China’s outsourcing off to slow start

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How can China develop a domestic business services outsourcing industry that would leapfrog India?

A survey of more than 250 Chinese companies co-led by Duke University professor Arie Y. Lewin and Shanghai Jiao Tong University professor Liu Yi revealed that leapfrogging India may be more challenging than policy-makers imagined.

In addition, future plans of the fragmented China-based industry indicate an increasing focus on the domestic market and away from competing for international outsourcing business.

Professor Lewin unveiled these findings at a ceremony last month to celebrate the opening of Shanghai Jiao Tong University Antai College Chinese American Research Center on Global Sourcing. Lewin explains the latest survey findings in a Duke University Fuqua School of Business Q and A.

Q: What’s the survey’s methodology?

A: The study surveyed China-based business services outsourcing companies in five key cities — Dalian, Beijing, Shanghai, Xi’an, and Suzhou. The survey was conducted in person.

The average size of providers in China is much smaller than their counterparts in the US.

Small to medium providers (less than 20,000 employees) account for 88 percent (220 providers), medium-large providers account for 11.2 percent (28 providers), and large providers (more than 20,000 employees) account for only 0.004 percent (1 provider).

The business services outsourcing industry in China is in its early phase of development. Seventy-nine percent of the providers in China have been in business for less than 10 years. In comparison, 71 percent of US providers have been in business for more than 10 years.

Q: What are the main challenges facing Chinese domestic providers competing for international services outsourcing?

A: I would say that there are three:

1. Timing of entry into the global service provider market is a challenge for China, because the global growth rate of the industry has leveled off and is entering a decline, especially for mega IT outsourcing (ITO) and business process outsourcing (BPO) deals.

2. Most domestic providers in China competing for international clients are handicapped by poor English competency, inflationary cost pressures, appreciation of the yuan, high staff turnover and the never-ending need to invest in staff training.

3. There is a shortage of talent in general and specifically in high value-added software development and analytics. High turnover rates indicate either tight labor markets and/or that the service provider industry does not offer attractive, exciting and fast-moving career opportunities.

Q: What’s the role of timing in China’s outsourcing activities?

A: In 2009, China launched its national initiative at a time when the global market for sourcing of business services had started to level off and recently has shown evidence of decline mainly involving mega deals in ITO and BPO.

Most of the actions by Forbes Global 2000 companies is centered on renewing contracts for large legacy IT infrastructure, business processes and staff augmentation contracts.

Much of the effort is on pressuring provider margins on these contracts. At the same time many of same companies are focusing on getting more for the “buck.”

Q: What does China need to do to be more effective in attracting offshoring business services?

A: China needs to consider different strategies that are directed at capturing market share in the rapidly developing mid-cap market, competing in the applications and software development market, and entering new markets such as analytics, big data and mobile.

However, our survey suggests that many providers are choosing to focus on the less demanding domestic market.

It is altogether clear that growth and development of the China-based services outsourcing industry faces many challenges.

However a few world-class providers in China (domestic with international clients and US-owned) provide concrete evidence that it is possible to build in China a high value added services provider industry.

The government designated 21 model cities to become hubs for attracting and nurturing the industry when it launched its national strategy to attract the business services outsourcing industry as new lever of economic.

Most of the designated 21 hub cities have been very active in building “Tech Parks,” offering various tax incentives and training programs.

However, with the exception of Dalian which in 2009 already had in place significant sourcing activities for Japanese and Korean companies, success has been slow.

Between 2009 and 2013 the domestic China-based business services outsourcing industry has grown from US$14 billion to US$50 billion. To put this in perspective, the lowest estimate of the size of the global industry in 2012 was US$600 billion. The share of India is about 20 percent whereas the share of China was under 8 percent.

The article is adapted and reprinted with permission from Duke University.

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