The localization industry believes that the development of the Internet and e-commerce will be a real driver of localization around the world, including China. At the moment, Internet access is still quite low in China, but growth is occurring both as it becomes more popular in general and as China becomes wealthier. Thus there are roughly 50 million Internet users in the US today, a figure that is expected to rise to c. 135 million in 2002. In China, on the other hand, there are currently around 2 million users (2002e: 11.9 million). This means that the country is the largest Internet market in Asia apart from Japan. China also has the largest compound annual growth rate, at 55%. Roughly four million new PCs were bought in China last year, along with 14 million new mobile phones. The Internet has an even faster adoption cycle, with more than one million new users per year last year (all figures supplied by IDC).

However, the Internet is one thing and e-commerce is another. In the US in 1998, e-commerce sales amounted to c. USD 26 billion, while in China the figure for the same period is estimated at only c. USD 12 million. Current trade is mainly generated by wealthy Chinese consumers buying from amazon.com and by business-to-business customers. However, according to IDC, the figure will increase to USD 1 billion by 2001.

While American e-commerce development was 80% consumer-led, in China it will be 80% business-led. However, activities still need a push from the top

There are five key drivers for e-commerce: technological enablers, appealing content, customer sophistication, payment and fulfillment systems, and regulatory support. In addition, it is important in any analysis to distinguish between different types of e-commerce flows: from abroad into China (e.g., the amazon.com customers), from China to abroad (e.g. Gap reordering clothes from its Guangzhou factory), and within China. In the long term, it is the last area where the bulk of revenues has to come from—for example, a leading appliance manufacturer might want to order components from elsewhere in China.

Technological enablers for e-commerce

Today, the only unsolved issue regarding the technological enablers for e-commerce is access. China spent USD 19 billion on telecoms last year—the largest expenditure anywhere in the world. The bandwidth for international connections jumped last year, but it is still not sufficient to support one billion people. To give a comparison, it is only one-third that of Hong Kong, which has a population of six million people. PC penetration is still relatively low and the cost involved is quite high, while fixed line penetration is also low.

Cable and wireless might be alternatives to fixed lines—there are 50 or 60 million mobile phone users and several hundred million pagers. However, the implications for e-commerce are as yet uncertain. Microsoft has released Venus, a set-top device it developed for the Chinese market (the Chinese Academy of Science was also involved). Venus has the same level of functionality and costs the same as a DVD player. Since roughly 40–50 million people in China already have DVDs, this might be an entirely new market.

E-commerce content

As regards the second driver, foreign content and Chinese content are currently merging, but what is not happening yet is the transformation of Internet information and communications concepts into e-commerce activities.

Thus, while there are 2,000 Web sites for every 10,000 English speakers in the world, there are only 85 sites for every 10,000 Chinese speakers. This meant that a lot of Chinese are currently forced to read English, although native content is growing rapidly. Also, in China only USD 1 is spent on advertising per user, whereas in the US the figure is USD 25 per user. Finding seed capital is not a problem—USD 250 million has been invested in developing the Internet and e-commerce so far—but making a profit is.

Online retail models have not taken off yet since payment and fulfillment are cumbersome. In addition, there are no auctions, no intermediaries providing value apart from information, and limited use has been made of the Internet for channel management to date. The same also applies to online customer service: although Cisco and Smith, Kline, Beecham are using the Internet for this, the level of activity is generally low to date.

The biggest ISP is Chinanet, which is owned by China Telecom: other, comparatively weak suppliers are owned by city governments, businesses, etc. Foreigners may not own ISPs, but they may own content sites. There are a variety of such sites both in China and offshore, including media sites such as www.china.com and www.chinabyte.com, and StockStar (a community website modeled on Geocities).

The real battle in China is over portals, but defining what these actually are and the criteria for success is difficult. There are currently four focused portals—Sina, ITC, Netease and Goyoyo—as well as the “global” expanders (Yahoo, Netscape, Netcenter Chinese and MS Chinese), and new ones are springing up every day. In the early stages these may concentrate merely on information and communication, rather than e-commerce.

Customer sophistication

Customer sophistication presents more barriers. The first question is who actually are the consumers, since getting counts is very difficult. According to current information, Beijing accounts for roughly 25% of the total number and Shanghai for only 4%. 70% of Chinese users are 21–30 years old, and they are almost entirely males (predominantly engineers and academics).

Frustrations include the cost of online connections and PCs, and speed. Since bandwidth is limited, large numbers of consumers want to minimize their time online by downloading information and reading it later, which influences Web design. The cost of online access amounts to 21% of average salaries for urban Chinese, because telecommunications costs are higher in China than elsewhere. As a result, Internet users tend to be among the wealthier citizens. Chinese content can also lack quality.

