Baidu Valuation at IPO free essay sample

Since its official launch in January 2000, Baidu. com, Inc. (Baidu) quickly grew to become the leading Internet search engine in China. After three rounds of private funding, Baidu registered to go public on the NASDAQ Stock Market (Ticker Symbol: BIDU) on August 5, 2005. (See Exhibits 1 and 2 for a listing of Baidu’s private funding sources and pre-IPO share allocations. ) The initial public offering (IPO) turned out to be one of the highest-profile debuts since the Internet bubble burst in 2000. The stock price jumped 354 percent on the first day of trading and closed at $122. 54, valuing the company at about $3. 96 billion based on 32. 3 million shares outstanding. While the market showed strong enthusiasm for the stock, Baidu’s public offering nevertheless generated much debate in the investment community about the underlying value of the firm. Furthermore, concerns were raised about whether or not Baidu was able to sustain its growth rate and exceed investor expectations after the IPO. Factors leading to this uncertainty included: the state of the Internet-paid search market in China, the expected growth in the marketplace, the competitive landscape, and the strength of Baidu’s business model and strategic position. BACKGROUND ON CHINA’S ADVERTISING AND ONLINE ADVERTISING MARKETS Advertising Market From 1995 to 2005 China’s advertising market grew at a compounded annual growth rate (CAGR) of 17 percent, which was substantially higher than China’s nominal annual GDP growth rate of 11 percent over the same period. China’s strong economic growth had resulted in increased demand for products and services, both in business and consumer product categories. In 2005, the total advertising spend in China was approximately $10 billion, equivalent to 6 percent of the U. S. market. Though still a small market compared to the U. S. , China’s Jennie Tung and Sara Gaviser Leslie prepared this case under the supervision of Professors Joseph Piotroski and George Foster of Stanford University, Ning Jia of Tsinghua University, and Martin Haemmig of CeTIM as the basis for class discussion rather than to illustrate either effective or ineffective handling of an administrative situation. Copyright  © 2009 by the Board of Trustees of the Leland Stanford Junior University. All rights reserved. To order copies or request permission to reproduce materials, e-mail the Case Writing Office at: [emailprotected] stanford. edu or write: Case Writing Office, Stanford Graduate School of Business, 518 Memorial Way, Stanford University, Stanford, CA 94305-5015. No part of this publication may be reproduced, stored in a retrieval system, used in a spreadsheet, or transmitted in any form or by any means –– electronic, mechanical, photocopying, recording, or otherwise –– without the permission of the Stanford Graduate School of Business. Baidu. com, Inc. : Valuation at IPO A-197 p. 2 advertising market was estimated to reach $12 billion in 2006 and $17 billion in 2008. 1 (See Exhibit 3 for size of China’s advertising market. ) During the period of 2001 to 2005, the total amount spent on traditional media, such as television, radio and magazines, remained relatively flat as a percentage of total advertising spend, while newspaper advertising lost share and was expected to continue to decline. In contrast, online advertising was the fastest-growing segment in the advertising market, contributing to less than 1 percent of total advertising spend in 2001, but reaching an estimated 5 percent in 2005. 2 Online Advertising Market By 2005, China’s online advertising market was still in a nascent stage, but poised for rapid growth in the next 10 to 15 years. China’s online advertising market was estimated at $423 million in 2005—a 48 percent increase from 2004, but still only 3. 4 percent of the U. S. ’s online advertising market in the same year. 3 Growth of the online advertising market was driven by several factors: an increasing number of Internet users, a growing advertising spend, and generally favorable macroeconomic trends in China as the population became increasingly wealthy. (See Exhibit 4 for size of China’s online advertising market. ) Internet Users According to Internet research firm iResearch, the number of Internet users in China was projected to grow from 115 million in 2005, to 187 million in 2007, a CAGR of 27. 5 percent. 4 The long-run Internet user growth was projected to be 8 percent CAGR between 2005 and 2015. In terms of user profiles, China’s Internet users were generally young (81. 3 percent were under 35) and educated (greater than 54. 5 percent had a tertiary education). 5 (See Exhibit 5 for China’s Internet user profiles. ) These demographic profiles resulted in a very attractive consumer group that also tended to have significant spending power. Combined with the advantages of this attractive consumer group was the increasing popularity of online search in China. By 2005, online search had gained significant traction among Chinese Internet users. According to Internet research firm comScore, only 64 percent of Chinese Internet users used online search engines in 2002; by 2005 that number had jumped to 87 percent, which was roughly in line with the trend in the U. S. Internet Paid Search Market Overview Market Size China’s Internet-paid search market, a sub-segment of online advertising, was estimated at $127 million in 2005, representing an 84 percent growth rate from 2004. This market, however, was equivalent to only 1. 