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The dragon rises

China is no longer just a threat on the horizon for Indian IT and BPO firms - it is building scale with clinical efficiency.

For centuries, Chengdu in western China was renowned for its silks. Today, many believe the calling card of this teeming metropolis of 11 million will be information technology and business process outsourcing support services. The city on the fertile Sichuan Basin is already home to software factories of Microsoft, IBM and Wipro, besides local biggies such as VanceInfo Technologies and Hisoft.

Next, backed by a governmentsponsored English education programme, access to a large pool of engineering and science talent, superior infrastructure and newly introduced federal tax breaks for IT services, Chengdu - and, indeed, several other Chinese cities showing up on the global tech outsourcing map for the first time - is quickly emerging a credible destination for US and European chief information officers looking for companies to which they can outsource IT and BPO services.

Since 2009, China's State Council, the federal cabinet of the world's fastest growing economy, has approved the setting up of 21 cities as models of services outsourcing and backed this with massive upgrades to public infrastructure such as roads, power and housing, besides expanding technical and soft skills training centres. According to several analysts and industry bodies, China has invested close to $600 billion in its public infrastructure to make cities such as Chengdu more attractive to outsourcers. This investment - in a raft of measures including new expressways and power projects-is targeted at outsourcers tired of dealing with India's insufficient backbone.

While India's tax exemptions for the IT industry remain uncertain, China's Finance Ministry in September announced plans to extend 5 per cent tax exemption until 2013 covering IT and BPO service providers in the 21 cities. New sites of IT vendors receive single-window clearances, with local authorities giving approvals in days, say industry insiders who have first-hand experience working in China.

Among Chinese initiatives catching attention is the Ministry of Commerce's 1,000-100-10 plan, which seeks to establish 10 cities as outsourcing hubs, attract 100 large corporations there and develop 1,000 small and mid-size vendors in the country. Elsewhere, after false starts dating back a decade, China is on a massive English upgrade, making the language compulsory in school. This, together with its some 2.3 million science and engineering graduates annually, comparable to India's numbers, make it a threat to the Indian IT and BPO industry more than ever before, says Praveen Bhadada, engagement manager with Zinnov Consulting, a Bangalore tech researcher.

 Gaining Ground

  • Government-sponsored English education to provide a large, low-cost employee base
  • Large domestic market
  • Access to Japanese and Korean markets, where Indian companies have had mixed success
  • Rapid infrastructure build up
  • Extended tax concession to outsourcers
For now, the numbers don't indicate an immediate threat but that could change quickly. According to analyst firm International Data Corp., or IDC, the China-based offshore software development market reached $2.8 billion in 2009, an expansion of 14.7 per cent over the year before. IDC projects the market to grow to $6.8 billion by 2013 with business originating from European and North American clients, the mainstay of the global and Indian outsourced IT and back office business, expected to compound at 28.4 per cent each year until then. "With the establishment of outsourcing cities, or demo cities, China has become the No. 2 software offshore outsourcing country, next to India," Paul Li, Senior Market Analyst, Software and Services, IDC China wrote in a report in July 2010.

And, there's little Indians can do but watch as China gains from proximity to local clients and North Asian customers, primarily in Japan, the second-largest IT market worldwide. China's share of global outsourcing is barely five per cent, reckons Zinnov's Bhadada, even as India occupies a much larger (over 50 per cent) share in the same market. "However, much of east coast (in China) offers Japanese-speaking skills to tap the market there, something Indian companies have been struggling to do for a decade," he says.

This kind of advantage coupled with the fact that low end software application maintenance work is finding its way to China definitely has some India-centric IT companies worried. "Some of us wrongly assume that China won't be able to usurp India's supremacy in outsourced software services. That's a dangerous assumption.

China is beginning to build the same scale in IT services as it did with manufacturing," says Vishnu Dusad, Founder and CEO of Nucleus Software, a mid-tier IT products and services firm. Already, there are signs that some Chinese vendors are beginning to get a move on. For example, VanceInfo, with quarterly revenues of $52 million, has been rated China's No. 1 software vendor by IDC for three years consecutively.

The company plans to grow its headcount to over 20,000 in the next three years. Investors are cheering the prospects of the NYSE-listed company setting its share price at an earnings multiple of over 50 times. Infosys Technologies, in India, has a price-earnings ratio of 28; Tata Consultancy Services is valued 26 times earnings.

And yet, as Partha Iyengar, Vice President and Distinguished Analyst at Gartner, points out, Indian tech service vendors are not standing still. Customers may prefer "dealing with the known devil in India for large contracts rather than wrestle with the unknown in China," he contends.