The information presented in this section and elsewhere in this prospectus relating to the software market of selective countries is derived from various publications and news reports. Such information has not been independently verified by any of the Group, the Sponsors, the Underwriters or any of their affiliates, agents or advisers. Such information may not be consistent with other information available from other sources and may be inaccurate, incomplete or out-of-date and should not be unduly relied upon. Reasonable care has been exercised by the Directors in reproducing such information. OVERVIEW OF THE SOFTWARE INDUSTRY According to international industry practice, the IT industry is categorised into two segments, namely, product support and professional services. Product support generally refers to hardware maintenance & support and software maintenance & support. Professional services refers to consulting services, software development & integration, IT management as well as process management. In 2002, the US was the largest software exporter in the world, followed by Japan. The US and Japan accounted for approximately 41.5% and 10.4% respectively of the global software products and software services export which reached an aggregate sales of US$643 billion in 2002 according to the report issued by CCID Consulting Co. Ltd. dated 28th February, 2003 (the CCID Consulting Report ). Many countries in the emerging markets are also undergoing rapid development such as India and Ireland, which are the next largest software exporters. By comparison with other developed countries in North America, Europe and Asia, the PRC software and information technology industry is far from saturation. According to the CCID Consulting Report, as at the end of 2002, the PRC s share of the global software market was only 1.5% and was therefore relatively small. However, the PRC software market has been undergoing rapid development and has grown by an aggregate of approximately 51% from 2000 to 2002. OUTSOURCING OF SOFTWARE DEVELOPMENT AND SERVICES According to the CCID Consulting Report, the total global software outsourcing market value was only approximately US$14.4 billion in 2001. Among those countries that are committed to developing the information technology or software services industry, India is the pioneer and leader in providing software development outsourcing services, followed by Ireland and Israel; whereas, the PRC and Russia are rapidly developing such services. Software development outsourcing has developed to become a mainstream activity in the information technology services market in recent years. The Directors believe that many companies in developed countries plan to increase their offshore resources because of the growing acceptance of the offshore delivery model. By adopting the offshore delivery model, companies farm out certain IT operation such as software development or data centre management to another company from facilities in lower-wage countries. The Directors believe 39
that the worldwide market for information technology outsourcing has been expanding rapidly, as companies are concentrating their resources on their core business and are attempting to control the size of their internal information technology departments, minimising the amount of their information technology expenditures. The need for outsourcing services is particularly high among companies whose operations require keeping up-to-date with developments in software technology but whose staff lack the requisite skills and project management capabilities to implement new technologies. Companies are also increasingly relying on outsourcing due to the difficulty and expenses associated with recruiting and training a sufficient number of information technology staffs under tight cost constraints. As a result, the Directors believe that an increasing number of companies are looking to third-party information technology service providers to implement new technology and support their existing systems. Outsourcing enables companies to minimise the risks and reduce the time-to-completion of large information technology projects by shifting some or all of their information technology responsibilities to service providers. With information technology budgets shrinking or remaining flat, companies are beginning to take advantage of the benefits of the offshore outsourcing model. The substantial cost savings resulting from sub-contracting information technology services overseas have encouraged companies to look at offshore outsourcing even in untapped areas to maximise the return of their spending on information technology. While there has been a significant increase in the demand for information technology services, the supply of qualified information technology professionals in most of the developed markets has remained limited. More companies are seeking additional information technology professionals to fill newly created positions and replace workers who are retiring or are otherwise leaving the information technology sector. The shortage of qualified information technology professionals, along with rapid advances in telecommunications has led to the globalisation of the market for information technology services. The combination of effective project management techniques, satellite links, video conferencing, the Internet, e-mail and other communications capabilities has enabled efficient coordination and management of information technology projects in different localities. By outsourcing software development and maintenance projects to offshore information technology service providers, companies have been able to access skilled information technology professionals, often in lower cost environments, such as the US looking to India, and Japan looking to the PRC. India is a pioneer and a leading country in providing software outsourcing services, followed by Ireland and Israel; while the PRC, Russia and the Philippines are rapidly developing this area of software services. India software industry s main source of income is from custom applications development and application outsourcing which together constitute 80% of total IT software exports in 2002. According to statistics provided by India Software Association, approximately 75% of sales of software products in India in 2000-2001 were for export sales 40
