By Praveen Bhadada

Reflecting a broader trend towards R&D globalization, a number of developing and emerging countries are witnessing increased foreign investments in R&D. A number of emerging locations such as Ukraine, Dubai, Malaysia, Taiwan, Argentina, Bulgaria, Romania, Brazil, Australia, New Zealand and many others have started promoting themselves as offshore R&D destinations.

However, both India and China are much ahead on the overall offshore R&D curve. R&D offshoring started in India way back in 1984 with Texas Instruments setting up its first R&D center in Bangalore. China’s R&D offshoring story began in the early ’90s with Motorola being the first company to take advantage of the local talent and low cost in China. Though India was about 10 years ahead of China, the current story is very interesting. Will China overtake India in terms offshoring R&D in days to come has become a favourite question for most of the analysts and most importantly for companies who are actually choosing either of these countries (or others) for their offshore/ outsourcing activities.

Let me walk you through some numbers before we actually start finding an answer to the above question:

1.Total Number of MNC R&D Centers:
Based on Zinnov’s estimates, there are about 920 MNCs having 1,100 R&D centers in China. The number till December ’08 for India was about 671 MNCs with 781 R&D centers. Though the gap is huge, the evolution curves for both these countries are identical. Post the dot-com bust, both India and China witnessed a significant growth in terms of more and more MNCs setting up their centers. Though the costs and talent pool availability was quite comparable, India took advantage of the 20 year old history of R&D offshoring. Though the numbers were in favour of China, the quality of work and size of centers were in favour of India.
India witnessed a slowdown in the number of new centers being set up during the period 2005-2008. Most of the companies who wanted to take advantage of India’s experience along with the cost and vast availability of talent had already set up their centers by 2005. The era, 2005-2008 witnessed small to mid-sized companies setting up centers in India. However, China was able to attract MNCs to a greater extent. Companies willing to de-risk their R&D operations opened up their centers in China. Companies doing more than 20 percent of their global R&D from India obviously chose China as the next destination. The ever-improving English proficiency and huge availability of domestic market is further attracting more and more MNCs to set up their centers in China. Global economic meltdown and currency fluctuations have definitely created an atmosphere of uncertainty, and it will be interesting to watch the position of these two geographies in times to come.

2. Total R&D Talent Pool:
The total number of professional working across MNC R&D centers in China stands at about 130,000 (till Dec’08). This number for India, based on our estimates, is about 150,000. Though the talent pool in China is lesser compared to India, the gap is not wide enough. Considering the fact that about 2.1 million science and engineering graduates pass out of colleges every year in China, as opposed to only 650,000 from India, this gap will soon cease to exist. However, an interesting thing to note here is the average headcount per center in both these locations. If we simply do a calculation dividing the total talent pool by the total number of centers, the average for India (about 200) is much higher as compared to that of China (about 120). Most of the MNC R&D centers in India are fairly large enough and tackle advanced responsibilities as compared to China. In terms of experience level, the structure in both India and China is bottom heavy with most of the resources with less than 5 years of experience. However, in terms of sheer percentage; China has more junior level resources as opposed to India.

3. Work Profile and Ownership Structure:
Lack of English language proficiency along with inadequate domain expertise has played a key role is defining the work profile for China. We have been constantly hearing about communication related challenges with India from stakeholders in the US/ Europe, and this challenge is even more with China. Companies have been hesitating to interact with their teams of China professionals on a day to day basis, unlike India. Companies are still using China as a test field to assess the capabilities and are offshoring only low-end, low-risk (QA/ testing) kind of work. Since this kind of work does not require a day to day interaction between the HQ teams and the remote teams, the communication barrier has been somehow removed. The ownership of this kind of work resides with the local leadership in China. For some of the other high-end work, expats in China work as bridge between the two teams.

4. Cost Advantage:
Both India and China are significantly cheaper as compared to the Silicon Valley and most other R&D destinations across the globe. However, it is always difficult to determine whether India or China is most cost-effective.. The most important factor is the currency fluctuation. Last year Chinese currency, Yuan, appreciated significantly again the US dollar. During the first half of 2008, Indian currency was also appreciating; however, the second half of 2008 was dramatic when Indian currency fell drastically making India a cheaper destination for offshoring in general and R&D in particular. However, salary escalation in China is relatively lower as compared to India, and with so many government incentives for promoting R&D, the infrastructure cost is also lower in China. Due to ownership structure, travel to the HQs is also very less as compared to India, pulling down the travel costs associated with China-based R&D centers.

5. Service Provider Market:
The China market is very fragmented with the top 10 players accounting merely for about 28 percent of the total market, as opposed to India where the market is fairly consolidated. However, the market is growing thrice as fast as compared to India. The top 5 players are witnessing more than 50 percent year-on-year growth in their R&D revenues; headcounts are also growing at a similar pace. Service providers in China have gained the faith of some large US based MNCs as well as European and Japanese companies. Interestingly, the “famous 5” from India have been not able to make a mark in the China market. None of these top Indian service providers have R&D headcount of more than 100; revenue contribution in the overall market is negligible. Top Indian service providers aimed at relatively larger projects from China market in alignment to their global strategy. However, due to the nascent stage of the market it was tough to achieve this target. MNCs looking to diversify R&D globalization risks chose Chinese service providers for risk mitigation especially in the China market. Due to cultural and language differences, recruitment and retention of key employees became a key challenge for the Indian service providers.
Numbers and data suggest that the competition between China and India is going to be neck-to-neck in the years to come. There is a lot of learning that can happen from across the borders. China has definitely got a lot more to learn from India’s experience in the R&D space. Over a period of time, India has been able to find solutions to some of the key challenges which had restrained the growth of the R&D offshoring market; China is still undergoing this process. It might take China quite a while to stand shoulder to shoulder with India, but Government’s support along with huge domestic market potential are definitely a plus in favour of China. Mumbai terrorist attack and the Satyam goof-up might act against India in the short-term, and stakeholders in India will have to continue to strive hard to continue to move up the maturity value chain.

Praveen Bhadada is an Engagement Manager at Zinnov.