education - a significant driver for computer purchases in many homes.

Today's story by Edward Russell shows that much of this growth is coming from China's smaller cities - a sign of the growing maturity of markets throughout China.

Computer makers are adjusting their marketing and sales strategies for the new markets.

HP plans to expand its presence to 600 cities in the next two years - up from just 20 cities in 2003.

And it's not just the smaller cities in China that are benefiting from increased attention from manufacturers, both foreign and domestic. Farmers are, as well.

And Lenovo announced a 1,499-yuan (US$199) computer last month designed for the rural market. Another major domestic manufacturer, Haier, has also announced a strategy and new products for the market.

Earlier this month, Haier announced a joint venture company with Henan Zhongcheng Computer Company to produce computers for rural consumers in Henan, expected to ship a million computers designed for rural residents in three and a half years. The first computers are due out this October.

Promoting Outsourcing

Outsourcing - services, not manufacturing - is one of the most appealing industries to get into. It doesn't pollute, and provides white-collar jobs to college graduates.

It's no surprise that China has been enviously looking at India's progress in services outsourcing and looking for ways to emulate its success.

Now the government is putting some money behind it. On Sept. 12, the AsiaPulse news service reported that the China Development Bank (CDB) will provide up to 5 billion yuan (US$665 million) in loans to services outsourcing projects. The CDB is one of China's three policy banks, and has signed an agreement with China's Ministry of Commerce to this effect.

Late last month, India's IT trade body, the National Association of Software and Services Companies (NASSCOM), issued a white paper about China's services outsourcing industry, concluding that China has the potential to develop a large software and business process outsourcing sector.

"The Chinese government is key on promoting this sector," NASSCOM said. "Rapid progress on the tangible aspects of infrastructure and capacity creation is evident."

China's outsourcing industry resembles India's in the early phases of its evolution. However, NASSCOM pointed out that China also has some systemic weaknesses, and softer aspects remain a challenge.

There is a lot of opportunity for cooperation between India and China, however.

"Underlying this is substantial domestic market potential, a sizeable educated workforce and strong government emphasis on developing the sector," the organization said.

"China has come a long way in establishing itself as a destination for IT sourcing, with all stakeholders including government, academia and industry working towards improving the regulatory environment, offering incentives to IT companies and increasing the talent pool," NASSCOM president Kiran Karnik said in a statement.

Today's story by Li Bin illustrates just this, with a discussion of an agreement between India's National Institute of Information Technology and the Chongqing Information Technology Bureau to offer IT training to universities in and around Chongqing.

"Each month we host delegations from China which seek to learn from India," Karnik said.

According to NASSCOM, China's IT software and services sector accounts for just 0.5 percent of China's gross domestic product in 2006.

"Given this, the Chinese government and industry have taken a systematic approach towards addressing the above challenges with ICT [information and communication technology] oriented industry policies," said NASSCOM vice president Ameet Nivsarkar.

To develop China's capabilities as an outsourcing base for IT software and services, the Ministry of Commerce has launched a ten-hundred-thousand program: to promote ten (now 11) key outsourcing cities, attract 100 multinationals to China, and help 1,000 enterprises develop outsourcing capabilities. The end goals to double service exports by 2010.

As part of this project, the ministry is creating a special fund to train between 300,000 and 400,000 students over the next five years to prepare them for software outsourcing and business process outsourcing jobs.

The ministry will also help the 1000 enterprises obtain international quality certifications.

The plan also includes preferential treatment for cities in central and western China, such as discounted loans.

"China's approach to developing its IT software and services sector reflects the pattern adopted earlier while developing its hardware sector," NASSCOM reports. This means trading market access for foreign technology, encouraging joint ventures with foreign firms, and letting them set up production networks in China to support domestic companies.

Will all this make a difference? To the companies and individuals involved - definitely. To the country as a whole? Probably not for a while, as it takes time to create a legal system that effectively projects intellectual property and create a large enough pool of trained professionals and managers.

Go West, Young Meeting Planner

When things stay the same, you do things the same way. When things change, that's when life gets interesting. Fortunately for businesses in Central and Western China, things are starting to change.

For companies that keep up, this is good - more customers, more suppliers, more business partners.

Companies that don't keep up will see the new customers go to their competitors. After all, if your sales and marketing efforts are focused on taking the same three guys out to a fancy dinner, then your business will be limited to those three guys - unless a competitor comes in and sweeps them away.

There are two main avenues to change: education, and networking. Your sales and marketing staff need to learn new techniques for finding and developing customers, for example.

Both education and networking happen at conferences and seminars. And, as Central and Western China starts to develop, so does the event planning industry in the region.

That's what a friend of mine just told me, whose company is currently organizing an event in Xi'an and is planning to open one or two offices inland in the next six months.