and approximately 25% were for domestic sales. The North American region accounts for a major share of information technology services provided by India primarily due to English language capability and cultural compatibility. Exports of software products and services grew from India at a compound annual growth rate of 53% between 1995 and 2001. Even during the slow down in worldwide technology industries in 2002, the Indian market still recorded growth of 24%. Japan is the second largest software products and services country in the world. The PRC is the largest overseas provider of software outsourcing services to Japanese companies. The geographical proximity, the adequate supply of comparatively lower cost information technology professionals and cultural similarities are the major reasons for which the PRC has become the major supplier of software outsourcing services to Japan. Key drivers for the software and information technology outsourcing market include an increased acceptance and awareness of outsourcing as a business practice to improve operating efficiency and achieve corporate objectives; companies focusing on core business strategies; the need for fully reliable infrastructure; globalisation and competitive business environments; and increasing complexity of the applications environment. TYPICAL WORK FLOW OF SOFTWARE OUTSOURCING Software maintenance and upgrades Establish business relationship with customers Software testing and delivery Begin negotiation of engagement terms Establish software engineering documents Customers place order Commence work on software development Design systems and functions 41
OVERVIEW OF THE PRC SOFTWARE EXPORTS INDUSTRY As the PRC software sector becomes more developed in a favourable operating and regulatory environment, it has begun to quickly expand in scale and has entered into a stage of rapid growth. Since its accession to the WTO, the PRC has enjoyed more preferential treatments and has become more internationalised in the face of globalisation of the world economies. Software export is considered by the PRC government as one of the important areas of development in the future. According to the Global IT Outsourcing Summit held in Shanghai in 2003, the total value of software outsourcing generated by the PRC was US$1 billion (equivalent to approximately HK$7.8 billion) in 2002. The official document entitled (Guidelines on Encouragement of the Software Industry) issued by the PRC State Council in July 2002 stated that the revenue of the PRC derived from the software market is expected to reach RMB250 billion by 2005. As a result of the growing popularity of computers and the increasing degree of information technology application in the PRC in recent years, the PRC software industry has experienced strong growth. After the accession of the PRC to the WTO, the PRC government has stressed the importance of the software exports industry and promulgated various policies to encourage the development and liberalisation of the software exports industry (Please refer to the paragraph headed Government Policies Relating to the PRC Software Market below). Compared to other developed markets, the PRC software industry operates in a lower cost environment. Information provided by research reports and overseas corporations revealed that the salary of a software engineer in the PRC is on average one-eighth of the level of salary that is generally paid in the U.S. The availability of lower cost information technology professionals in the PRC provides a competitive advantage for the growth of its software outsourcing and exports industry. 42
According to the CCID Consulting Report, software sales in the PRC were approximately RMB34.5 billion in 2002, representing approximately a 21% growth from 2001. Growth of Software Market of the PRC (1998 2002) RMB billion 40 35 30 25 20 15 10 23.2% 13.8 27.5% 17.6 30.7% 23 28.5 23.9% 34.5 21.1% 35% 30% 25% 20% 15% 10% Sales Growth Rate 5 5% 0 1998 1999 2000 2001 2002 0% Source: CCID Consulting Feb 2003 According to the information from the Beijing Software Industry Productivity Center, software exports in Beijing have grown substantially in recent years, increasing from US$44.7 million in 2000 to US$93.1 million in 2002. Beijing Software Export (2000 2002) US$ million 100 90 80 70 60 50 40 30 20 10 0 93.1 69.6 44.7 2000 2001 2002 Source: Beijing Software Industry Productivity Center In 2002, the major export destinations of the PRC software industry were Japan, Hong Kong and the US, which in aggregate accounted for approximately 81% of total software exports revenue in the PRC in 2002. Japan was the largest software export market for China, accounting for approximately 53% of total software exports in 2002. Hong Kong and the US were the next two largest software export markets for China, with an approximately 15% share and approximately 13% share, respectively. The PRC software business was mostly concentrated in a few provinces and major cities, namely, Beijing, Shanghai, Dalian, Guangzhou and Zhejiang, which in aggregate accounted for approximately 86% of total software exports sales in 2002. 43
China s software export markets Other Countries 15% Korea 2% Taiwan 2% Japan 53% Hong Kong 15% U.S.A. 13% Source: CCID Consulting Feb 2003 Beijing has, with an abundant supply of information technology and engineering graduates from universities and technology institutes, become the leading city in the PRC for enterprises engaged in software exports. In 2002, Beijing accounted for approximately 34% of total software exports of China. Exports made to Japan from Beijing represented approximately 38% of total software exports from China to Japan in 2002. Corporations worldwide, including those in Japan, cut back on their information technology expenditure in recent years. As a result, it has been a growing trend for them to engage external software companies to undertake software development or maintenance work that involves lower technical requirement but high manpower consumption. Successful cooperation between Japanese corporations and software companies in China in software outsourcing projects over time has helped expand Japan s demand for outsourcing services from China. As demand for information technology outsourcing services increases, both the higher costs and limited supply of outsourcing services in the more developed markets such as Japan and the US have prompted companies to look towards the supply of skilled information technology workers in developing markets such as the PRC. 44
