In its effort to break into the Chinese market, Skype seems to have plugged into some good connections. The Internet phone company didn't try to go it alone in the mainland, where regulators tightly control the Net, and the government has restricted foreign investment in the telecom industry. Instead, Skype in 2004 formed a joint venture with Tom Online, a Beijing-based provider of Internet services owned by Li Ka-shing, the Hong Kong billionaire who has done business successfully in China for years.
So far, though, Skype's connections have only partially paid off, as China hasn't exactly rolled out the welcome mat. While Net telephony has boomed in other parts of the world, in China companies such as Skype face special challenges. The biggest: The entrenched telecom operators such as China Telecom and China Netcom are mostly owned by the central government, giving regulators good political reasons to delay opening the market to newcomers that might undermine profits at the incumbents.
Sure, Skype has done fairly well with simple PC-to-PC calling and has won government permission for that. The company, owned by online auctioneer eBay (EBAY), has about 9 million registered users in China using its Voice over Internet Protocol (VoIP) service. But Skype doesn't make any money off of those calls, since it allows its users to call other members free of charge. Skype remains barred from offering the service on which it does make money -- calls from PCs to a phone or vice-versa.
CALL WAITING. That's not going to change in the near future. In a recent interview with the Financial Times, Tom Online Chief Executive Wang Leilei said that such permission isn't likely until 2008. One motivation is simple protectionism. Beijing wants the state-owned carriers to get their act together before they give the green light to broader services, analysts say. "The Chinese government is trying to gain more time for the telecom operators," says Elain Yi, a Beijing-based analyst with Norson Telecom Consulting. "So I think this news [about Skype] is not a surprise."
The latest numbers from China Telecom provided a reminder of what's at stake. The largest fixed-line operator in the country, China Telecom on Mar. 22 reported its full-year results for 2005, and they weren't good. Sales grew 5% to $21 billion, but profits failed to keep pace, dropping slightly to $3.5 billion. It was the first fall in China Telecom earnings in five years, and came after the company had to slash prices in the face of steep competition from other operators.
One reason for the slide is VoIP. The big telecom operators have permission to offer phone-to-phone VoIP calls, and that has given them room to cut their prices -- but it also hits their profits. China Netcom, for instance, reported a 15% drop in long-distance revenue in the first half of last year, says Fang Meiqin, an analyst with BDA China, a research firm in Beijing. And that's with the VoIP market still officially off-limits to many would-be competitors. "If the market opened, the long-distance revenues would drop even further," says Fang. "This would have a terrible impact on the [state-owned] operators."
SECRET CONVERSATIONS. Even so, VoIP is gradually building momentum in China. Despite the restrictions, some callers with high-speed Net service skip the PC and simply hook their phones into a broadband line to call each other. "They don't have licenses, but they do it secretly," says Fang, who estimates that there are more than 100 companies in China offering such black-market VoIP services.
Another point of concern for China is that VoIP calls from computers are hard to monitor. That's because with VoIP, sounds are chopped up into little chunks of data that get sent over the Internet and reassembled at the other end. Once they're traveling across the Net, these packets of phone-call data are hard to distinguish from e-mail, photos, or anything else.
"How do you tell the difference between someone doing online banking and having a phone conversation?" asks Andrew R. Coward, chief technology officer in the Asia-Pacific region for Juniper Networks. Regulators, he adds, "can make assumptions about the traffic based on the source and the destination, but it would be a very hard decision to block that traffic because you're not sure it is voice traffic."