I had never heard of Neusoft before I came to China 36 months back, but I have no problem believing Walter Fang when he declares, not modestly, that "by 2010, Neusoft will be a household name in the United States and Europe". One reason is that Fang is a 27-year veteran of IBM, now the Group Vice President and Chief Technology Officer of Neusoft, and he should know. The other is that Neusoft is already China's largest outsourcing firm.

"If I were United States or Europe, I should realise I am no longer the centre of the universe," says Jane Smith, the Senior Vice President of a $10 billion-plus (Rs 44,000 crore-plus) financial services major with a growing footprint in China. "And, if I were India, I should start worrying (about competition from China in it services)." Smith adds that the domestic it services market in China will grow to "a significant size by world standards" soon.

"If one of the world's leading aerospace firms can trust Ufida (with meeting their demanding requirements), I am sure other clients can trust our capabilities," says Guo XinPing, Vice Chairman of Ufida, formerly UF Soft and China's largest software products firm (it is the leader in the enterprise resource planning segment).

If Fang, Smith and Guo are to be believed (and there is no reason to do otherwise), China is poised to become both an attractive market and an outsourcing hub for it services. A study by it research firm IDC puts the growth rate of the IT services market in China at an average of 25 per cent a year. Taking into account the rapid growth rates in other sectors of the it industry (hardware, software), the country could become the second-largest it market in the world after the us sometime in the next decade. Several firms see China as the next big market and have already established a significant presence in it; others are scrambling to have a China strategy of their own more from a desire to keep up with the Joneses than anything else. However, both from the perspective of tapping the Chinese domestic market, or from that of viewing the country as an outsourcing destination, there are companies that are yet to decide on what to do. Many of these have to do with the lack of information on China. Over 36 months, I sought to improve my understanding of the country and its IT services market (and prowess). This article contains some of my learnings.

"If one of the world's leading aerospace firms can trust Ufida (with meeting their demanding requirements), I am sure other clients can trust our capabilities" Guo XinPing Vice Chairman/Ufida

The Outsourcing Challenge
MYTH: Outsourcing to China has a long way to go
REALITY: By 2007, China will be a 'competent' destination for outsourcing

All through 2001 and 2002 when India Inc. was being paranoid about the coming Chinese Juggernaut, CEOs of it services firms, and media analysts couldn't stop talking about the threat China posed to them. Then, by 2003, the tenor of their arguments changed, perhaps a reflection of larger geo-political sentiments, and they started speaking about how it was no longer China or India, but China and India (Chinese expertise in hardware and Indian in software would help the two countries take on and take over the world, went the reasoning). Over the past few months, Beijing has been sending directives to local governments and Chinese companies to build economic relationships with India and Indian companies.

Circa 2005, India has emerged the preferred destination for the outsourcing of it services (in some measure, thanks to the negative publicity the country received in the us all through 2003 and part of 2004). However, I realised that the Chinese are quietly working to build the capabilities required to grab a higher share of the market.

Level playing field: The newer generation of Chinese has access to same resources as, say, a teenager in the US

The English Equation: English, most people continue to believe, is not spoken here. That may have been the situation 10 years ago, but today the number (and quality) of English-speaking Chinese is growing by the day. Indeed, this is an area of focus for both individuals and the government and is reflected in the number of English instructors from 'native-English-speaking-countries' (the US, UK, Australia and New Zealand) floating around here. Elsewhere in the world it would take a generation before one can see the fruits of this effort, but if the track record of the Chinese in other areas is any indication, they should be able to cut this time to a half, even a third. I am told that in the past, most people in this country studied English as a core subject. The rigid nature of the study mandated memorisation, and coupled with China's closed-system-it did not encourage contact with other cultures-this resulted in a situation where most Chinese could read English without really being able to speak it with any level of comfort. Since the 1990s, however, things have changed; the number of foreign companies (and foreigners) in China has increased exponentially; and students of English have at hand a range of learning resources they can tap to improve their speaking skills. I have encountered young men and women who speak English perfectly, with either American or British accents without ever having left China.

Several travel agencies and banks in China (Ctrip, the largest online travel agency and China Merchants Bank come to mind) boast call centres staffed with English-speaking customer service agents (they serve the English-speaking expatriate population in the country). I have dealt with the two companies mentioned here and discovered that there is tremendous improvement in the agents' comprehension and speaking abilities, month on month.

As any company in the outsourcing business knows, entire workforces need not be proficient in English; only client-facing functions such as project management, design and integration need to be; in terms of proportion that would translate to about 30 per cent of the workforce. Most people in this country believe that it will reach this magical number in the next five years.

"By 2010 Neusoft will be a household name in the United States and Europe" Walter Fang Group Vice President & Chief Technology Officer/Neusoft

Then, there's the growing market for the outsourcing of non-voice business processes (non-voice BPO). Spoken English is not a pre-requisite for providing services such as data processing; people engaged in this business merely need to know to read and write the language. Ufida's Guo understands this; China, he says, has the requisite human resources to power BPO firms. That's an understanding that is also dawning on multinationals such as GE and Affiliated Computer Services that have invested in BPO operations in the country. The government too is happy to encourage the growth of this market; it could be a significant generator of employment and has far less impact on the environment than manufacturing. Some Japanese firms such as Sony and Panasonic have also been quick to spot and tap this opportunity. Thanks to history, the country has a sizeable number of people who speak Japanese or Korean.

The Process Thing: If China is a global manufacturing powerhouse, credit must go to the country's emphasis on formal processes in this area. Unfortunately, that phenomenon is yet to spread to it services. Chinese it services firms, customers in the US and Europe believe, have processes lacking both in maturity and rigour, things that are the hallmark of most successful Indian it outsourcing vendors. These concerns are shared by Smith; however, having witnessed the evolution of the Chinese software industry, she is convinced that it is only a matter of time before companies in this country show improvements in both.

