Dan’l Lewin, Corporate Vice President, Strategic and Emerging Business, Microsoft Corporation

Will invention and genius repeat themselves?

China is a big, big market. We know it, they know it, everyone knows it. It’s an accelerating planned economy trying desperately to stay in control. I call it “controlled” capitalism, but in China it has been referred to as “socialism with Chinese feature” or national capitalism. They have a national directive to build 400 cities with more than one million people — they now have over 100, the U.S. has just 10. They have a large and growing middle class (some 300 million), and highly educated one — they’re graduating a gazillion engineers a year. In fact, there’s a prosperous economy the size of Germany’s $3 trillion economy that already exists inside China — and its people are just beginning to speak up. A Beijing blogger has rallied opposition to a Starbucks in China’s Forbidden City, and it is now prompting authorities to consider closing the café. The blogger who started the whole thing says he likes Starbucks, he just didn’t want it inside a national landmark. It seems China’s middle class is developing a strong voice about its culture and values. This is the new China today. On the one hand, you have the central government control and fast-track growth directives, and, on the other, you have the populace speaking up and giving voice to the entrepreneurial spirit of China. This notion of imagination or what I call “imagine-nation” is alive and well in China — again. I say that because it’s not really new at all.

The Greatest Untold Story

Before my trip to Beijing last November for the Innovation Summit, I picked up a book recommended by Joe Schoendorf of Accel Partners called “The Genius of China, 3000 Years of Science, Discovery, and Invention.” It tells an amazing story that it refers to as “one of the greatest untold secrets of history — that the modern world in which we live is a unique synthesis of Chinese and Western ingredients. Probably more than half of the basic inventions and discoveries upon which the modern world rests come from China.”

Modern agriculture, modern shipping, decimal mathematics, modern music, paper money, umbrellas, wheelbarrows, chess, horse stirrups, brandy, and even the essential design of the steam engine. All came from China. Lacquer, the first plastic, from China in the 13th century B.C. Circulation of the blood, 2nd century B.C. The first compasses, 4th century B.C. My point is this; The Chinese have dominated the world economy for centuries — except for two. Guess which ones those are? What will the 21st century bring? What’s the opportunity? Study the past. The Chinese society has been based on invention and genius for centuries, and there’s every reason to believe that the future will repeat itself.

Opportunities For Those Who ‘Understand’

So what are the opportunities in China? Everyone is looking. VCs are pouring in money. For the first half of 2006, there were 85 deals and $757.9 million invested in mainland China – more than double the past two years. And a fact that surprised me, China is NASDAQ’s fastest growing source of new listings. And China now ranks number two in PC shipments, number three in servers, number one in cell phones, number five in developers, and number two in Internet users — still representing less than 10 percent market penetration.

As I said in the beginning, the constant refrain I heard again and again in meetings this November was the unique advantage China has just because of its sheer size. br>Naturally, multinational companies from all over the globe (including General Motors, General Electric, Motorola, Ford and Starbucks) are ’very’ active in China, not the least of which is Microsoft.

And from our vantage point, however, the opportunity is for those who “understand” this market. Read the book called Guanxi. It is essentially the tale of how Microsoft set up its business and research center in China. My key take away from this book, and the people I’ve met and worked with in China, is that it’s all about relationships. (Where have you heard that before?) Of course, in China, relationship building and partnerships are all subject to the Chinese way. After all, this is [controlled] capitalism. And if you think about the trade, commerce and industry that have driven China’s success over the centuries, technology was the driver then, and it will be the driver for the future. China knows its history, and is going back to aggressively charting its own course. And we’re playing our role too, as we do in more than 99 other countries around the world where we do business.

Microsoft in China

Our history in China involves a commercial presence and a well-known research center, Microsoft Research Asia (MSRA) as well as an Advanced Technology Center (ATC) that takes research ideas and turns them into products. The MSRA lab in Beijing — our second international facility and our first in Asia — was established in 1998. As with other Microsoft Research labs, the talents of its researchers will largely guide the research focus of the Beijing lab. Today, more than 150 researchers are developing next-generation multimedia applications and Asia-specific computing technologies such as adapted user interfaces and language-conversion systems.

During my trip to China in the fall, I participated in the Innovation Summit that we held in Beijing with key stakeholders in the Chinese software ecosystem – government, academic, ISVs and other partners. The goal of the summit was to understand the Chinese government’s priorities for innovation and to share Microsoft’s approach and how we can contribute to the development of the software economy. At the Summit, Microsoft IP Ventures announced the first-ever licensing of technology to two different Chinese software companies.

Our strategy in China is three-fold: we want to help fuel a strong local software economy, help China become globally competitive, and accelerate rural economic development. China is clearly eager for our help and others’. They especially need help with skilled marketing and management people and go-to-market strategies for building companies — relatively new concepts, at least in this latest century.

So, how do we navigate this new playing field? Here’s our assessment on the challenges and opportunities, and a review of what we’ve done to date.

State of the Chinese Software Industry — Trends, Observations, Risks

The domestic software industry is still not healthy — despite its dazzling software parks (more on that later) and its government commitment to developing a software industry. A few notable exceptions include Kingsoft (with its recent $72 million investment from Intel Capital; a Chinese Fund named New Horizon; a Government of Singapore investment fund; and companies such as Sohu (a Chinese new media company); and Baidu There are opportunities, but not without risks — and these are amplified by China’s size.

