1118RA Channeling China: Send in the Clones and Follow the Cloud

What is Happening? While much of the world has labored beneath a recession that has drained investment enthusiasm, the Chinese mobile and Cloud sectors are moving forward on the back of steady, if diminished, economic growth. Although these companies are not nearly the size of their Western counterparts, they are significant and growing. With growth, they represent possible partners for companies hoping to enter the complex but potentially gigantic Chinese market, as well as providing competition in China that could spread elsewhere.

Cloud and Mobile are hotly contested areas in the Chinese market, since both cater to long term local trends. Recently, Chinese search engine Baidu announced that it will invest $1.6 billion to build a Cloud facility. The company is also releasing a new mobile browser. Although Baidu has a commanding lead in the PC search area, its mobile efforts have lagged.

The real story is that Chinese competition is getting fiercer. In addition to overseas rivals, Chinese vendors are seeing a new range of domestic competitors as they seek to move into critical niches. Baidu’s mobile browser, for example, competes not only with Google Chrome and Apple Safari, but also with Chinese firms Tencent and UCWeb. In the search engine space, longtime leader Baidu is seeing fast rising competition from Qihoo 360 Technology Co, which has seen unexpected growth.

Other Chinese companies are also moving rapidly ahead, with leaders being China’s top online retailer, Alibaba (owner of the Taobao.com brand); top social media company, Sina (owner of the Sina Weibo instant messaging service) and enterprise management software supplier, Kingdee, in addition to Baidu. On the network side, all three major telcos (China Telecom, China Unicom, China Mobile) are competing in this area with service bundles that include varying mixtures of Cloud-based services targeting mobile customers – similar to offerings from AT&T and Verizon in the US.

Overseas partnering with Chinese firms has continued to develop, as suppliers seek local expertise. Recently, this has included partnerships between Microsoft and China Mobile; between SAP and China Telecom; and between 800App and Salesforce.com.

An important movement that emphasizes the difficulty foreign operators have in entering this market is the proliferation of services that are similar to Western models – but are developed, hosted and supported in China and operate in Mandarin. These clones go beyond mere copying to adding innovation and tailoring to address local business conditions, and that make them particularly important to outside vendors interested in this market.

Only a few months ago, gaming company Shanda launched their ShandDaYu (Great Cloud) service, which is modeled directly on AWS, just as Baidu is modeled on Google; and, much earlier, Sina launched the Sina App Engine, built on the model of the Google App Engine as part of its SinaCloud, and Sina Weibo, which is similar to Twitter.

Chinese provider 800App provides a CRM service very similar to Salesforce.com. Recently, Salesforce began partnering with them for mutual benefit. This move to embrace the clones rather than fight them is likely to provide a significant path forward. The new services have adapted Western models to Chinese language and conditions in a way that most Western suppliers have tried and failed.

While enthusiasm remains high, Chinese markets are teetering at the moment as growth begins to slow, the Yuan weakens, and the whole country prepares for a leadership transition next month. The negative influences have been somewhat over-reported, however in the current taste for economic schadenfreude. China is still growing, and it still has a huge population, with a lot of businesses that need a lot of information technology.

Why is it Happening? Chinese local competition is heating up because, in the words of Willie Sutton, “that’s where the money is.” Western companies have repeatedly tried and failed to enter this market, despite a demonstrated interest in their services. In China, services must be accessible, must be very low cost (in competition with open source and piracy), and must be capable of working “with Chinese characteristics” – which include the difficult Chinese language and the government firewall that can prevent access to outside servers.

Companies also need a local presence and support, and must satisfy security concerns. On top of this, there are numerous regulations regarding foreign operations in China that are particularly important in the Cloud and Mobile sectors. Regulations can specify technology used, types of joint ventures, licensing, access to external servers, and the like.

Market Impact: Movements within the Chinese domestic SaaS and mobile supplier market highlight issues that must be considered by external companies wishing to enter this sector. This market also serves as a crucible for growth, with innovations emerging from fierce competition. It is an area to be closely watched, both for the partnering opportunities within China, and for new services that are likely to be deployed outside of China as these firms develop.

Chinese companies in this sector remain small, and many offerings resemble earlier stages of copied Western models. This offers a variety of opportunities for collaboration and joint ventures that have only begun to be explored. Chinese SaaS suppliers have needed to work through most of the problems facing overseas suppliers, particularly if they are involved in the same or a similar industry. They frequently lack a “premium” product with advanced features, which can be supplied by an external partner at higher cost (price being one of the key issues preventing entry into the Chinese market). At the same time, they have the language expertise, local business knowledge, and community connections that can ease market entrance.

Chinese domestic suppliers are also of interest in their own right. As domestic competition continues to boil, innovation is beginning to become important. As these companies build local business and reach out to an ever increasing customer base, shifts in technology are creating a leveled playing field. While these firms are protected to an extent from direct competition with Western giants, as a result of the complexities of the Chinese market, they have a chance to grow and develop new technologies that may come back to challenge the West. For, while there are significant barriers for foreign companies entering the Chinese market, there are relatively few barriers for Chinese companies entering Western markets. (In practice, of course, barriers do exist particularly in cases where some Chinese government ownership is known or suspected.)

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