8 percent the size of the U. S. paid search market in 2005. In addition, the 1 Lilian Zhou et al. , â€Å"Baidu. com, Enter the Dragon,† Bear Stearns Equity Research – Consumer Internet, January 29, 2007, pp. 62-63. 2 Ibid. 3 Wallace Cheung et al. , â€Å"Baidu, in Search of Excellence,† Credit Suisse First Boston Equity Research – Consumer Internet, September 22, 2005, pp. 8-9. 4 Baidu. com Inc. , â€Å"Form F-1,† August 03, 2005, pp. 1-3. 5 China Internet Network Information Center, â€Å"Statistical Survey Report on the Internet Development in China,† CNNIC, July 2006 (originally quoted in Wallace Cheung et al. ). Baidu. com, Inc. : Valuation at IPO A-197 p. 3 paid search market in China only accounted for 25 percent of total online advertising spend in 2005, while that number was 43 percent for the U. S. in the same year. The paid search market in China was projected to grow at a CAGR of 28 percent from 2005 to 2015. 6 (See Exhibit 4 for size of paid search market vis-a-vis total online advertising market, and Exhibit 6 for comparison of China vis-a-vis U. S. online advertising market. ) Internet-Paid Search Revenue Model Internet-paid search allowed businesses that wanted to advertise online to pay for the placement of Web links in keyword search results. When an Internet user entered keywords in the search engine search box, the search engine returned a list of potentially relevant Web links. Businesses that wanted to appear at the top of the list could pay search engines to place their Web links in premium positions, with the hope that users would then click through to their Website. Internet search engines, such as Google and Baidu, generated revenue by charging advertisers a fee for placement of Web links in keyword search results. There were two types of revenue models: a flat, or fixed-fee model, and a pay-for-performance (P4P) model. A P4P fee was based on price per click (PPC), click-through rates (CTR), and search traffic. The pricing formula was given by P4P fee = PPC x CTR x search traffic. In the P4P model, the ranking of an advertiser’s web link was determined by its PPC, which was either a fixed price or a price determined through an auction system. During auction bidding, advertisers competed for a search-results ranking through keyword price bidding. In China, by 2005, the paid search revenue model for most search engines had migrated to the auction-based P4P revenue model, as this model gave advertisers and search engines greater transparency on return on advertising spend (ROAS). Baidu’s business was primarily based on the auction bidding P4P advertising model. Characteristics of China’s Paid Search Market As a developing online advertising market, China’s Internet-paid search market had two distinctive characteristics: small and medium-sized enterprises (SMEs) as the key advertiser base, and the use of distributors as middlemen. Figure 1: China’s Paid Search Market Structure Advertisers (Customers of Search Engines) Distributors (National, Regional, and Local) Search Engines Internet Users Only large enterprises or multinational corporations generally dealt directly with search engines Source: Compiled by authors using CSFB Research Report, Baidu, in Search of Excellence, September 22, 2005. 6 Cheung, op. cit. , pp. 10-13. Baidu. com, Inc. : Valuation at IPO A-197 p. 4 SMEs as Key Advertiser/Customer Base China’s SMEs were a key customer group for search engines. With limited advertising budgets, SMEs were able to use search advertising as a way to maximize their market exposure. Before paid search services existed, SMEs advertised in traditional media, such as telephone directories or newspapers. However, traditional media did not always reach the targeted customer groups. In contrast, paid search services enabled SMEs to obtain a better return on advertising spend by connecting them to their targeted customer groups. According to iResearch, approximately 410,000 SMEs in China used paid search advertising services in 2004, equivalent to a 1. 8 percent penetration of the SME market. The SME penetration rate of paid search was projected to reach 2. 