Why China Takes Cocky US Tech Companies To School

Why China Consistently Takes Cocky U.S. Tech Companies To School
by Travis Katz, Co-founder & CEO, GoGobot
Travis KatzThis past week, Uber formally joined an interesting, if undesirable, club when it threw in the towel and announced a merger with competitor Didi Chuxing: U.S. tech companies unable to make it on their own in China.
Many have also sunk billions into the country before admitting defeat. Yahoo was forced to quickly pivot in 2004. Chinese marketplace Alibaba killed eBay. Chinese search giant Baidu drove Google out of the market. If China was a battleground – and when it comes to competition and innovation, it is – the field would be littered with U.S. tech companies that came, saw and failed to conquer.
I should know. In 2008, when I ran the international business for MySpace, I was responsible for launching MySpace in China and – despite pioneering a new approach to the market that allowed us to move faster and get a bit further than anyone else at the time – we still got spanked.
In fact, with only one or two notable exceptions (Apple being one), there are almost no examples of U.S.-based consumer technology companies that have built profitable, standalone businesses in China. That might make you ask why it’s so hard for an American company to do business there. The unfortunate truth is that as a foreign company, it’s nearly impossible to win in China today.  If you’re onsidering entering the market, here are a few things to keep in mind.
It’s not as big as it looks.It’s easy to look at China and only see dollar signs. A billion people! The fastest-growing economy! Huge potential upside!  But there are a number of reasons to temper that enthusiasm.  First, despite its growth, China is still a low-income nation. The average income in China is about $7,800 per year. Contrast that with $34,000 in the EU; $36,000 in Japan; and $55,000 in the U.S. Make it up on volume? 80% of China’s working population lives either in rural areas or are migrant workers, earning between $2,000 and $6,000 per year. These workers are largely living hand to mouth, and a lot of the hot services in the West – from ride sharing to smart watches to AirBnBs – are largely out of their reach. The true addressable market for most tech companies is China’s burgeoning middle class, which represents about 20% of the workforce. These 150 million people earn an average of $11,000 per year – a population equivalent to the U.S. workforce, but with 20% of its purchasing power.  And while this population has been growing at an enviable pace, China’s current economic slowdown could mean the double-digit growth of China’s middle class is a thing of the past.   
It’s not a level playing field. U.S. companies are used to competing on a relatively level playing field. In China, however, the rule of law is relative at best, and the system is tilted strongly in favor of Chinese companies. The government has a vested interest in seeing local companies succeed, which means your Chinese competitors can collude with the government against you.  When we were launching MySpace in China, sites that showed video were required to register as “media companies,” requiring a license that was near impossible to get and which came with heavy regulatory oversight. This same rule kept YouTube out of the market. The regulators, however, turned a blind eye to the Chinese YouTube clones, allowing them to grow and grab share while holding the foreign competition at bay. Similarly, in its early days battling Google for market share, a competitor went to the regulators with a stack of printouts showing politically objectionable things they were able to find on Google. Not only did the regulators respond by blocking Google.cn entirely for several weeks, but they actually redirected users typing Google.cn into their browsers to Baidu during that time. Tough to compete in that kind of environment.
To add insult to injury, there is no such thing as intellectual property rights in China; come up with something great and the speed with which other companies copy and then iterate on it will astound you. (This actually happened to us at Gogobot – a Chinese company literally copied our entire site, down to lifting our HTML and our content). There are well documented cases of fake Apple stores and fake Starbucks, fake Twitters and fake Instagrams, executed well with astounding attention to detail. What can you do about it?  Not much. Copyright is virtually unenforceable in China.
Most companies don’t shed the American persona. Many companies assume – naively – that competing in China will be as straightforward as localizing their site or app in Chinese and running it out of the United States; treating operations as you would in any other country. But that dog don’t hunt, as they say. The model simply doesn’t work.If your Chinese operation has to get approvals from its American-based headquarters to make business or product moves, it is already running too slow for the fast moving Chinese market.  And more importantly, with its own booming tech sector, attracting top tier talent to work at the Chinese division of a U.S. company is a tough sell, particularly given the long string of failures.  
At MySpace, we crafted a nontraditional approach and created a separate Chinese company, raising money from Chinese venture capitalists who could help us both in recruiting and dealing with regulators.  We were able to attract strong Chinese talent – in the midst of a talent war every bit as hot as the one in the Valley today – by offering them stock and upside. Without it, no decent product person or engineer will sign on; there is simply no advantage to joining an American company that – in all likelihood – will fail.  In short, we made every effort to ensure that every single stakeholder had skin in the game. This paid off, but was not enough to help us win.
Companies are forced to play in country or not at all.To compete in China (or any country, for that matter), your service needs to be fast.  To do this, you need to have servers located in country.  Otherwise, all your data has to pass through the “Great Firewall of China,” a huge operation which scans all incoming traffic for information the government doesn’t want people to see, then blocks it.  Running through the Great Firewall will slow your service to a crawl, creating another reason for your Chinese users to turn to local competitors that are identical to you in every way (except, of course, they’re much, much faster).
It’s challenging to manage cultural cognitive dissonance.  Of course, there are a host of political considerations that start to become a big deal when working in China. If you’re running your servers in-country – which again, in order to be competitive, you must – you also are subject to Chinese law.  But complying with local law can put you in positions that are often antithetical to American values (ask Yahoo). Your users, for example, can have no expectation of privacy. The Chinese government can demand data on specific users at any time or even confiscate your servers without warning. Users of social platforms like MySpace could actually go to jail for what they share socially. While the MySpace community was built around free expression, we certainly didn’t want our users being arrested either. So we separated our Chinese from our non-Chinese databases, making sure nothing from our non-Chinese users ever resided on our Chinese servers. For our Chinese users, we had to get creative, finding a glossary of politically dangerous terms. If a user wrote a post that included one, he or she saw a message pop up that warned them of the potential consequences and suggested they consider rephrasing their post.  Did anyone go to jail on our watch? Thankfully no. Were we happy with the compromise?  Absolutely not.
The reality is, despite its great allure, U.S. companies are more likely to lose their shirts than make their fortune in China.  Uber arguably did better in China than any company that preceded it, but it also reportedly sunk $2B in the country before this week’s merger news.  The stake it acquired in the combined Uber/Didi may ultimately yield returns that make that $2B investment worth it.  What is clear is that this was Uber’s best and only path to potentially profit from China going forward.