China remains one of the largest untapped markets for many global B2B SaaS/Cloud companies. Beyond the large established enterprise resource planning (ERP) solutions (e.g., Workday) and customer relationship management (CRM) offerings (e.g., Salesforce.com), there are already thousands of global companies operating with SaaS functions in China or considering entering the market. Companies want to take advantage of China’s massive potential customer base, which includes over 35,000 companies with revenues north of $150 million, in addition to China’s 40 million small businesses.
However, global enterprise software companies are concerned about how to stay compliant while generating a positive ROI in China. These are increasingly reasonable concerns as more software companies continue to transform their delivery models from locally installed (on-premises) installations to “service” delivery formats via the cloud (SaaS).
This transformation puts companies into a significantly more scrutinized area of China’s regulatory environment. As regulations evolve, SaaS companies are wondering if there are still paths to China that can be pursued with a modest investment, while avoiding the arduous requirements for SaaS firms to find a local majority partner. Fortunately, there are alternative ways for companies to enter China. In this article we share how SaaS companies can navigate China on their own.
Frequent SaaS compliance issues
The Commercial Internet Content Provider License (“ICP License”) is the most often cited Value-added Telecom Service (VATS) license that SaaS businesses apply for in China. However, there is much debate about whether an ICP license is strictly necessary for a company that simply offers its own solutions over the cloud or does not transact directly through its website in China. Even for these companies, there is a risk that local regulatory authorities may not have a nuanced understanding of the regulations and will default to the view that a SaaS business requires a Commercial ICP License.
The main concern around the ICP license is that it requires a joint venture, which is a non-starter for many foreign executives. Even for those who strike a JV deal, licenses are difficult to obtain. SaaS companies handle lots of data, including personal data, making them more vulnerable to close regulatory scrutiny. China is stepping up its data regulatory regime with the new Data Security Law (DSL) that was passed in June 2021 and the Personal Information Protection Law (PIPL), which passed in August and will come into effect on November 1.
Perhaps the most direct impact of these new laws on international SaaS companies that operate in China is the increased sensitivity to the processing of personal data and the scrutiny of cross-border data transfers. The silver lining to these new requirements is that the rules are becoming clearer, especially once implementing regulations come out within the next year. Companies should be aware of these changes, but we expect with this new clarity, firms will be able to comply without too much concern.
Where many companies start is not always the right place
Historically, most SaaS companies start their China journey through a cross-border approach. Companies leverage their existing global infrastructure and then build out a sales and marketing program on the ground, either independently and/or with partners. Depending on the type of solution and its technical performance requirements, this can be an effective strategy for many companies, at least initially.
However, this strategy is typically limited for several reasons:
The company may struggle to understand and meet the needs of its China customers from afar.
Larger customers and state-owned entities are often hesitant to purchase from companies without local technical and operational support.
The company’s IT infrastructure will typically encounter performance issues due to its location outside of China’s Great Firewall.
All that said, many companies eventually need to do more than provide their solution from abroad and may need to set up a cloud in China when:
Their products simply do not work well enough to support their customers in China from abroad, or
They are providing services in China from abroad and have hit a cap on their potential, and/or
They are concerned that the data they are capturing is at risk of being blocked or running afoul of increasingly stringent data residency requirements in China.
In most other markets, hosting a solution locally is as simple as spinning up new AWS, Azure or Google Cloud instances. However, the process is more complicated in China. The closest alternative is working with a local IT partner (value-added distributor or VAD). Many foreign companies start by speaking with one of these VADs that can obtain the necessary licenses for local operation.
While initially attractive to many SaaS companies (they often expect the VAD to take the business and run with it in China) the realities and downsides of working with these distributors usually become quickly apparent. These include:
A high upfront fee and revenue sharing. For companies without an existing business in the country, they will typically push for exclusivity to offset the risk of bringing an unproven company into China.
The VAD makes the company’s business a low priority (both because SaaS is hard, and for new entrants especially, because there isn’t an existing pipeline).
The company must still spend resources to understand and customize its cloud for the China market.