As I write these words, China is going through a CMM-craze of the kind India went through in the early 2000s when every company in the business wanted a level four or level five Capability Maturity Model (a model developed by Carnegie Mellon to measure the maturity of the code-writing process) certification. The government too is encouraging vendors to pursue a CMM-4 or CMM-5 certification (this is actually a precondition in certain government tenders).

Centrally-planned Economy? Well, Not Quite China's economic system falls midway between a centrally-planned system and a no-holds-barred capitalist one.

Awry growth? Excess infrastructure capacity is an issue The Chinese economy may have been centrally planned 20 years ago; today, it is partly that and partly free-market (well, almost). Most important industries, however, are dominated by the state. The provinces, counties and cities compete fiercely for foreign direct investment (FDI). This has resulted in the mushrooming of special industrial and economic zones and, consequently, excess capacity in terms of infrastructure in some areas. The government has belatedly recognised this and is restricting the growth of some such zones. Local officials in cities and provinces wield enormous power. They are subjected to annual performance reviews by their bosses; much like executives in progressive companies, they are judged on the basis of key performance indices. For instance, local officials have to meet a target regarding FDI. Those that do not are replaced. That's a meritocracy of sorts.

Processes, though, are not the only cause for concern. The Chinese, it is widely believed, are not flexible thinkers, largely a result of a rigid education system. That can be a limiting factor while executing projects that involve uncertainty and require brainstorming with clients and team members. Vendors in the US and India will continue to maintain their lead in (and dominate) these kind of projects. However, there are two trends that are in favour of China as a significant outsourcing destination for other projects. The first is the fact that technology has become increasingly commoditised and processes have matured to such an extent that the amount of critical (read: flexible) thinking that goes into technology-implementations has decreased significantly. The second is that the newer generation of Chinese is no longer fettered to the past. It has access to the same resources as, say, a teenager in the US. Its thinking and approach is certain to be innovative and creative. It is this new generation that is entering the workforce today.

The Booming Domestic Market
MYTH: The domestic market for it services is yet to reach critical mass
REALITY: Both industry and government have wholeheartedly embraced it; this has resulted in a large domestic market that can only grow

Courting China: Several firms see the country as the next big market

The appeal of china's domestic market in areas such as cars and telecommunications is well known. What isn't is the fact that things are no different for it services. Neusoft's Fang points out that the Chinese it services industry derives 90 per cent of its business from the domestic industry and 10 per cent from outsourcing. In India, as everyone knows, things are the exact opposite.

Motivated by a desire to improve efficiencies, manufacturing firms in China (both domestic and multinational) are in the midst of an ERP (enterprise resource planning) wave. Ufida, for instance, derives the bulk of its revenues from the sale of ERP software to the local manufacturing sector. Then, there's the move by companies across sectors to focus on value-added services. Chinese telcos, says Fang, are focussing their efforts on increasing revenues and average revenue per user (ARPU); they propose to do this by offering value-added services; these services require investments in it; and, consequently, there is an increased demand for it services. A similar thing is happening in the financial services industry with the imminent entry of multinationals-according to the terms the country signed at the time of its entry into the WTO, China's financial services industry will be open to foreign players from 2006-providing an added incentive for local companies to strengthen their own it systems.

The foreign firms themselves will contribute another revenue stream as they face the challenge of tailoring their products and services to meet the unique demands of the Chinese market. For instance, regulations governing insurance offerings differ from province to province, even from city to city within the same province; not many 'western' software products can accommodate such requirements. Other sectors that will contribute to the growth in the domestic market for it services include embedded devices, energy, healthcare and government.

Whose IP Is It Anyway?
MYTH: Kiss your intellectual property goodbye in China
REALITY: The situation is not very different from other countries; taking simple precautions is the key

China has earned the wrath of the office of the United States Trade Representative (USTR) for gross violations of intellectual property (IP) rights. However, Smith believes that the situation in China is not very different from that in other developing countries with IP problems. It is just that IP violations in China happen openly and publicly.

The issue of IP in China has to be viewed from a uniquely Chinese perspective; Western firms entering China expecting an IP regime similar to that in their home countries are bound to fail in protecting their IP. The Chinese law-enforcement and legal system is complex and constantly evolving. At this stage it makes sense for companies to focus on prevention rather than enforcement. Some Japanese companies have successfully adopted this method. They have created discrete processes for manufacturing and outsource different pieces to different Chinese vendors. They make it very difficult for anyone to copy their IP by assembling the processes and technologies together. This method makes it extremely difficult for anyone to reverse-engineer the product. Companies such as Smith's follow a different approach. They do acknowledge that their software could be out in the market as pirated versions, but Smith explains that because the software is so complex and requires as much customisation as it does, it is very difficult for any counterfeiter to generate any long-term value out of it.

Several firms fail to take basic precautions such as registering their trademarks. And some believe the IP enforcement mechanism will ensure they are safe-not a good strategy in China. Then, foreign firms would do well to develop localised pricing strategies for China, as indeed media giants such as AOL Time Warner have done recently. One of the key steps in precautions is to build up relationships with local authorities; I understand that Chinese authorities act on IP theft if they see the "unfairness" of it all.

Today, I know more about China and its IT services market than I did before coming to the country. However, it would be foolish on my part to expect this to translate into immediate gains for any company. There's no denying the opportunities China presents as a destination for outsourced it and business process services. However, to succeed, a company will have to have the right China strategy and display a long-term commitment to the market.

The opinions expressed here are of the author and do not represent those of iGATE