INTERNET: Tencent, Alibaba Take Bite Out of Scandal-Hit Baidu

Bottom line: Alibaba is the biggest beneficiary of business lost by Baidu after a scandal earlier this year, with search rivals Qihoo and Sogou also likely to pick up new business.

Baidu loses digital ad crown to Alibaba
Baidu loses digital ad crown to Alibaba

A couple of news items are showing how Baidu’s (Nasdaq: BIDU) core search business is coming under assault from several directions, in an ominous sign for the company’s main revenue source. The first item shows that Baidu has officially lost its crown as China’s top digital adverting platform to e-commerce titan Alibaba (NYSE: BABA), following a scandal earlier this year that wiped out up to a fifth of its revenue. In the other item, reports are saying that China’s other Internet titan Tencent (HKEx: 700) has boosted its stake in Sogou, one of Baidu’s main search rivals, to 45 percent.

Both items nicely spotlight how dependent Baidu is on search business for most of its revenue, despite numerous high-profile attempts to diversify. Somewhat ironically, Baidu has finally managed to find success in a number of new areas such as group buying and online video in recent years. But that success has come mostly in its top line revenue, and nearly all of its new businesses are posting big losses as Baidu spends heavily to gain market share.

That makes Baidu’s core search business even more important to its profitability over the short- to medium-term, meaning it can hardly afford a big drop in that area. But following a scandal involving misrepresentation in its search results earlier this year, Baidu was forced to change many of its practices and as a result said its revenue would decline by 15-20 percent. (previous post)

That drop was the most likely factor that led market research firm eMarketer to revise its forecasts for China’s digital advertising market this year, a move that pushed Alibaba past Baidu to take the top position. (press release) According to eMarketer, Alibaba is expected to take about 29 percent of China’s digital display ad market this year, equating to about $12 billion.

At the same time, eMarketer downgraded its outlook for Baidu, forecasting it would take just 21.3 percent of the market after the scandal. That move would mark a reversal from 2015, when Baidu led with 28 percent of the market to Alibaba’s 24.8 percent. Tencent was a distant third both years, taking 7.8 percent in 2015 and forecast for 9.9 percent this year.

Tencent Boosts Search Stake

That makes a nice transition to the second news item, which has media citing a recent stock market filing from web portal Sohu (Nasdaq: SOHU) saying that its Sogou search engine is now 45 percent owned by Tencent. (Chinese article) Tencent first bought 36.5 percent of Sogou in 2013, when it merged its own search service with the larger rival controlled by Sohu. It later boosted that to 40 percent.

Its 45 percent stake means that Tencent is now the largest single stakeholder in Sogou, eclipsing Sohu’s own 38 percent. But significantly, Sohu still retains a controlling stake of voting shares in the search engine, meaning it is still firmly in charge of the company’s management and strategic direction.

Despite more than a decade in the market, Sogou hasn’t managed to take much share from Baidu, at least not before the scandal. Data from market research firm iResearch show that Baidu still controlled a dominant 80 percent of China’s search market based on advertising revenues last year, followed by Google (9.2 percent), Qihoo (4.9 percent) and finally Sogou at just 4 percent.

But of course all that could change after this year’s scandal, which forced Baidu to be more transparent about advertisers in its search results and also to limit the amount of advertising on each page. The company’s lost search revenue as a result of those changes is clearly flowing to other rivals, with Alibaba the biggest winner and perhaps search rivals like Qihoo and Sogou also benefiting.

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