7 percent in 2005. (See Exhibit 7 for paid search usage and average annual spend per customer. ) Paid Search Primarily for Advertising As of 2005, China’s Internet paid search market was primarily for advertising and was not related to e-commerce. Despite a growing Internet user base, the slow development of banking and credit card systems in China hindered the growth of China’s e-commerce market. As such, most advertisers invested in paid search to drive users to access their corporate information. Internet users would then contact the advertiser by phone rather than e-mail or e-commerce. As e-commerce became more widely adopted in China, advertising links on search engines were projected to provide more concrete e-commerce revenue to advertisers. Distributors as Middlemen A unique aspect of China’s paid search market was the use of distributors to sell advertising. Distributors were critical in educating Chinese businesses, in particular SMEs, about the efficacy of paid search advertising. According to iResearch, there were 20 million SMEs in China as of 2005. In top-tier cities, only 50 percent of SMEs had websites, and this number was much lower in developing cities. Given the large number of SMEs and the dispersion of these businesses across China, search engines had to rely on local distributors to serve potential customers. There were several types of distributors in China: national distributors, covering the entire country; regional distributors, covering a province or a collection of nearby cities and towns; and local distributors, covering a single city or small towns. In general, distributors performed several roles in the online advertising market in China: †¢ †¢ Brand building—distributors often employed a sales force that would either call or visit SMEs in the local area to build brand awareness of the search engine. Customer education—distributors had to educate customers about the benefits of using search engines, including online advertising concepts, such as lower cost per thousand impressions (CPM), high transparency of website traffic, and improved revenue after paid search services. Sales and marketing—distributors provided advisory services and proposals to potential customers. The proposals often included a portfolio of keywords for the specific business and the bidding strategy for each keyword. Payment channel—distributors acted as payment collection agents for search engines. In general, search engines required customers to maintain a minimum deposit in order to participate in bidding. †¢ †¢ Baidu. com, Inc. : Valuation at IPO A-197 p. 5 †¢ †¢ Ongoing customer services—distributors provided all aspects of customer service, including website development and the hosting of websites. Risk reduction—in some cases, distributors filtered censored content, for example, politically sensitive keywords. Distributors also played a role in ensuring that the SMEs were not selling illegal products and services. BAIDU STRATEGY AND BUSINESS MODEL According to research firm Alexa. com, Baidu was the top search engine in China by traffic, the largest portal in China, and ranked fifth globally in 2005. As the top search engine, Baidu provided one of the largest Chinese-language search indices with over 740 million web pages, 80 million images, and 10 million multimedia files. 7 In addition to being a leading search engine, Baidu was the first China domestic portal to provide P4P advertising services in China. Strategy Overview Since its inception, Baidu had developed strategies to compete with foreign players, such as Google and Yahoo! , and to differentiate itself from local competitors, such as Sina and Sohu. In addition to investing heavily in research and development (RD)—in comparison to other local Chinese technology companies—Baidu also leveraged its local market knowledge to develop China-specific products and a China-relevant distribution channel. At a high level, Baidu’s strategic plan focused on two main areas: (1) development of global standard technology with China-relevant products in order to differentiate Baidu from both foreign and local competitors and (2) full penetration of the SME segment, with a flexible multi-tier distribution system. Baidu Products Baidu’s founders, Robin Yanhong Li and Eric Yong Xu, were Chinese nationals who had completed at least a portion of their higher education in China. As such, they had an in-depth understanding of the local market. Leveraging their local knowledge, Baidu developed a series of products that were specific to the China market. This was in contrast to the approach of some of the global search players that offered global products modified to fit the Chinese audience. In 2005, Baidu’s products could be classified into three categories: †¢ †¢ †¢ Search—websites, directories, images, and MP3 music files. New products in the pipeline included movies, local content, products for personal digital assistants (PDAs) and wireless access protocols (WAPs). Community—Baidu community and WAP Post Bar. New products in the pipeline included Baidu Knows and Post Bar. Enhancements—Sobar (a tool that, once installed, showed up on a computers tool bar and made search functionality readily available on every web page that a user browsed), and search ranking. New products included dictionaries and desktop searches. 7 Baidu. com, Inc. , loc. cit. Baidu. com, Inc. : Valuation at IPO A-197 p. 6 In addition to query-related searches that provided users with a list of relevant websites (P4P advertising model), Baidu had been able to drive traffic to its site by the use of several non-query search products. Examples of these products follow. MP3 Search Music was a key application in China’s Internet space. In November 2002, Baidu was the first search engine in China to launch MP3 search services. This move effectively differentiated Baidu’s products from traditional search engines, particularly Google. This capability also created a distinctive brand image and recognition of Baidu among China Internet users as the domestic search engine, providing more suitable and locally relevant services for the Chinese audience. Baidu’s search traffic grew fourfold within one year of launching the MP3 search. 