China's Silicon Valley

Creative destruction at work in Beijing. I was in Z-Park (short for Zhongguancun Science Park) briefly a few years ago, but didn't have time to look around in any systematic way.

Businessweek: ... Z-Park, China's homegrown Silicon Valley, is the jewel in his innovation crown. The biggest and oldest of the 53 national high-tech zones in China, Z-Park has become an important port of call for global corporations looking both to develop R&D for all sectors and to get a foothold in the Chinese market. For China watchers, it also serves as a window into how the evolving giant interacts with global market and social forces—and how it is turning to private resources to build its vaunted innovation economy.

Z-Park is made up of a group of seven parks, covering an area of about 100 square kilometers at the northwest edge of Beijing, close to the city's internationally esteemed educational institutions such as Tsinghua University, the University of Beijing, and the Chinese Academy of Science (CAS). It was founded in 1980, when Chen Chuxian, a researcher at CAS, returned from a trip to Silicon Valley. He opened the Advanced Technology Service Assn., the first privately funded, civilian-run, scientific and technological consulting firm in China. Soon after, other scientists came to the district, attracted by the support afforded by both CAS and the central government. A virtuous circle began, with new ventures spinning off from Chinese universities. Foreign companies also set up shop.

... by 1996, global corporations such as IBM (IBM), Sun (SUNW), Nokia (NOK), and Microsoft (MSFT) had all established R&D centers there. Non-tech companies such as P&G were also lured, while homegrown (often university-grown) companies such as Lenovo (originally known as Legend), Founder, and UFSoft all had their start in Z-Park.

Today, some 18,000 companies operate in Z-Park, including more than 1,500 foreign firms. In 2006, Z-Park generated $85.75 billion in revenues and $12.6 billion in exports. From January to November of last year, the IT industry within Z-Park generated $45 billion in revenues, including $5.8 billion in technology income, $16.8 billion from new products sales, and $7.29 billion in exports.

Companies such as Vimicro (VIMC) and ARCA are making real strides in mobile technology and integrated chip design. Vimicro's intellectual property, for instance, entered the world market in 2003, when the company's Starlight 4 mobile-phone color message processing chip was adopted by Sprint. While these signs are rarely visible to the world at large, partly because many of the R&D centers' efforts are focused on designing products for the domestic market, the result is there are currently 73 Z-Park companies listed on the Shenzhen, Shanghai, Hong Kong, and NASDAQ stock exchanges.

Former Expats Are Today's Recruits

Z-Park has aggressive growth plans. Its representatives are constantly visiting high-tech areas such as Silicon Valley and Research Triangle Park in North Carolina in an effort to poach companies, experts, and investors. Offering benefits such as reasonable rent, travel perks, high wages, and easier startup conditions, they have lured tens of thousands of Chinese expats away from foreign high-tech centers.

Jennifer Pan, for instance, graduated in computer science from the University of Beijing, obtained her EMBA, and worked in Houston with Compaq and BMC Software (BMC) for eight years before returning to China to work with Z-Park. In 2005, she founded ChinaSense, a company that provides business services to faculties and students of foreign universities. Pan saw China as a better place to pursue her "American dream" and Z-Park as the gateway to success. As she puts it, "There are many issues in China, but there is also an innovation imperative here. China is like a first-time parent with a teenager that is full of energy, eager to learn, and full of hope. It is doing the best it can, while the U.S. is not. It is an exciting place to be."

In nurturing Z-Park, the government has played a key role in designing an environment in which high-tech ventures and high-growth enterprises can flourish (or die). Entry is regulated, driven by a set of conditions stipulating that 50% of revenues must be from high-tech projects, while R&D expenditure cannot be less than 3% of total revenue. In addition, at least 20% of employees must have a college degree.

A Laboratory for Policy

With its focus on high-growth software and integrated circuit design companies, Z-Park provides appealing financing arrangements through cooperation with commercial Chinese lending institutions. Small and midsize companies such as Analogix, a venture capital-funded Silicon Valley semiconductor company, arrived in 2006, attracted by financial sources such as the Z-Park Development Fund or the Beifang Microelectronic Industry Development Fund.

Tax incentives for those companies headquartered in the park have also been highly effective: The income tax rate is 15% for foreign-funded high-tech enterprises (10% if the export output exceeds 40% of the gross output). "High-tech" enterprises are exempt for the first three years, and the rate is reduced by 50% for the following three years.

A set of very open regulations—translated by law firm Perkins Coie as "Anything not prohibited is allowed"—allow for a fuzzy definition of the business scope of an enterprise within Z-Park, and these encourage startup and emerging venture capital, in contrast with general business regulations in China, which are markedly more prohibitive.

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Plan is "Not a Reality Yet"

The park and its ilk are part of a systematic national effort to bring an educated, creative workforce to China, while waiting for the new generation of creative thinkers to come of age. It's a tough balancing act, and as professor Henry Rowen, co-director of the Stanford Project on Regions of Innovation and Entrepreneurship, and co-author of Making IT: The Rise of Asia in High Tech, points out, "The nation's self-reliance plan is not a reality yet." According to him, despite the impressive figures, "several thousands of Z-Park's companies are not real," meaning that it includes many micro- and small-business enterprises with doubtful futures.

He's not wrong: A small or medium enterprise crashes and burns within Z-Park every nine minutes. He also points out that "all technologies have come from the outside." But Rowen also argues that the government is moving in the right direction, toward a role of indirect support, and that there are signs of innovation in R&D, business models, and services. The U.S. and other nations, he believes, will face new opportunities for collaboration—as well as significant challenges in competing with the rise of an innovative China.

For its part, China remains focused on building an innovation infrastructure to encourage the development of formidable companies like global telecommunications giant Huawei, which generated $8.5 billion in sales in 2006 with a 10% spend on R&D. As Jan Gronski, general manager of Cisco's (CSCO) China R&D Center, puts it, Huawei "did not get there just by copying." Others would be ill-advised to underestimate his assessment.