David Taylor, spokesman for Monaco-based naseba Lnoppen, is one of the high-end events organizers, catering mostly to multinationals and the biggest domestic firms. In mid October, the company is holding the Advanced Coal and Chemical Summit in Xi'an.

"That's where the industry is," he told me. In fact, event participants will even get an industry on-site visit.

The company is also planning an event in Chengdu for later this year.

The government's "go west" program was a big jump-start to the events industry, he said. "Business is moving there, and we follow the business."

Foreign businesses - and big Chinese companies - who are moving into the region need information and local contacts. Meanwhile, local companies that want to go national - or international - benefit from training and contacts as well.

So far, there isn't too much competition our west, he said. "It's almost an untapped market when it comes to events. A lot of that, as best as I can tell, is because the events companies tend to come from a fairly international perspective an they still see Shanghai and Beijing as being the center of China business."

But with the growth in the inland cities, demand for information at all levels is expanding sharply, he said. This creates opportunities for event organizers both large and small.

The major industries contributing to this move are the energy sector, heavy industry, logistics, and, of course, manufacturing. There's also interest in financial events, he added.

Running a successful business takes quite a bit more than producing a product and getting it out the door. It's nice to see ecosystems developing, of all the ancillary services that businesses in today's world need to survive - and thrive.

Disclosure: David is a friend, and he and I have talked before about doing joint projects together. We met, of course, at a conference.

Local Incorporation Spurs Westward Moves

This past April, Chinese regulators started giving permission for foreign banks to incorporate locally. Incorporation means that the bank can do business in yuan and issue credit cards. Previously, foreign banks were only allowed to handle foreign-currency accounts, and were only able to offer credit cards through partnership deals with local partners.

Before, the foreign banks pretty much stayed in the coastal cities, going after the high-value, foreign-currency customers.

Today, those same banks have become much more appealing to China's middle class consumers -- and they have started moving to where those consumers are located. In other words, throughout China.

ABN Amro is now only one of foreign banks with branches in Chengdu and Chongqing, for example. HSBC, as today's story by Mai Yi demonstrates, goes even further, with a branch in rural Zengdu county.

Citibank, HSBC, Standard Chartered, and Hong Kong’s Bank of East Asia – among others -- are also competing head-to-head with domestic banks throughout China.

China's retail market is an attractive target, with 30 trillion yuan (US$4 trillion) in household savings and surging demand for credit cards and other financial services as incomes rise.

"When you are able to do local currency business, the more presence you have, the better off you are," one banking executive told us late last year. "The west is developing and it is developing fast or faster than the national average. Secondly, the government is encouraging western expansion and they are making branch licensing easier."

Foreign banks were first allowed to open branches in western and northeastern China in late 2003, but the lack of ability to do local-currency business hindered expansion.

It all bodes well for the Chinese consumer, who has one of the world's highest savings rates -- and enjoys some of the world's worst customer service when it comes to banking.

And not just Chinese consumers will benefit, though they will probably benefit the most, since there is more of them than just about anybody else.

Foreign businesses will benefit as well, since they will be able to get access to good banking services wherever they go throughout China

For example, it's a nightmare for my company to transfer money -- even within Shanghai. Too often, an employee has to carry stacks of cash between bank branches.

With international banks expanding in China, and bringing international service standards -- and product offerings -- local banks will have to shape up to stay competitive.

I'm looking forward to the day when I can transfer money electronically from my business account to my landlord, to my employees, and to my suppliers. Or, at the very least, write them checks.

In America, paper checks are so last-century. An inconvenience and a cost.

Here in China, paper checks, for some businesses at least, would be a big leap forward, and a cost savings over the current paper-bag-full-of-cash payment mechanisms.

Not to mention the security and risk management improvement.

Hotel Hotspots

Three years ago, work took me on a trip out of Shanghai, and my colleagues and I stayed at a decent-looking hotel -- one of the best in that area.

We were the only people there. When we checked in, the staff acted surprised that we needed things -- like room keys. Nobody showed us where to go, and for a little while we stumbled around in the dark, looking for our rooms in the multi-building complex.

The rooms were chilly, and badly supplied. None of the amenities I'm used to seeing in even the worst hotels in the US or Europe were present.

The hotel was located on a road lined with industrial enterprises -- but the road was strangely deserted every time we were on it.

The hotel managers had trouble getting us drinks, or calling us taxis.

The promised Internet connections didn't exist -- instead, I was given directions to a near-by Internet cafe. The cafe was a bit of a hike away, full of teenage boys and cigarette smoke. Not the worst working environment of my life, but not the best, either.

Hotels are high-visibility business projects. They can bring some glamour to a town, give a place for visiting executives and investors to rest their feet in nice surroundings.

Clearly, a good hotel is a must-have for any up-and-coming business city in China.

