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I wrote last fall that the Chinese government is investing billions of dollars to strengthen and grow the country's cloud computing infrastructure. This investment directly benefits Chinese companies providing cloud services that are higher margin and higher up the value chain.
The key facts behind this conclusion can be found in the numbers. In India, sales and profits of Tier I and Tier II IT companies over the past 12 months are up, yet enterprise value/earnings before interest, taxes, depreciation and amortization (EV/EBITDA) multiples are down nearly 10 percent. Over the same time period, Chinese IT companies outperformed Indian Tier I and Tier II IT companies on a EV/EBITDA basis by more than three times, and are currently trading over 20 percent higher than this time last year. This is despite Chinese IT companies having lower profitability margins than their Indian counterparts.
In China, profits are not keeping pace with sales growth because 40 percent to 60 percent of an individual company's business likely comes from domestic clients, which are extremely price sensitive.
We also noted that the largest customers -- and largest number of customers and potential new customers -- for IT services in India and China are in the United States. For India, this is an advantage. There is an obvious higher trust level between the U.S and India than between the U.S. and China right now.
But, that could change.
If Europe has been the U.S.'s main trading partner for the past century, we are at the beginning of a seismic shift. It appears that that the U.S. is rebalancing its foreign relations agenda toward Asia -- and especially China -- during President Obama's second term.
President Obama's inaugural address comments could signal the start of a new period in Asia-U.S. relations starting, of course, with China. The two countries can move from a clash of titans battling for supremacy to two world superpowers learning how to co-exist -- sometimes as adversaries, sometimes as competitors, but always as partners.
Meanwhile, many lower profile Chinese industries -- including IT -- might benefit by quietly growing at a torrid clip in a new world of private trust. And as Chinese IT companies grow and acquire globalization skills, current leaders in IT services and the IT supply chain in key geographies such as the United States and India should brace for determined new competitors.
Marty Wolf is founder and president of martinwolf | M&A Advisors. Marty has been directly involved in the divestiture of six Fortune 500 divisions and has completed more than 115 transactions in the IT services sector. A frequent commentator and guest blogger for leading business and IT media outlets, Marty also acts as a counselor and trusted adviser to CEOs of select IT firms.
PUBLISHED FEB. 8, 2013
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