  • Piracy remains an issue — making entrepreneurs reluctant to build software-only businesses. Software-plus-services or software-hardware combinations are more attractive
  • Most Chinese software companies are still small —a few large ones are attracting attention, but those are exceptions.
  • Another issue is the lack of reliable payment methods for SaaS offerings. In fact, a related issue is market liquidity and financing transparency. China has a ‘tricky’ infrastructure for banking and financial services.
  • Another issue, highly educated software developers with nowhere to go to gain real-world experience in the nascent Chinese software industry. China needs a critical mass of large and successful companies to change this situation.
  • Experience-based skills such and management and marketing are lacking.
  • And Chinese cultures and traditions make operating there challenging, as Starbucks is finding this out. With China’s non-homogenous marketplace and customers — cultural differences abound, not just in language, but ways of conducting business, negotiating contracts, and closing deals. It’s all pretty foreign to us.

Despite these challenges, China is building out its infrastructure — in a very big way.

They Built the Parks — and People Are Coming, We’re Helping

There are 23 or more software parks in China, situated in 35 High-Tech Zones as defined by the Ministry of Science. These grand, modern complexes are always linked to local universities and the local economy. They also include residential areas, research facilities, and high-tech manufacturing space. As just one example, Jinan (in the Shandong province on China’s Eastern Coast) boasts almost 3 million square feet of office space and covers 1.4 square miles.

I can’t overemphasize the importance of the public sector and the government relationships. While China’s economy is shifting to a market model, the public sector is the major stimulus for the software economy. They drive a lot of business through their own projects, and they also approve vendors and set standards. Several agencies affect software, including the Ministry of Science (MOS) and the Ministry of Information Technology, but the most influential and prestigious is the NDRC (National Development Reform Committee).

Our Microsoft Innovation centers are designed carefully, and in partnership with the Chinese government. The projects at our Microsoft Innovation Centers are government-assigned, but must have a sustainable business model. We now have 17 centers throughout China, with four more coming, and currently have a presence at 16 software parks.

Microsoft Innovation Centers help enable the software ecosystem by helping entrepreneurs, academics, and ISVs understand what it takes to go-to-market. They also help cultivate an environment of innovation with our hands-on technology labs and resources (again, translating the ideas into marketable products). And finally, the centers provide an environment for technology and business to meet — whether in special interest or industry groups, or mashups, we’re creating a home for the ecosystem.

For example, at the Qilu Software Park that I visited in Jinan, we were invited by Director Xu, head of the park, to develop an industry cluster and build a Microsoft Innovation Center right in the park, instead of with a partner, as we do in Chengdu. Qilu Software Park, founded in 1995, is one of China’s first software parks. It is a massive center with some 500 companies in the park with approximately half having a software focus. At 6.5 square kilometers (2.5 square miles) and with 10.7 million square feet of office space, it is slated to become the largest software park in Asia. It’s quite a spectacular place — star trekkies fans would love it! The central buildings are in a large ring, or circle formation. The main building in the ring is a three-story tribute to Star Trek — it features glass floors over a printed circuit board motif and doors that slide into the wall with a low ’whoosh.”

While there, we met with ministry officials. I was impressed by the insight, conviction, and pragmatism of the government officials. They are intensely aware of the fragile state of China’s software economy, and equally convinced of its importance to China’s future. The partnerships with local universities are impressive as well. Approx 4,000 students attend the university's satellite campus in Jinan park, and they have built partnerships with 20+ universities on jobs and employment initiatives. Xu sees the software parks helping the software ecosystem in the following ways: local investments in infrastructure, technical support and training, and industry partnerships and cooperation.

Other Strategies for Building the Local Software Economy — Find a Partner

Another key insight that came out of my trip to China is the importance of having a partner in China. For instance, outsourcing is seen as a way to provide a larger pool of experienced technologists and business people. Another interesting strategy is what the team at Jinan Software Park refers to as Enterprise Unions. This is where a group of companies in a single industry all combine to work together to define the industry, and work with the government to define standards in ways that would work internationally.

Clearly, software and services will be very important in China. It lowers the exposure to illegal copying of software (less or no software to copy), offers China-wide and international reach, and is significantly enabled by China’s brand new high-capacity WAN and wireless network. We recently opened our first SaaS Incubation Center within the Suzhou Software Park — it’s a good example of how we’re working with government agencies to stimulate local software economy.

Two interesting software and services companies in China: Digital China in Suzhou is an ISV committed to shipping a production-quality SaaS solution using Microsoft technology. Appeon is another forward-thinking ISV in China. It wants to launch a software and services version of its solution for Chinese dental clinics.

These are just some of the additional trends taking place. We have a number of goals designed to accelerate software opportunities for Chinese software companies.

  • First, help China become globally competitive.
  • Second, help China build a strong Intellectual Property Rights (IPR)-based economy that values commercial ‘legal’ software.
  • Third, help China accelerate rural economic development.

And we’re just getting started.

There is a huge signal-to-noise ratio in China so you have to be smart as an entrepreneur to figure out whom to partner with — and who really has the expertise you will need. Don’t go alone. And don’t be naïve and think that you’re entering an immature, or ‘so-called emerging’ market. The emphasis is definitely on the so-called part of that statement — which means, given the development now underway in China, you may be in for a surprise.

Next week, the Chinese ‘year of the pig’ or Ding Hai begins. Happy Chinese New Year to all.