8 Post Bar Launched in 2004, Post Bar was similar to a query-based community or chat room service for knowledge sharing. After searching for a keyword, users could create a new chat room based on the search word, or participate in the keyword bar based on that keyword. With over 1 million bars created by users, Baidu was the first and only search engine in China to provide communitybased search services in 2005. Post Bar increased the stickiness of Baidu’s usage and traffic by enabling users to chat with other online participants and learn about other keyword-related subjects. In addition, Internet users were required to register before joining Post Bar, allowing Baidu to better identify its user base and online communities. 9 ProTheme In February 2005, Baidu launched ProTheme, a contextual advertising service (this product was similar to Google’s AdSense). Baidu had developed the technology to better understand Baidu Union 10 members’ web page content and extract relevant keywords. The ProTheme system then matched these webpage keywords with advertisers’ bidding keywords, and displayed relevant adverting links on Baidu Union members’ pages. Consequently, this service increased clickthrough rates (CTR) without incremental search traffic. Baidu shared revenue with union members once these advertising links were clicked through. 11 In 2005, 40 of Baidu’s 76,000 union members participated in the ProTheme service. As this was a new service, revenue was still insignificant in 2005, but was expected to display growth over the next several years. Baidu Revenue Model P4P Baidu’s P4P advertising service was Baidu’s core product, generating 75 percent of the firm’s total revenue in 2005. 12 Baidu was the first Chinese search engine to provide auction-based P4P advertising services in China. Advertisers or Baidu customers were allowed to choose an unlimited number of keywords and localize their advertising links, depending on the search traffic. Advertisers could then select a maximum bidding price on each keyword and the system automatically outbid the competing advertisers until the maximum price was reached. 8 9 Cheung, op. cit. pp. 19-21. Ibid. 10 Baidu Union was Baidu’s network of third-party websites and software applications. 11 Ibid. 12 Ibid. Baidu. com, Inc. : Valuation at IPO A-197 p. 7 Advertisers were able to monitor the list of bidding prices and select the appropriate bidding price. P4P revenue for Baidu was based on: price per click (PPC), click-through rates (CTR), and search traffic. The formula for calculation was P4P fee = PPC x CTR x search traffic. In terms of P4P pricing, Baidu’s minimum bid or PPC was RMB 0. 3013 and RMB 0. 10 per incremental bid—the highest rate among all search engines in China in 2005. Advertisers had to pay deposits to Baidu for registration in the amount of RMB 2,400—again, the highest for all search engines in China. 14 (See Exhibit 8 for pricing scheme for major players in the Chinese market. ) Branded Advertising Baidu also offered fixed payment advertising links and banner advertising on non-query search products. Fixed payment advertising links guaranteed that the advertiser’s website would appear in a fixed location (rank) of a given keyword’s search results. Advertisers usually paid Baidu a pre-negotiated amount for this service. The key customers of banner advertising services were generally large corporations, not SMEs. For example, if a user searched for popular Chinese singer Jay Chou in Baidu MP3, the search result page would also deliver a banner advertisement for cell phones and MP3 players. In this case, the advertisers of cell phone and MP3 players would have paid Baidu a fee for serving up their advertisements along with the search results. Baidu’s revenue from branded advertising had historically been less than for P4P; however, branded advertising revenue tended to increase with Internet traffic. Baidu Sales and Distribution Model Baidu pioneered a multi-tier sales and distribution model, which provided the company with a substantial competitive edge in China’s developing paid search market. Baidu understood that, given the relatively low levels of technology readiness amongst SMEs in China, a high-touch sales and distribution model was necessary to educate and sell to these potential customers. Baidu’s distribution network was divided into three parts: regional distributors/sub-distributors, direct sales team, and large account management team. Regional Distributors/Sub-distributors In most cities, Baidu appointed an exclusive distributor to operate in either that city or region. The distributor was prohibited from selling competitors’ products. In larger cities, such as Beijing and Guangzhou, Baidu had two distributors. As of 2005, Baidu had 60 exclusive distributors and approximately 300 sub-distributors, serving over 80 percent of its 50,000-plus customers and the 20 million-plus potential SME customers in China. In 2005, distributors contributed around 60-70 percent of Baidu’s P4P revenue. 