GIM 2007 -
POSTED ON: 01 Apr 2007
RESEARCHERS: Vivian Cheung, Melinda Chung, Chris Clark, Dong Li, and Erin Lin
One billion people.
One tiny text box.
Just as merchants viewed the port of Shanghai as a gateway to China’s enormous market potential in the nineteenth century, online firms see search engines as a clear entrée to a rapidly growing digital population, with emerging economies like China holding the greatest opportunity. So it is no surprise that competition among online search firms to dominate the Chinese market is only getting hotter.
To examine this dynamic picture more closely, several areas are considered here: the background of search engines and online search in China; the history of major players Yahoo!, Google, and Baidu, along with their strategies in several domains; trends in this space, and their implications for approaching the Chinese search market.
Search Engines and Online Search in China
Search engines are web-based tools that use software-based “spiders” to search keywords online and index relevant web pages, with advanced technologies seeking to understand the keywords’ context. Search engines’ general goal, of course, is to provide the matches most relevant to a user’s query.
Google and Yahoo! dominate the U.S. search market, enhancing their capabilities regularly (e.g., recent MP3, video, blog, and natural language forms of search). Search firms generate revenues through advertising, with advertisers paying to be featured as sponsored links (usually on a cost-per-click basis). Thus their success depends on offering high value propositions to both consumers and advertisers.
China’s Internet population grew 20 percent to 137 million users in 2006, and is expected to overtake the United States in about three years. The majority of Internet users are in Beijing, Shanghai, and Guangzhou. Though dominant in the United States, Yahoo! and Google have struggled in China, facing challenges understanding Chinese users/advertisers, competing with local rivals (e.g., Baidu), and navigating regulations.
In 1999 Yahoo! partnered with 3721.com, China’s first search engine, and soon after invested $1 billion in alibaba.com, turning over its Chinese operations to alibaba, an unprecedented move. But ongoing management culture clashes have contributed to Yahoo!’s owning only 5 percent of the search market. Google began in 2004 in China with an investment in local player Baidu. “Google underestimated China,” said Baidu’s Chief Scientist. Perhaps Google agreed, attempting to launch independent operations there a year later. Though Google offered a more localized search engine (www.google.cn), brand confusion and regulation issues, along with the rise of Baidu, led to a share drop from 33 percent to 21 percent over 2006. Baidu, founded by Robin Li in 1999, has used its Chinese language search to capture 62 percent of China’s market.
Long-term success for these players in China will depend on five factors: building a wide user base; developing ecosystem partners; attracting advertisers; understanding government regulations; sustaining a talented, innovation-focused management team including strong local capabilities.
Who are China’s Searchers?
To succeed, search engines must understand Chinese end-users, especially how they differ from U.S. users. For example, Chinese users are younger, with 72 percent under thirty. They are also more entertainment-focused; 31 percent mentioned music as one of their primary search goals. Baidu’s strong mp3 search channel addresses this need, helping it capture 85 percent of music searches. Chinese users also prize online communities and user-generated content, based in part on the culture’s focus on close relationships. “Baidu’s social networking products have even more traffic than its search engine,” according to a Baidu executive. Beyond Baidu, Tencent, owner of QQ—China’s most popular instant messenger (150 million users)—may be able to attract much of the market to SOSO, its search engine.
Chinese users, for whom the Internet is still relatively new, have few pre-set expectations for search engines, representing an opportunity to set new rules and a challenge to avoid imposing Western standards. For example, Chinese users may be more amenable to being offered paid search results (as Baidu does) and less concerned with censorship than Western users. In general, they are willing to try new offerings, and seek diverse product mixes.
Age and profession tend to influence Chinese users’ search engine preferences: 49 percent of Google users work in enterprises; 48 percent of Baidu users are students. “We are trying to change Google’s user interface [to be more dynamic] to attract the young people,” says a Google employee. But converting those already accustomed to a rival search engine remains a major challenge: “You start with a search engine, you get used to it,” says a Guanghua MBA student.
Several recent high-profile partnerships across industries (e.g., Best Buy and Five Star Appliances) have illuminated the value of a collaborative approach to China, which extends to search engines. Chinese companies possess tremendous local knowledge and recognized brands that could benefit their Western peers. A former Yahoo! China employee even suggests that foreign search engines should seek 50 percent domestic-owned partnerships to overcome China’s challenges. For example, China’s government is more sympathetic to such alliances, and its legal system is much easier to navigate with a local partner.
Yet partnerships generate their own share of challenges, as well. These include undercutting by Chinese partners (e.g., Yahoo! sued partner 3721.com’s founder for stealing trade secrets and poaching employees), difficulties integrating firms due to cultural differences, and the costs of negotiating profit-sharing.
Yahoo! has been the most aggressive with partnerships and acquisitions, whereas Google has opted to approach China without local allies. The Yahoo-alibaba partnership demonstrates the value of complementary offerings: alibaba has provided Yahoo! with an ecommerce channel through its alibaba marketplaces, drawing a larger user base and more traffic.