The VAD is unable to fully understand, sell and service the company’s complex SaaS solutions in the market.
Complex decisions need to be made in the operation’s early stages, and the company and partner need to communicate effectively and coordinate resources to make decisions together on suitable China pricing models, product features and business strategy.
Regardless of the downsides, some companies do start by partnering with a VAD. In our experience, however, after a couple of years many of these companies become disillusioned and look for alternatives to re-energize their China business.
Whether new to the market and looking to go it alone or a company that started with a partner and now wants to consider a more active approach to China, companies have the same key question: do other options exist for SaaS companies that want to control their own IT infrastructure and China strategy?
Option 1 – You may not actually be a SaaS company in China, so why not stay that way?
Simply launching servers in China and running aspects of a business through the cloud does not automatically mean a company is considered a “SaaS” by Chinese regulators. Thus many SaaS companies’ business and/or delivery models do not require a Commercial ICP license (and a local JV) in order to operate in China.
Other companies do – on the face of it – seem to require a Commercial ICP License. For those companies, however, there are many variables that can determine if such a license is really necessary (it’s often not). Some common variables include:
Pricing models and where payments are processed
The type of data collected and where and how the company aggregates and processes that data
How products are delivered (on-premises, local installation, cloud)
The type of customers targeted in China (MNCs, SOEs, SMEs)
The size of the business
The strategies to avoid needing a Commercial ICP License are unique to every company— competent legal and GTM advisors can help companies work through alternatives. For some companies these strategies can be a permanent solution. For others, they act as a delaying mechanism until the company has validated its opportunity and is ready to consider a more significant investment in China.
Option 2 – Some companies ARE SaaS companies and should have a license, but…
Many B2B SaaS companies took the direct route into China (whether independently or with the help of services providers). They made an upfront investment, created a WFOE, put boots on the ground, filed an ICP registration, set up their services on local cloud providers or on their own servers and then started to serve China customers. These companies may not be technically in compliance and need to look at their options. However, many of these regulations have only been introduced over the last four years, so many of these companies are still working on compliance.
These companies may have some risk exposure, but thus far we haven’t seen regulators pursue companies that are technically out of compliance, but which are not acting illegally and are not touching sensitive data. While this could change, in practice we continue to see many new companies follow the same path. China, like all countries, wants to attract good companies to invest and increase its tax base. Generally speaking, when companies get in trouble for lacking full proper licenses, it is more likely that a local competitor blew the whistle because they felt threatened by a foreign company’s success.
Option 3 – VIE
Variable Interest Entity (VIE) structures have historically been a potential work-around for restrictions on foreign-invested companies obtaining VATS Licenses. However, there are some regulatory indications that these structures are falling out of favor with regulators (and not just for SaaS businesses):
A domestically invested company is first established as an operating company to apply for and hold the ICP License. The foreign business must find local Chinese citizens – sometimes key local management – to act as nominees to hold these shares of the local operating company on the foreign company’s behalf. A set of contracts between the foreign and local company (and its shareholders) ostensibly offer the foreign company 100% control over the local company. VIE structures have been used for over 20 years, especially by many Chinese internet companies when listing on stock exchanges outside China. While it is an option, there is much debate about the risk of the structure, especially if the relevant parties’ relationship appears to exist primarily to avoid the regulations. There are other possible issues as well, such as the risks of the foreign company losing control over nominee shareholders, as well as contracts ultimately lacking enforcement in court.
Balancing considerations for SaaS companies entering China
There are challenges for business software providers entering and operating in China, especially those built exclusively for using an SaaS model, but opportunities clearly exist for both SaaS and non-SaaS software companies alike that are willing to make the investment.
China remains one of the largest untapped markets for many global B2B SaaS/cloud companies. However, due to China’s complex regulatory environment there is confusion around the meaning of “SaaS” in China, and what is even possible for foreign companies. When SaaS companies explore China and discuss their business and options, they will often receive feedback like, “China is hard for SaaS companies, you will need to replicate your cloud infrastructure and get a commercial ICP licenses that can only be obtained by a controlling China partner.” Though there are cases where this is true, for the majority of companies — particularly those in the world of enterprise SaaS — there are often significantly easier paths to enter China.