Three years ago, that feeling, that a location "should" have a hotel, was the primary consideration for putting one up.

But is the location any good? Is management effective? Is the hotel going to make money? These are the questions that must be asked instead. And today's hotel executives are doing just that.

As this week's story by Edward Russell and Miranda Li demonstrates, business logic is the driving force now in the industry -- and it is now flourishing, even in second-tier cities.

As a result, developers are paying attention to budget hotels -- less showy, but more practical, since most travel in China is domestic, and subject to price constraints.

However, as foreign interest continues to grow in central and western China, we're starting to see some high-end properties as well.

I'm now looking forward to visiting the Shangri-La hotel in Wuhan, for example.

Rooms are just around $100 a night -- a bargain by international standards. The hotel has conference and meeting rooms, a fitness center with a swimming pool, and honest-to-goodness Internet in the guest rooms.

But the same town also boasts a Novotel, a Ramada and a Best Western -- all of which have been getting great reviews from business travelers.

The Ramada Plaza Tian Lu hotel has all the same amenities as the Shangri-La, as does the Novotel Xin Hua, and the Best Western Premier Wuhan, and prices are about the same or lower -- many sites list prices at between $60 and $70 a night.

"I just attended a hotel conference at the Ramada Wuhan," says a typical review. "I was expecting a disappointing experience typical of interior cities. I was pleasantly surprised that it had good service and cleanliness."

Last time I traveled into China's interior, away from the major cities, I stayed with friends.

Next time, I'm going to give some of these new hotels a try.

India's Outsourcing Headstart

China has three major strikes against it when it comes to software outsourcing.

The first -- and biggest -- is that India has already sewn up the industry. It's got the contracts, the customers, the experience, the employees, the facilities, and the certifications.

Home-grown Chinese companies start out far, far behind. But even US and Indian outsourcing firms who come to China have to grapple with the lack of experienced personnel.

Typically, China dominates industry by coming in at a lower price point, and with more people. But India is at about the same price as China when it comes to wages -- at least, on the coasts.

In Central and Western China, Chinese firms could have a price advantage, and I know of a couple of domestic firms that are hard at work setting up branches inland in order to capitalize on just that. But, unfortunately, the lack of language skills and experience gets progressively more pronounced in the interior of the country.

In addition, India has plenty of engineers to go around. In fact, Indian colleges and universities are well suited to producing masses of engineers who can go to work for outsourcing companies -- again, because of India's track record. Established outsourcing firms have partnerships with universities, consult on curriculum, and produce veterans who can go back and teach. There are also plenty of internship opportunities. It's easy for an Indian student to find out what skills are needed in a software development job.

None of this is the case in China. Without a track record, without a critical mass of established firms, without collaboration between companies and educational institutions, the software engineers who graduate in China are less likely to have the skills needed by a world-class development house.

Related to the problem of track record is the issue of trust. Indian outsourcing firms have a long history of working for the world's top financial institutions, and, for the most part, doing a decent job protecting intellectual property and customer data. When a problem does happen, the industry reacts quickly, setting up security measures and procedures. For example, after Citibank had a problem with an outsourced call center employee stealing customer data, the Indian outsourcing industry put a process in place for tracking the history of each employee in the outsourcing industry and for checking the backgrounds of new hires.

In addition, India's justice system is reasonably fair and transparent. For India, the outsourcing industry its one of the main drivers of the economy. If anything happens to threaten that, the entire country can mobilize.

In China, the outsourcing industry is an afterthought to the country's main business, which is manufacturing. Intellectual property rights and other issues of critical importance to software developers don't get the degree of attention that they could. Even Microsoft backed down on its battle to protect Windows and issued a low-cost version for the Chinese market.

The last issue is not necessarily the most significant, but the one that comes first to mind of potential US customers: the language gap. Sure, Indian programmers have accents, but their knowledge of the English language itself is superb and they are generally easily understood. To make the language gap even smaller, many Indian outsourcing firms run "accent amelioration" programs for their employees.

In China, the problem isn't the accent as much as basic language skills. English just isn't as widespread in China as it is in India. For manufacturing firms, this is not a significant barrier. But for call centers, for data processors, and for programmers who have to work on projects with partners around the globe this is a major problem.

Today, the bulk of software development in China is localization projects -- producing Chinese-language versions of software and websites for foreign clients. There is also some domestic work, especially for Chinese financial firms looking to modernize their systems.

I predict that, in the next few years, China might become a regional outsourcing hub, producing software for Japanese and Korean companies, for example, as well as small, specialized projects for international firms. Other companies might outsource software development here because they already outsource of their manufacturing, or are interested in getting a foothold in China's domestic market by first playing nice with the Chinese government and creating white-collar jobs.

But, barring a significant catastrophe in India, it is not likely to catch up with that outsourcing giant anytime soon.