Chinasoft stays hitched to Huawei as revenue, profit contract

The IT outsourcing company’s revenue fell 6.2% in the first half of the year, as it continued staff cuts dating back to last year

Key Takeaways:

• Chinasoft’s revenue and profit declined in the first half of 2024 as its customers reined in their spending amid China’s economic slowdown
• The IT outsourcing services provider’s all-in strategy with Huawei offers stability but also poses the risk of overreliance

By Hugh Chen

As China’s economy slows with no signs of a quick recovery, enterprises have reduced their IT spending, creating challenges for providers of related products and services.

That chill was sending shivers in the form of contracting revenue and profits in the latest financial report from Chinasoft International Ltd. (0354.HK), one of China’s largest and oldest IT outsourcing companies with a history dating back to the early 2000s. The company made headlines earlier this year when it revealed in its latest annual report that it slashed its headcount by over 12,000 in 2023.

The company’s interim report, released last week for the first half of 2024, indicates the challenges that necessitated the drastic cuts are continuing, leading to more workforce reductions. The report shows that Chinasoft’s employee count stood at 69,898 at the end of June. While that’s similar to the end of 2023, it represents a 4% decrease from the same period last year and a major 24% reduction from the company’s peak headcount at the end of 2021.

Founded in 2000, Chinasoft was among the earliest IT services firms to emerge during a transformative period in China’s technological landscape. The company’s establishment coincided with a time when Chinese businesses were just beginning to widely adopt such technologies as the economy expanded rapidly and manufacturers and other companies were looking to improve their efficiency.

Chinasoft experienced its own rapid growth by providing a range of outsourced IT services, including software development, systems integration and IT consulting. The growth has been supported by government policies aimed at developing a domestic IT ecosystem, partly motivated by concerns about overreliance on Western technology and associated national security risks.

Chinasoft listed on the Hong Kong Stock Exchange in 2003 and proceeded to wow investors with double-digit revenue growth for many years afterwards. But the momentum finally stalled and went into reverse last year, when its revenue declined by 14.4%. The downturn owed to a couple of factors, including slowing IT spending from businesses and lingering fallout from the pandemic.

Chinasoft’s latest earnings show its challenges continued into the first half of the year, as the country’s slowing economy overtook lingering pandemic fallout as the major challenge for many businesses. Its revenue declined by 6.2% to 7.9 billion yuan ($1.1 billion) during the six-month period, while its profit fell 18.6% to 286 million yuan year-on-year.

All-in on Huawei

In many ways, Chinasoft’s fate has become closely tied with the fate of Huawei, one of China’s oldest tech giants that is currently trying to rebound from the effects of U.S. sanctions against the company. Chinasoft’s “all-in” strategy with Huawei was made crystal clear in its 2023 annual report, where the chairman’s letter said the company was “binding itself to Huawei’s grand pace-setting role in the industrial transformation process.”

At a company event late last year, Chairman Chen Yuhong reinforced that stance, saying, “We will resolutely follow Huawei, with unwavering focus.” He emphasized the need to answer the question, “Where will we be when Huawei reaches 1 trillion (yuan) in revenue?”

The company’s bet on Huawei intensified around 2019, just as the tech giant was shifting focus to its home market after U.S. sanctions forced its retreat from the global stage. The sanctions threw a major spanner into Huawei’s hardware business by restricting its access to advanced microchips, leading it to increasingly pivot to software and other services.

Under their partnership, Chinasoft provides Huawei with IT outsourcing services to support the tech giant’s various businesses, including software development, cloud computing and server operations. A notable area of collaboration is Huawei’s cloud business. Chinasoft now provides Huawei’s cloud customers with various cloud-based software services like ERP, helping Huawei to expand beyond its traditional role of simply providing cloud infrastructure services.

Chinasoft’s deep cooperation with Huawei is stabilizing its business and serving as an anchor for its operations. While Chinasoft has never disclosed how much of its revenue comes from the Huawei relationship, a Citic Securities report estimated the tech giant accounted for over half of Chinasoft’s revenue in 2020. More recent data isn’t available, but the proportion is unlikely to have decreased significantly, and may even be higher.

The company’s bet on Huawei looks like a wise move in hindsight. Huawei’s pivot to software has been quite successful, helping the company to rebound from U.S. sanctions. Huawei’s cloud unit is a case in point, rapidly gaining market share in China’s highly competitive market. According to IDC, it was China’s second-largest cloud services provider with 13.5% of the market in the second half of 2023, more than double its 5.2% share in the first quarter of 2019.

Huawei’s ascendance has been particularly impressive in the face of China’s broader IT spending slowdown. Chinasoft’s decision to tie its fate closely to Huawei also gives it an opening to participate in China’s efforts to replace foreign technology with homegrown alternatives. This aligns with the government’s push to create its own technology ecosystems, where Huawei has emerged as a key player.

However, there are also obvious risks in hitching your wagon so tightly to one company. For starters, Chinasoft is just one of several partners collaborating with Huawei. The company’s other partners include iSoftstone (301236.SZ) and Career International, just to name a few. Tying itself so closely to Huawei means that Chinasoft’s fortunes violates a basic rule of “Business 101” warning against overreliance on a single client.

Investors seem to understand that risk and aren’t too excited about it. Chinasoft’s current stock price stands at just HK$3.50, a fraction of its peak of HK$16 reached in August 2021.

That price gives the company a relatively low price-to-sales (P/S) ratio of 0.53, far behind the 1.86 for Ming Yuan Cloud (0909.HK) and 3.14 for Kingdee International (0268.HK), both sellers of cloud-based software. In addition to concerns about its overreliance on a single client, Chinasoft’s low valuation may also reflect investor preference for companies with their own proprietary products and services over names like Chinasoft that simply provide pure IT outsourcing services.

Seeking to address that gap, Chinasoft has said it intends to ramp up the rollout of more proprietary products and services going forward. But that strategy has yet to bear significant fruit despite being announced some time ago. IT outsourcing still accounted for 80% of its total revenue in the first half of this year, according to its latest report.

Despite the risks, Chinasoft’s strategy of closely aligning with Huawei may still attract some investors, as it positions the company to potentially benefit from China’s efforts to achieve technological self-reliance and comes as Huawei experiences its own renaissance. However, Chinasoft will need to carefully balance this partnership with concurrent diversification efforts to ensure its own sustainability and growth over the longer term.

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