Asia Weekly

Update on the Asian Technology Sector

Week Ended: June 26, 2009

During the past few years, Asia has seen phenomenal growth in the technology segment, especially in the wireless telecommunications and Internet sectors. Just a decade ago, mobile phones were a novelty in most of Asia and only the wealthy could afford them. Today, mobile phones are considered a necessity, and one that is affordable throughout most of the region. In fact, Asia has become the largest market for wireless telecommunications in terms of total number of users.

Source: Credit Suisse, IDC, CIA World Factbook, World Bank

The Internet sector has seen strong growth as well. Only a few years ago, the Internet was a very new tool for many Chinese and only a handful of China-based Internet companies existed. However, now China has not only surpassed the U.S. in terms of having the largest number of Internet users in the world, but also is home to thousands of new Internet companies.

Asia’s Internet sector has not only shown the market potential of new technology but also the power of local entrepreneurship and what can be achieved in a free, unregulated market. One of the largest Internet companies in China today had a market cap of only one billion U.S. dollars just five years ago. Today, that company’s market cap is around US$20 billion and growing. While one may think that the Internet market has matured, the Internet penetration rate remains at only 22% in China, and only 11% of all Chinese households own a computer. Compared to the U.S., with Internet penetration and household computer ownership rates of 69% and 91%, respectively, China has considerable room for growth in the future. The success of the Internet sector is just a glimpse into what might be achieved across other industries in the Asian technology sector as wealthier Asian markets develop.

Looking more broadly at IT spending in the region, you’ll see that total IT spending for China and other Asian countries remains far lower than more developed regions such as Western Europe and the U.S. In 2007, IT spending was around 3.3% of total GDP in the U.S. and 3.1% in Western Europe. Comparatively, in China, IT spending was only 1.4% of GDP. Even in more developed South Korea, IT spending was only 1.7% of GDP. If we assume that Asia’s IT spending should approach that of the U.S. and Western Europe, the growth potential looks very compelling since even a 1% increase can bring substantial growth to the sector.

In the U.S., IT spending has helped drive increases in productivity over the past few years, while Asia has achieved its growth mainly through utilizing an abundant labor force. Even in markets like Japan and Korea, where productivity rates are the highest in the region, they are still less efficient than their U.S. counterparts.* Every year Japan and Korea are seeing their labor costs rising and could stand to benefit from increased investment in information technology.

Looking back at the development of the U.S. tech sector you’ll find that many of the prominent technology companies in the U.S. —Microsoft, IBM and Intel—emerged as global champions on the back of increasing IT spending in their home market. We believe that as the Asian market grows and becomes wealthier, more homebred technologies will emerge—led by local technology companies. An example of this trend can be found in China’s telecommunication equipment industry. As China’s wireless industry grew in size, the Chinese government realized that its domestic market was big enough to allow them to create their own standard for wireless technology without relying too heavily on imported technology. China launched its own 3G wireless technology called TD-SCDMA. The biggest beneficiaries of this home grown technology are local Chinese companies. We believe that as the Asian market continues to develop, more home grown technologies will emerge and replace imported ones.

The domestic market for IT products and services is still in the early stages in Asia, although Asian companies play a major role in hardware manufacturing globally. The Asian technology sector has been very volatile in the past and it is expected to remain so, as most technology industries are cyclical. Uncertainties in the regulatory environment and the competitive landscape remain, and are constantly evolving. However, we believe that the long term potential of the Asian technology sector looks promising.

Michael Oh
Portfolio Manager
Matthews International Capital Management, LLC

*Productivity as measured by GDP per hour worked as a % of the U.S. (U.S.=100), based on 2007 data. For example, Korea is 42.3% as productive and Japan is 71.2% as productive as the U.S. Source: OECD

Matthews Asia Funds hold no positions in Microsoft, IBM or Intel.