China’s Outsourcing Market Is Out–For Now

China’s IT outsourcing services market, nearly always mentioned in the same breath as India’s these days, simply isn’t in the same league–and may not be for a long time, says a report by consulting company McKinsey.

Though China’s services market is growing quickly–nearly 42 percent a year since 1997, according to research company IDC–the industry, with about 8000 companies, is highly fragmented. Nearly three-quarters of the companies have fewer than 50 employees, and only five have more than 2000. By contrast, India has about 3000 companies and at least 15 have more than 2000 workers. The Chinese companies aren’t very profitable either; margins average just 7 percent, versus 11 percent around the world, and 90 percent of the work is done for Chinese companies. About 70 percent of India’s work is done for companies outside India.

You may be tempted to write off China as a services power. But don’t. The fact that 90 percent of the work is done locally, and that it accounted for $6 billion (nearly half of India’s total revenues) in 2003, should be seen as a sign of strength, not weakness. Sure, China may not be the offshoring choice for Western companies in the near term, but it may not ever need the business, the way the local economy is growing. And the number of English-speaking grad students in China has doubled since 2000, to more than 24 million, according to the report.

Longer term, the Indian services market is much more vulnerable than China’s. Without a strong local market, India’s services companies are forced to gamble on the West continuing to dominate the world market for IT consumption, and gamble that labor rates in the West don’t drop far enough (India’s rates are rising quickly) to become competitive. It is a serious gamble, because economic power is moving to East Asia.