This article seeks to demystify some of the issues around SaaS in China and discuss key considerations when entering the market. Most importantly, we’ll share how companies can build a go-to-market (GTM) plan for China that is compliant and starts with a smaller footprint, allowing companies to delay larger investments until after they have achieved their business milestones.
Why is putting together an effective China GTM strategy so difficult for so many Western companies, and why is it so important? On the face of it, it shouldn’t be so difficult. China has been open to the world for decades, and the options at the highest level are straightforward and familiar to seasoned global executives. The challenge is that very few companies (or their China advisors) possess the combined strategic and operational experience necessary to help a cloud/SaaS company understand the interplay of their GTM plans across strategy, IT architecture, finance and compliance, while also knowing how other companies have addressed similar issues in China.
Having the correct GTM plan can be the difference between generating revenues in months instead of years. The correct plan could also potentially allow a company to leverage its current global infrastructure, versus having to build an entirely independent China cloud. Companies can build their GTM plans to avoid strategies that force them into low chance/high risk activities, such as negotiating a complex joint venture or using questionable legal structures to circumvent Chinese regulations.
A good GTM strategy is key to finding solutions to the following common concerns from executives:
How do we start small and invest over time based on real market traction?
How do we avoid missing something obvious when building a plan, then find out 6 months after entry that the plan had no chance of success in the first place?
How do we make sure the strategy meets our desired compliance parameters?
How do we determine when a local partner is a good choice or should be avoided?
Where to start
Companies typically start their China journey by speaking with their lawyers, advisors, potential partners, and other experts to discuss the market opportunity and their high-level entry options. The initial review usually starts by discussing the company’s existing business outside the China market. The company will also ask its lawyers to identify potential risks, where they may need licenses, and some of the ways similar companies have approached the market.
Unfortunately, for companies that define and describe themselves as SaaS companies, this can quickly lead them down a rabbit hole. SaaS in China has taken on a very specific and unintended meaning from a regulatory perspective. This misconception perhaps stems from believing that because a few well-known global SaaS products (including Microsoft Office 365 and Amazon) were subject to strict regulatory scrutiny in China and had to obtain commercial ICP licenses through the Chinese partner route, all SaaS companies must follow suit. However, just because a company operates a cloud or has a recurring subscription model, does not mean it needs a partner and a commercial ICP license.
Nevertheless, companies often hear this advice or misinterpret how China’s regulatory environment works. This leads many to go down a decision path where they become absorbed in complex discussions for strategic partnerships they often prefer to avoid, or to explore “creative” structuring options that can introduce significant risk into the overall China business case. This eventually leads far too many companies to walk away from China frustrated, while at the same time wondering how so many other companies have successfully entered the market.
Alternate paths to enter China
There is no one-size-fits all solution when it comes to GTM planning for companies looking to deploy SaaS in China. Companies need to understand that their initial review should only be the starting point; it is the straw man from which to start developing a GTM strategy.
Every company has its own objectives, timing and budget constraints, risk appetite, and flexibility around business strategies and models it will be willing to consider in China. There are real choices for companies to enter the China market in a staged fashion and prove-out their business with a much lower investment. In many cases, companies will eventually operate a slightly different business in China than their global business. This may let them permanently avoid areas that involve a more stringent regulatory environment. In other cases, companies will eventually choose to go all-in with a local Chinese partner — but only after they are more confident about the market and have a significantly strengthened negotiating position.
To identify the right GTM plan for China requires a highly iterative process where companies take a deep look at every aspect of their business. This process can sometimes feel costly or premature as this type of analysis is usually done later, after companies have confirmed their high-level GTM plan and allocated the budget for their China effort. However, this process is a must for SaaS company executives who need to understand their choices earlier to reduce the “unforced errors” that so often occur to companies that copy and paste their global expansion playbooks into China.
