China’s software services market suffers from numerous problems, the biggest one being that the domestic Chinese software market remains relatively immature.  Piracy of software remains rampant in China.  Large Chinese manufacturers have not installed the complex software systems that their counterparts in the US and Europe have installed.  Most Chinese programmer focus on low level programming work such as software maintenance or porting.  This lack of maturity hampers the development of the outsource software services sector because it deprives companies experience in developing and maintaining complex software systems for large organizations.  This lack of domestic experience in designing complex software systems, directly leads to a lack experience in undertaking large international software outsourcing projects from international companies.  Most of the focus for Chinese firms is on the domestic market, they do not have an established pipeline of US or European clients.  The principal problem facing these companies is how to make US and European customers trust and choose the Chinese companies over Indian firms.  On the managerial side, China also lacks expertise in software project management, although China has an abundant supply of engineers, it has a limited supply of project managers who are experienced in large software project management and even fewer professionals that are able to combine technologies with industry experience.

In comparison to their Indian competitors, Chinese companies are hobbled with liabilities which hold back their success in the market for international software development projects.  One of the biggest barriers that Chinese companies face is the Indian companies proficiency with English is much better than Chinese – many Chinese software engineers and managers don’t speak English well, much less develop programs in English.  Another important issue is that Chinese companies have not established formal procedures, processes and quality control systems that Indian firms have.  As such, they have not established a reputation for reliability and credibility as a provider of skilled services. Only one Chinese company, Neusoft Co., has achieved level 5³ accreditation in Carnegie Mellon University’s Capability Maturity Model (CMM) for software development.  All the top-tier Indian vendors are certified at CMM Level 5, the highest level.

Another major issue that China's software services industry faces is the political climate in China.  Even with tremendous market opening, the Chinese government is still a very authoritarian regime which implements the rule of law in a capricious manner.  This gives pause to many US and European companies who do not want to get caught up in a tricky political situation if there is friction between China and the West.

Going forward, China's software services industry's main international success has been in obtaining software outsourcing contracts from Japan.  The industry has recently begun to develop, relationships with Indian software outsourcing firms which have set up software centers in China.  The Chinese industry would like to see the Indians outsource their cheaper work to China.  This would support the development of management and technical capabilities of the Chinese software industry, while allowing India to focus on higher value-added activities. 

Human Capital

The Chinese software industry boasts a large supply of 400,000 IT professionals, with approximately 50,000 new entrants into the IT field each year⁴.  However, the supply of highly qualified computer and software graduates remains limited.  Most Chinese universities do not teach software engineering, so software engineers are sought from Computer Science and Math departments.  Most Chinese programmers are proficient in low-level coding and maintenance of existing programs.  The Chinese IT industry's biggest labor problem is that there is a real shortage of high-level system architects, designers and project managers.  University engineering programs continue to emphasize traditional engineering fields rather than computer science.  As a result, Chinese programmers lack technical capabilities required for systematic analysis and design of software.  This limits the presence of Chinese firms in the international software outsourcing business, in spite of relatively low wages.  

Wages for Chinese software developers are very low compared to international standards.  The average Chinese IT programmers salary is approximately USD $5,850 annually⁵.  With the growth of the domestic IT market, there has been growing demand for skilled labor.  It is expected that as the software services industry matures, Chinese programmer will upgrade their skills  to move up the skills value-chain and wages will increase. 

Telecommunications Infrastructure

Over the past 10 years, there has been a huge investment in China's Telecoms infrastructure and the country has seen massive growth in the market for mobile-phone services and improvement in the speed of Internet connections.  The country has seen the number of telephone main lines (per 100 population) increase from 5.7 in 1997 to 16.7 in 2002⁶. China also has the largest market for mobile-phone services in the world, with over 200 million subscribers.  This investment has largely focused on the proliferation of relatively advanced telecoms services in richer areas.  However, even with this astronomical growth and investment, the telecommunications infrastructure continues to lag behind other countries.  This is especially evident in the poorer rural areas of the country, which have not seen much improvement in advanced telecommunications services.  Overall, China has made great strides in telecommunications in the major metro area such as Beijing, but the infrastructure still needs improvements in the heartland of China.

Government Support

The Chinese government has identified software as a critical industry that is essential to economic progress and national security, hence deserving of national promotion.  As such, in China's 10th Five-Year economic plan (China's economic planning document encompassing years 2001 - 2005) there is a growth target of more than 30% annually for the software and IT industry.  Such growth will bring market sales up to nearly USD $20 billion by 2005.  China also expects to build 20 domestic firms with revenues exceeding USD $120 million, and more than 100 "famous software brands", and software exports of USD $1.5-2 billion by 2005⁷.

In November of 2003, The Torch Center, a high tech development program started by the China Ministry of Science and Technology (MOST), launched the China Offshore Software Engineering Project (COSEP).  Working in conjunction with US based ExperExchange, and using ExperExchange's Offshore Software Engineering Model (OSEM), COSEP is to provide outsourcing services from China to overseas corporate customers.  The COSEP program will select a number of Chinese software companies from regional software parks.  These companies will go through a training program based on the OSEM process supervised by ExperExchange.  Upon successful completion of the OSEM training program, a Chinese software company is then certified to take on offshore software engineering projects.  This training program is an official seal of approval from the Chinese government to foreign companies that the companies that have gone through this training program have the processes and procedures in place to handle complex software outsource projects. 

The most important central government policy for the software industry is the June 2000 announcement of State Council Document 18, formally known as the "Notice of Certain Policies to Promote the Software and Integrated Circuit Industry Development."  The document created preferential policies to promote the development of these two sectors.  The document policies for software companies include: 1.  Value-added Tax (VAT) refund for R&D and expanded production; 2. Tax preferences for newly established companies; 3. Fast-track approval for software companies seeking to raise capital on overseas stock markets; 4. Exemption from tariffs and VAT for software companies imports of technology and equipment; 5. Direct export rights for all software firms with over USD $1 million in revenues; 6. Right to set salary levels and to grant bonuses to investors.  The Chinese government has also actively encouraged partnerships and joint ventures with foreign companies to assist in the development of Chinese software services firms. 

Another important step that the Chinese government has taken to jump start the software services industry is tackle the problem of widespread piracy of software.  With piracy rates of upwards of 90%⁸, Chinese and foreign companies have found it impossible to invest successfully in the Chinese software market.  This discourages foreign investors from pouring resources into the software services market.  Several well publicized campaigns by the government to crack down on piracy including the establishment of the first copyright registration agency have shown that the Chinese government is determined to tackle the widespread piracy of software in China.

Industry Association Support

China has no official business association for the software services outsourcing sector.  However, there are numerous regional software industry associations such as the Beijing Software Industry Association.  The largest association, in terms of membership is the China Software Industry Association (CSIA), which is purported to be the only official representative of China's software industry.  The CSIA has over 3000 members located throughout China.  CSIA's main goals are the promotion of the software industry through market analysis, information exchange, certification, and policy studies.  The CSIA is registered with the Chinese government and has the governments official blessing.

Regional IT Cluster

In China, software firms and employment in the software industry is heavily clustered around Beijing, Shanghai and Guangdong regions along the eastern coast of China.  These three urban areas account for the majority of the large software firms in China, this is due to the clustering of human capital and the presence of the central government in these three locations, especially Beijing.  The eastern coast of China also boasts most of the leading research institutions and universities in China, which further concentrates human capital for the software industry.  The Chinese government has also developed 19 software parks around the country under the high tech development plan entitled the "Torch Plan".  These parks accounted over 80% of China's total software sales from the 2100 companies located within the 19 software parks established under the Torch Plan⁹.