In the United States, 99 percent of Google’s revenues come from advertising, illustrating the importance of attracting advertisers seeking to place either display ads (e.g., banners) or sponsored links (known as “paid search”). Search engines focus mostly on the latter.
Online advertising represents only 2.3 percent of total ad spending in China, but has been growing at over 75 percent annually. In second quarter 2006, Baidu had a 50 percent share of sponsored-links revenues; Google and Yahoo/alibaba had approximately 16 percent each. These numbers are disproportionate to shares of users, where Baidu, Google, and Yahoo! hold 62 percent, 20 percent, and 4 percent, respectively. China’s paid search market is highly fragmented, containing mostly small and medium-sized enterprises (SMEs), many of which don’t even have websites and thus require more handholding.
Partly for this reason, SME-advertiser acquisition in China requires a larger salesforce, in contrast to the self-serve model dominant in the United States. Search engines have used both direct (i.e., employed by the firm) and channel (contracted) salesforces in China, with the latter typically targeting locations outside the major cities. Baidu has successfully used discounts and incentives to motivate channel salespeople (who do not represent a given engine exclusively), while Google has struggled to combat fraudulent resellers claiming to be Google-certified. Yahoo! purchased 3721.com largely for its three hundred-agent channel salesforce. But channel sales tend to present poor quality control; 26 percent of Chinese advertisers were concerned about misleading practices with these distributors.
Another challenge is advertiser payments. Google requires that SMEs use international credit cards, which are hard to obtain, or work with one of 20 Google partner agencies that can handle non-credit transactions (for a 20 percent fee). Baidu uses its knowledge of the local market to avoid these stipulations for advertisers, but has recently had to increase the deposit required from SMEs, slowing its ad revenue growth, especially from smaller firms.
And not all advertiser clicks are created equal. Already a thorn in the side of Google U.S., “click fraud” refers to deliberate clicks on paid ads to force target companies (those whose ads are clicked on) to pay more. Survey respondents estimated that 34 percent of Baidu clicks, and 27 percent and 24 percent of Yahoo! and Google clicks, respectively, in China were fraudulent or invalid, leading to advertiser dissatisfaction and churn. The higher rate for Baidu may result from its policy of including paid search ads within natural search results, which may confuse users and lead to unintentional clicks.
A search firm’s overall success with advertisers depends on the strength of its salesforce, distributors, and agencies. Improving performance in one or more of those areas (e.g., Google’s gaining the ability to accept local payment) should improve advertising revenues.
Governmental and Legal Gatekeeping
The Chinese government imposes censorship rules on all search engines operating in China. Among the over eighteen thousand sites reported to be blocked: websites of outlawed groups (e.g., Falun Gong); news sources, including the BBC, that may cover taboo topics (e.g., Tiananmen Square); Taiwan government sites; sites containing obscenity and pornography; Dalai-Lama-linked sites. Imperfect filters also block non-threatening sites; for example, Google in China blocks date.com, an online dating service. Western businesses must balance the development of censorship-friendly products with the potential backlash from human rights groups such as Amnesty International. In early 2007, the major search engines asked the U.S. government to define rules for complying with censorship demands.
Beyond censorship, search firms in China must deal with increased litigation around intellectual property protection. For instance, Baidu and Yahoo! China were named as complicit in guilt (for linking to unauthorized free music download sites) in lawsuits brought by EMI, Sony BMG, and several others representing fourteen hundred recording artists. Despite an initial Beijing court ruling for Baidu, continued criticism and litigation may lead to significant modification of mp3 search options on all engines.
The War for Talent
All three major search engines experience major staff turnover, especially at the engineer and senior management levels. Google, which can offer better compensation, has had better luck recruiting recent college graduates than Baidu, which may lead to a shortage of managers for the latter in the near future. Yet Baidu, the most local firm, has generally strong local product management teams, which are crucial assets. Google and Yahoo! are increasingly recruiting local talent, but all three players must continually foster innovative thinking among all teams.
The firms also strive to strike a balance between local talent and U.S. teams. Google, for example, transferred a whole Chinese team from its Mountain View headquarters to set up the China practice, which ensured a higher level of compatibility between the new office and U.S. operations, but may make it more challenging to improve local capabilities. Nationalism also plays a role in recruiting. Baidu promotes itself as “Search by Chinese for Chinese.” One interviewee suggested, “People go to Google because they want to go to the United States. People go to Baidu to benefit China.”
To make ongoing progress in the battle for search engine dominance in China, all players must attend carefully to the issues covered here: developing an installed base of loyal users; reaching advertisers with attractive terms and a robust salesforce; establishing strategic partnerships; managing regulatory/legal issues and the war for talent.
Early leader Baidu must continue fostering product innovation and partnerships, Google should build stronger local capabilities, and Yahoo! must sort out management issues and develop a clear identity as part of alibaba.com. All three will also do well by addressing some or all of the following trend-related tasks: capturing more Internet users from emerging cities and/or school-age segments; incorporating search with other services; developing more offerings for mobile users. Playing thoughtfully in these areas as part of an overall plan to please Chinese users, partners, advertisers, and the government, will help search engines drive more of China’s one billion people to their one tiny text box.