The Real Threat From China

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Over the years I have constantly been asked the question – where’s the next India? A question relating to the next major IT off-shoring destination. The general sense and tone in India is this is largely a settled question and there is no major emerging competitor to India. While India has some huge advantages I believe there is a real threat to India’s dominance in IT – and it comes from closer quarters – China. Here’s why.

Essentially the ingredients that create large IT off-shoring destinations are labor supply, quality and cost. And more importantly it’s the combination of all three factors. Lets consider each one:

Labor Supply: Major off-shoring hubs require huge talent pools. The problem with locations that have limited talent pools is that capacity quickly gets overtaken by demand and wages rise rapidly. Simply observe what happened in Ireland in the late 1990’s and the Chezk Republic earlier in this decade. When it comes to countries with huge IT talent pools, where the supply of talent will keep wage inflation at bay – there are only two that matter: India and China. And today China is producing more IT graduates each year than India. Essentially, Advantage China.

Labor Quality: This is where everyone will tell you India has an unbeatable advantage. Especially when it comes to English speakers. I concede India has a huge advantage here but you can’t count out the Chinese. They have made fundamental changes to their education system where English is compulsory starting at the elementary school level. I was in China recently and met with many university students and was pleasantly surprised at the quality of their English – it has changed dramatically in the past 5 years.

Then there’s the other issue. All outsourcing companies are talking about diversifying their businesses away from the US to Europe and Asia. Well, the moment we do that guess what? English dominance becomes less relevant. And in fact when it comes to competing for outsourcing work in Asia (Japan, Korea, Taiwan) China has a language advantage over India. So, when it comes to labor quality its advantage India today but we need to keep watching this closely.

Cost: Most cost comparisons to-date revolve around wages – where India has historically held an advantage. However, the wage gap between India and China has been dwindling mostly because of massive wage inflation in India. But experienced outsourcing companies are getting smarter about looking at the total costs involved. The other major costs are infrastructure and taxes. The tax holiday the Indian government conferred upon the IT industry is expiring. Interestingly, at the same time, local provincial governments in China are expanding their tax benefit programs for companies setting up large outsourcing centers.

The other major cost is infrastructure. Here, China beats India hands down. The infrastructure costs in India are huge – not only monetarily but also operationally. As an example, companies have to provide transportation to employees because public transportation is not available. IT companies are running huge transportation businesses instead of focusing on their core business. So, on cost it was advantage India but its moving towards China gaining the upper hand.

So what does all this mean? The Indian IT industry and Indian companies may well regret ignoring the threat from China. But the good news is this does not have to be a zero sum game. Indian companies can and should embrace China and expand their presence there.

There are some historical lessons here. The US lost the manufacturing market because they failed to take the threat from Japan and other low cost countries seriously. When it came to IT off-shoring the major US companies were much more nimble – embracing off-shoring. Just look at how quickly companies like Accenture and IBM have developed their global sourcing capabilities. The moment of truth is coming upon the large Indian IT companies – are they going to remain primarily Indian companies or can they transform to being true global outsourcing giants?

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