The other block is people’s feelings about doing e-commerce and in particular security fears. Is it safe to send information via the Internet? Are the goods of sufficient quality? China has a long history of fraud in mail order (in contrast to the US, which has a history of relying on it), and staff in Chinese shops demonstrate that a product works before consumers buy it. In the business-to-business e-commerce sector, only 8% of companies surveyed have implemented any e-commerce or EDI capability.

Payment and fulfillment systems

The real barrier to e-commerce at the moment is the payments infrastructure. Credit cards and debit cards already exist, as do the logistics for payment. However, whereas in the United States 98% of all merchants have subscribed to credit/debit cards, in China the figure is only 2%. There are c. 90 million cards in use, but they are proprietary cards with proprietary systems, and are not interlinked.

While it is true that a lot of work is going on in this area, there are no solutions yet. Smart cards and electronic wallets are being trialed, but cash on delivery is still probably the best bet in the medium term. However, vendors are nervous about drivers handling large amounts of cash (this might be an opportunity for the Chinese postal services). China is still a cash culture, and making e-commerce work means that a solution to this problem must be found.

Regulatory support

There is considerable debate about whether support by the authorities is favorable enough, but in our opinion it is neutral or even positive. There are many ISPs in China, although most are subscale (in contrast, AOL in the US has 13 million users). The average US-based ISP makes c. USD 20 per subscriber, and has costs of c. USD 13. In China, prices are low due to the lack of wealth and there is a lot of competition. Add this to the cost of access and it is difficult to make money.

Equipment supply is fairly open, with both the big foreigners and now increasingly also local providers being represented. There is no change in the position regarding software products, technology support and functional services. ISPs are off-limits to foreigners, although some change is likely here. There will be no change regarding content and commerce unless foreign companies start to dominate the market, and only a small possibility of participation in the payment and fulfillment sector.

Competition will emerge slowly, while access rates will continue to fall but remain high. Foreign players are welcome in the equipment and commerce areas, while network operations will remain tightly controlled. The position regarding taxes and tariffs is uncertain, although the WTO deal will have an effect. International standards will be slow to become established, and political and cultural content will continue to be censored.

The natural Internet owners

As a result of these five drivers, we shall see a different development model for the Internet to that in the US. While American e-commerce development was 80% consumer-led, in China it will be 80% business-led. However, activities still need a push from the top—as previously mentioned, 90% of companies have no e-commerce plans as yet. Nevertheless, the real growth in e-commerce will come from big Chinese companies, its “natural owners”.

Opportunities exist all across the Internet value chain. At a global level, half of activity is already business-to-business (if you add in government and education, the figure is as high as two-thirds). In the US, traditional businesses use the Internet for sales and marketing, supplier management, and distribution management, while new players such as amazon.com have also emerged. In China, however, there are barriers to this. The key issue is functional skills—established businesses first need to institute world-class purchasing and marketing, etc. The technological infrastructure at Chinese companies does not exist, since they are often just automating for the first time. However, this can be turned into an advantage, since companies can implement slick client/server and Web solutions straight away.

There are big win opportunities in China, including PSM (purchasing and sales management), Internet sales and distribution control, and multichannel customer relationship management (CRM). These can be used to learn about customers in order to meet their needs better, for online business-to-business sales and personal financial services, and for focusing on the wealthier Internet clientele.

However, the barriers mentioned earlier mean that only the large natural owners will be able to break through. A large scale is needed to force suppliers online, as is a large supplier base to capture value from reducing costs. Also important are time-sensitive needs such as are to be found in the automotive, electronics, and equipment sectors.

Winners can cut purchasing costs by 10–20% and reduce cycle time by 50%. Service companies who can break through the barriers include those with large, dispersed customer databases (e.g., banks, telecoms, insurance, automotive and equipment companies), since the Internet allows better management of these resources. While today’s conditions limit China’s companies from managing their activities as efficiently as they would like, the Internet allows them to improve their core businesses and create entirely new ones. In this way, e-commerce can be a lever to generate leapfrog performance improvements.

Cross the river by feeling the rocks

Key stakeholders have to act now to catalyze e-commerce growth. Telecoms providers and regulators should focus on rates, infrastructures and standards, while avoiding control. There is a Chinese idiom that says “cross the river by feeling the rocks”—i.e., “take it easy”—and this applies to the Internet in China.

The benefits will be more rapid growth in the e-commerce pool, which will in turn encourage more businesses. Trade and industry officials should encourage the natural owners to drive e-commerce growth (since current databases are not offering added value) and adopt vertical industry standards if necessary. The benefits will be the more rapid emergence and spread of successful e-commerce models and faster penetration of the technologies.

The natural owners of the Internet must move aggressively to capture these opportunities. However, at present they are often quite reluctant, since they do not know what it is and what it can do. Equally, just putting in technology does not work—the underlying functional capabilities are needed. McKinsey is helping companies do this by helping transfer concepts and skills. There are great opportunities for value creation and for transforming the way in which business is conducted within and with China.