Everyone knows that creating a joint venture (in any market) is a time consuming and complex effort, and China is no exception. That said, the most difficult part of a China joint venture is not the structure or getting regulatory approval, it’s finding the right partner to work effectively with to execute a shared vision.
Let’s take a look at what each side usually expects out of a China joint venture, some of the challenges, and ADG’s recommendations on the role a China joint venture can play in your overall China entry strategy (please note that we’re only discussing JVs here, meaning each side takes a stake in a new entity – there are many other kinds of strategic partnership types such as distribution, licensing deals, etc., that are less committing for both sides).
What are the chances?
Western technology companies often are looking at China with an eye towards finding the perfect joint venture partner. Usually, they have a wish list of a handful of well-known tech giants that could offer huge benefits to them. Unfortunately, for various reasons, the general likelihood of any China joint venture making it to the finish line is very low. So, when the target is a massive, fast growth tech company… think of it this way – what would be the chances of a mid-sized Chinese tech company forming a US-based joint venture with Facebook or Google? That said, we know firsthand that such JVs are possible, having engineered the extraordinarily successful partnership that led to the Ant Financial’s acquisition of EyeVerify. But, much more often than not – and especially without help from a local expert like us – it usually goes nowhere or worse.
Winning or losing comes down to execution
A lot has changed over the last 20 years that we have been helping companies find strategic partners in China, particularly around the rationale behind setting up a joint venture in the first place. Today, most China joint ventures are no longer about market access and regulatory hurdles, but about how to win a market and move much more quickly than one company can on its own. There are now great management teams in China, and the cultural gaps and value systems are no longer as wide as they were in the past. However, what has not changed is that success comes down to execution and operations.
Once the deal is inked and the money is in the bank, the project moves to the execution stage – and this is where problems often arise. The China side is expected to bring value and its networks to the partnership. However, unless the Western company’s product, technology or brand is already very well-known inside of China (and few Western technology companies’ brands are), the China side has a lot of work ahead of them. While the Western side can contribute experts to join the JV, the reality is that beyond consulting on technology, without meaningful China operating experience it will be almost impossible to contribute additional value, let alone build an effective go-to-market plan to deliver on a strategy.
Who will run the China joint venture?
It’s critical to point out that there is often less middle ground in China than in most other markets. In other words, if there is a business to be run, whatever the business plan says, the Western company needs to be prepared to take a meaningful hands-on role. Too often we see companies assume that their well-funded and experienced China partner is the best equipped side to run the business.
In practice, it is very difficult for a local company to run a China joint venture. The giant technology companies in China are already in a race against each other, and like in Silicon Valley, there is a talent war. As they are already struggling to hire high-level operational staff to run their own core internal initiatives, there’s little chance that they will have the right kind of people on board to also run a joint venture. Simply put, the skills it takes to build a Western business in China are not the same skills it takes to run a local China business. So, if a business needs to be built in order to make the China entry successful, don’t count on the partner to have the skills to run it unless they already operate a similar business and have proven they know what they are doing.
To maximize your chances for success we have two recommendations:
Widen your search parameters to find the companies that are specialists and operators within your industry – they can still be very large and are often already strategically aligned with the giants you were hoping to reach in the first place.
Unfortunately, most Western companies simply do not have the resources or connections to conduct an extensive search, so unless they solicit help, they might be forced to give up the idea of a China joint venture for lack of available partners.
Assume that the JV agreement will never close – and do what it takes to build success in China.
At ADG we believe that a China joint venture and other strategic partnerships can be great supplemental entry options to consider. However, JVs should be looked at as growth accelerators in parallel to building, or once you have already built, a basic China market presence – not as a standalone market entry strategy. There are some exceptions to this but as a general rule it holds.
Companies that have been operating in China for a few years (and have amassed enough experience), will be better positioned to know who are the right partners for them. Rest assured, when the time is right to pursue a China joint venture, if you have meaningful success on the ground, you will be approached regularly by local companies looking to join forces with you. Most importantly, you will be able to negotiate from a position of strength.