CHALLENGES FACED BY THE SOFTWARE EXPORT INDUSTRY IN THE PRC Compared with most software development companies in the more developed markets, software companies in PRC are generally smaller in size. The software outsourcing market in the PRC is still at an initial stage of development and is highly fragmented. To the best of the knowledge of the Directors, most companies engaged in the development or provision of software products or services in the PRC are still relatively small with not more than 100 employees. The market is currently made up of a few large software outsourcing companies and numerous small companies. In India, there are more than 850 large-scale software companies including for instance, TATA Consulting and INFOSYS, each of which hires over 10,000 software professionals. In order to gain entry into the European and American market, the PRC software companies will have to meet the qualifications on management and maintenance capabilities as well as international business and legal practices. While most PRC information technology professionals have strong technical skills, it will take time for them to improve on areas such as language proficiency and to develop their international business perspective. GOVERNMENT POLICIES RELATING TO THE PRC SOFTWARE MARKET In June 2000, the State Council announced its policy to encourage and stimulate the development of the PRC software and integrated circuit industries in order to strengthen the international competitiveness of the PRC information technology industry (the Encouraging Policy ). Pursuant to the Encouraging Policy, PRC software enterprises are entitled to a number of preferential treatments, including preferential treatment relating to investments in the PRC software and integrated circuit industries, favourable tax rates and export incentives. Pursuant to the Encouraging Policy, PRC software enterprises are encouraged to develop innovative and premium software products both to satisfy the demand of the PRC market and to develop the export market. In addition, it is the intention of the Encouraging Policy to attract more foreign capital and human resources investments in the PRC software industry by way of granting preferential treatments. 45
GOVERNMENT POLICIES RELATING TO PRC SOFTWARE EXPORT The term software export refers to the export of software products and the provision of related services through physical delivery or online transmission to overseas countries by PRC companies or enterprises engaged in foreign trading activities in accordance with the (Foreign Trade Law of the People s Republic of China), including: 1. transfer or licensing of software technologies; 2. provision of computer software, application software relating to information systems and equipment or computer software forming part of systems integration and application services; 3. any transactions relating to information and data services, including the time sequencing for data development, storage and networking, data processing, tabulating and data processing services charged with reference to man-hour, ongoing equipment management for third parties, consultation on hardware or software installation, customised systems design, development and programming, repair and maintenance of computers and accessories, and other forms of software processing; and 4. other forms of software export such as software bundled with exported equipment. A software enterprise with a registered capital of not less than RMB1 million has the right to engage in software export. An enterprise engaged in software export may apply to the relevant foreign trade affairs department in the PRC for funds generally available to small and medium sized enterprises for funding in relation to exploring and developing the international market. A software export enterprise may apply to the relevant government authorities in the PRC for subsidies in respect of its GB/T19000-ISO9000 series quality assurance system authentication and the Capacity Maturity Model authentication in accordance with applicable rules. Software export forms part of the business scope of (Import & Export Bank of China) and hence, it is in a position to grant credit facilities at favourable rates. The state export credit insurance agencies of the PRC may also provide insurance for software exports on credit. Where the tax rate for software products exported by a software enterprise is lower than the export refund rate, the software enterprise may, subject to the approval of the (State Administration of Taxation) of the PRC, arrange for a tax rebate. 46
The recurring foreign exchange income of a software export enterprise may be directly exchanged, settled and credited at banks on presentation of relevant documentary proof. All domestic software export enterprises in the PRC which have been recognised as Honour Enterprises after verification of foreign exchange receipts from exports ( ) may open foreign exchange settlement accounts, with the amount of foreign exchange settlement limited to 15% of their export turnover in the immediately preceding year. Qualified private software export enterprises may apply to the (Ministry of Commerce of the PRC) (previous known as (Ministry of Foreign Trade and Economic Cooperation) of the PRC) to establish branch offices outside the PRC. ADMINISTRATION OF SOFTWARE EXPORT (the Ministry of Commerce of the PRC), the MII, (the State Administration of Foreign Exchange) of the PRC, (the State Statistical Bureau) of the PRC, (the State Administration of Taxation) of the PRC and (the Import & Export Bank of China) have established a designated (Centre for Online Registration of Software Export Contracts) on the website of the (the China International Electronic Commerce Network) of the (the Ministry of Commerce of the PRC) for the management of online registration of software export contracts. All software export contracts have to be registered online with the (Centre for Online Registration of Software Contracts) once entered into by a software export enterprise in the PRC. (the China National Chamber of Commerce for Import and Export of Mechanical and Electrical Products) and (the China Software Industry Association) are jointly responsible for coordinating and maintaining orderly software exports in the PRC. 47