Looking for China's Infosys

By Joseph Chaney and Sumeet Chatterjee - Analysis

HONG KONG/BANGALORE (Reuters) - China's software sector is booming as it taps global firms looking to cut costs, but its small size and lack of experience mean it will be years before it threatens Indian rivals such as Infosys (INFY.BO).

For now, Chinese firms are attracting venture funding and expanding staff in an industry Beijing views as strategic for the country's future growth.

Analysts are bullish on the sector and say that scale, client lists, and quality of management are the key factors that distinguish the players.

The total value of software and services exported from China was an estimated $1.8 billion in 2006, according to analyst estimates, paltry compared with India's estimated $41 billion export revenue in the year to March 2008 in a sector that has thrived by tapping its large pool of English speaking graduates and engineers.

But the value of software and services exported from China is forecast to grow at a compound annual growth rate of nearly 38 percent through 2011, while India's is expected to jump to $60 billion by March 2010, according to industry estimates.

Chinese IT outsourcing firms, unlike their export-orientated Indian rivals, mainly serve the local arms of domestic and foreign companies and this could shield them from the worst impact of a U.S. recession.

Most of the software work is, however, less sophisticated than that done by Indian firms such as Tata Consultancy (TCS.BO) and Infosys, which are fast chasing consulting revenue.

"The Chinese firms have still not moved up to the top of the IT outsourcing value chain and are still doing 'lights on' types of work such as application maintenance, patches, or upgrades for software," said Timothy Bush, an analyst at Merrill Lynch.

"They're not upgrading IT infrastructures for major financial institutions."

FRAGMENTED SECTOR

Top players among China's crowded field of up to 3,000 firms include VanceInfo Technologies (VIT.N), Chinasoft International 8216.HK, Sinocom Software (0299.HK) and Shenyang Neusoft Co Ltd (600718.SS).

VanceInfo, which derived a combined 40 percent of net revenue from Microsoft (MSFT.O) and IBM (IBM.N) at end-2006, has averaged 80 percent annual revenue growth over the past three years. The firm, which had some 3,700 staff earlier this year, aims to nearly triple its workforce in three years.

Chinasoft International, valued at around $167 million, expects its revenue from providing outsourcing to Europe and the U.S. to triple to about $100 million this year and is eyeing overseas acquisitions. ID:nHKG61881

"At this stage, we still have to be a little humble," said VanceInfo's CFO, Sidney Huang, referring to his firm's small size. "It will take years, if not decades, to catch up."

Merrill Lynch initiated coverage on VanceInfo with a buy in January, citing convincing management and strong growth from its top five clients, which include Microsoft, IBM and Citigroup (C.N).