So, if China is on your roadmap, your first order of business should be to execute a plan to tackle many of the fundamental building blocks needed to create a high-growth China business. This allows you to aggressively create broader market awareness and ensures that the market sees you as a serious player in China. These basics can help unlock growth opportunities and get you on the right path towards attracting a great China joint venture partner. If you’re a technology company that doesn’t have the team or expertise on China and are looking for market entry help, please reach out to us.
To get China software resellers onboard with your product or platform, you need to build trust and excitement through a strong show of commitment and support on your company’s part.
While your technology certainly matters, in China, technological prowess from Western companies is both assumed, and not 100% an advantage: companies without the best technology have been very successful in China. Those successful companies understood that business decisions in China are strongly tied to relationships, deliver on the ground in China, and that putting partnerships and deals into a “China context” are key.
Since most China software resellers prefer to get to know you and negotiate the partnership in conjunction with a real opportunity, it is a huge plus if you can start by providing them with some existing leads or at least be willing to support them during their sales process. You will likely need to push them a bit, but whenever possible you want to speak with their own sales teams to get the word out to uncover some initial opportunities to pursue together. For example, introducing them to the China branch of a multinational that is using your product in other countries, can be a great way to show your willingness to work together.
Know your value
Do your homework on the China market by being prepared and showing you that you have some knowledge of the market and the value propositions that you believe will be attractive in China. Most companies are surprised to learn that the value propositions in China are often very different due to budgeting process, politics, internal non-business oriented KPIs, cost structures, competing alternatives, etc.
Sell through use cases
China software resellers like to learn how companies elsewhere around the world use your products. Case studies and use cases are very important. Many customer prospects may not have a technical orientation, so they will expect a clear value proposition on how it can improve their business. If you provide case studies, expect hard questions on how and why those customers choose your product, and use data driven methodologies to prove your points. You can leave your marketing documents with fuzzy numbers and hyperbole at home.
It’s not enough to prove how amazing your product and technology works outside of China, you need to provide China software resellers proof that it will work in China (and it almost never will in the way you expect). They can accept that you might not be ready on day one, but if your product isn’t ready, then you need to provide a plan that demonstrates you understand the problems and have a clear path to deliver. Special note: if you are a SaaS company then resellers will expect that you’re already educated on the technical, regulatory and political environment that may be associated with your product in China. Saying, “we run on AWS so it shouldn’t be a problem,” will only bring exasperation to China software resellers.
Local market integrations
China has an entire independent ecosystem of services that are typically embedded across products and websites. These could be payment gateways, customer service and communication tools, marketing tools, and other integrations applicable to your products. Partners won’t expect you to come to China with all your integrations working from day one, but will be impressed if you can discuss your plans with them and get, and try to implement, their feedback.
It will also be valuable to have tested your products in advance in China to understand which ones are going to be problematic due to issues with China’s Great Firewall. Keep in mind that many global platforms encounter problems operating smoothly in China – especially during politically “sensitive” times.
Know what you want from China software resellers
Many companies approach partners with an attitude of, “here is my technology, what can you do for me?” Western executives visiting China often walk out of meetings with partners disappointed because the executive didn’t think that the reseller grasped their technology or asked the right technology questions. The reality is, however, that resellers are not interested in learning the ins-and-outs of your product and technology: they see that as your job. What they see as their job is to deliver to a customer a product that is “good enough” to get the deal over the finish line.
While China companies are happy to discuss all the ways in the world that you can cooperate, in an ideal world it is best to be clear on your expectations in advance. Do you expect them to bring you opportunities? Host your infrastructure? Provide technical support? Co-market or independently market your products? The more you can share with them the more they are likely to have the right people in the room and respond to you directly so as not to waste time. We recommend using a straw man model or proposal whenever possible so both parties have a clear starting point to discuss what is possible and realistic. Open ended discussions almost never go anywhere useful.
While many China software resellers may not actually have a clear sense of the regulatory issues that impact foreign technology companies, they will want to know that you are generally aware of them. We generally don’t recommend that you put too much reliance on the opinions of lawyers on this topic. Laws in China are often open to interpretation and can be years behind industry practice. Lawyers will always lean towards very conservative interpretation in spite of overwhelming evidence to the contrary. We suggest you balance your advice with the opinions of advisors and industry insiders that are far more likely to provide you will practical insight on the real boundaries of the various laws and regulations.
Like it or not, perpetual licenses are how most Chinese enterprises purchase software. While subscriptions are gaining some acceptance (driven largely by Microsoft) buying a perpetual license is the norm in China for a variety of reasons, including that most budgets are project based, e.g. “use it or lose it.” Also, a perpetual license is deemed as an asset that can be capitalized, and is also considered as a way to cut down on corruption. The larger the deal and company, the more likely that they will only purchase a companywide license and not base it by seat. That said, software providers may still be able to gain recurring revenue through support and services. We will generally recommend, whenever possible, that providers maintain an open mind around pricing models.
Generally speaking, the largest difference between software distributors in China and other markets is the comparatively extra workload that Chinese resellers put on Western software companies. This is especially true for software that is not already a well-known solution in its space. While Chinese partners will often seem excited when approached, in our experience they will not commit to your products or services immediately to the level that your company is hoping for.
When Western brands do put this expectation on their software distributors in China, it often leads to significant problems. Simply put, Chinese resellers have different motivations and are not equipped to take the lead on running your channels, even if they say they will.
For example, through one of our clients, we’ve had the opportunity to work with one of the top software distributors in China in a specific vertical. The reseller is the company’s top channel in China, with over US$10 million in annual revenue, has a dedicated sales team with nearly 200 technical support staff, provides China certification, creates localized training and does monthly marketing events. When we asked the software vendor about their opinion on this partner, they answered, “they are better than most and very strong technically, but like all of our vendors in China, they don’t do much to sell or close deals and still heavily rely on us to bring them leads.”
Most partners will not agree to any meaningful business plan or minimum requirements in the early stages of a partnership. Software providers should not view signed agreements at this stage as binding, as partners very often will not. Mostly, partners see agreements in the beginning as a way to appease Western companies in order to get the partnership started. Their willingness to materially invest, however, is dependent on how the first 3 to 6 months progress. During this time, resellers will expend some resources to find qualified opportunities, but they are still taking a wait-and-see approach towards the viability of the partnership.
In these early stages, partners prefer the process of going after projects to be a collective activity with the software provider. Generally, they will start by conservatively reaching out to a select group of internal business development team members that will have discussions with their internal sales teams. Often, they will be reluctant to let providers speak directly to their sales teams – or bring you to customers – until they are familiar with your team personally, understand your products, and have confirmed the value proposition with their sales teams. As trust develops, they will start bringing you more deeply into the process, including joint sales calls with select customers.
In order to operate independently, resellers require that providers deliver detailed FAQs, case studies, technical documents and other collateral that can stand on their own and answer questions clearly and directly. In China, given the communications challenges and the number of people that can be involved in the evaluation and decision-making process, if it is not written down then it might as well not exist – too much is missed in conference calls and face to face meetings.
The sales process will typically be longer than in the West and will start at a more basic level. Once your team is involved in sales calls, expect to have to repeat basic information every time (e.g. provide the “big picture”), as there will almost certainly be new people brought into the conversation on the customer side.
Technical teams are usually only in meetings in order to receive answers to questions that their executives have asked them. It’s important to note that their evaluation process is often based on technology from previous projects. What this means, is that unless you have a local resource that can work with them on a new testing methodology, your key advantages may not come to light as their testing is based on criteria developed for another software.
Training – for both resellers and end users – is key. Software distributors in China expect providers to supply not only an extensive and localized knowledgebase, but also be available to offer hands-on support for complex issues. Many Western providers assume that Chinese end-users will “just get” the basics of their products. However, in practice, Chinese users have varying levels of experience and education, and fundamental differences in accepted UI/UX practices between Western and Chinese software mean that understanding and usability should not be taken for granted.