15 (See Exhibit 9 for a brief description of requirements for Baidu’s distributors. ) 13 14 $1 = RMB 8. 11 in July 2005. Cheung, op. cit. , pp. 22-24. 15 Cheung, op. cit. , pp. 25-27. Baidu. com, Inc. : Valuation at IPO A-197 p. 8 Direct Sales Team Baidu’s direct sales team targeted mostly larger-scale customers, who generally needed more professional and sophisticated services. Some of these clients included regional conglomerates or large local companies. Large Account Management Team Baidu set up large account management teams to provide tailor-made advertising products to target multinational companies (MNC) and large state-owned enterprises. For example, tailormade solutions included P4P keyword advertising and banner advertising on MP3 search. In 2005, notable MNC customers of Baidu included Motorola, Sony, Intel, and China Mobile. Multi-Tiered Distribution Model Baidu’s multi-tiered distribution model provided several advantages over the traditional national distributor model, which some of Baidu’s competitors were using. Distributors in different geographies provided segment-specific services that were most relevant for a specific geography. While national distributors tended to focus mainly on developed areas, local and regional distributors helped achieve good penetration in developing regions by using their local knowledge and contacts. Finally, many of Baidu’s distributors started out small, with 10 to 20 staff. Therefore, these distributors relied on Baidu’s business for their own growth and profitability. Given this dynamic, Baidu only shared 33 percent of its revenue with these distributors; in contrast, Baidu’s competitors shared 50 percent of their revenue with national distributors. Baidu believed that, in the long term, it would be important not to rely too heavily on distributors. In 2005, Baidu announced plans to increase its direct sales force in the future, in order to provide better and more sophisticated services to customers. Baidu Advertising Customer Profile In the second quarter of 2005, Baidu had 41,248 active online advertising customers, with average revenue per user (ARPU) of RMB 591. In terms of industry group breakdown, Baidu’s top 37 industry customer groups accounted for 70 percent of all P4P revenue in January 2005. No single industry group contributed to more than 10 percent of P4P revenue. The top industry groups included health care, manufacturing, IT services, entertainment, ticketing and games, dating services, and household services. In terms of user profile, Baidu users tended to be younger and have lower income than Google’s user base. In China’s high-end user group, Baidu’s market share was lower than that of Google. COMPETITION In 2005, 10 players crowded the search engine market in China. The market dynamic was similar to that of the U. S. in 2000. In terms of market share, in 2004, Google had a 22 percent share of China’s search traffic and Alibaba/Yahoo! 16 held a 30 percent share. However, these 16 Post merger of Alibaba, Yahoo! China, and 3721. com. Baidu. com, Inc. : Valuation at IPO A-197 p. 9 global players were still behind Baidu, which held a 33 percent share of China’s search traffic. 17 The remaining players each held less than 10 percent of the traffic. (See Exhibit 10 for share of Internet traffic by players. ) International Competitor: Google In 2001, Google launched its tailored search services with simplified Chinese characters. However, Google had not co-operated with the Chinese government to filter inappropriate content. As a result, in 2005, Google had still not been granted a license to operate in China; all its servers were hosted outside of China. Without a localized operation and RD team, Google’s business exposure in the China market was low. This allowed Baidu to expand. (See Exhibit 11 on search engine product market share comparison among Google, Baidu and others. ) Recognizing its importance, Google took an aggressive stance toward the China market at the beginning of 2005. In May 2005, the Chinese government approved Google’s application to establish a RD office and mainland office in China. Google appointed Dr. Kai-Fu Lee, the former corporate vice-president of Microsoft’s Interactive Services Division to head Google’s China RD efforts. To meet the unique distribution landscape of China’s Internet advertising market, Google started to develop a distributor system in China and had appointed four regional distributors to cover key areas in China. Finally, Google started to develop localized search products. For example, Google’s University Search feature helped prospective students search for information about major Chinese universities. As Google expanded into China, it needed to address a number of challenges in order to become a market leader there. For example, many local Chinese SMEs were not familiar with Google and many of them were not able to pronounce â€Å"Google. † In search result relevance, some websites that appeared in Google search results could not be accessed because Google had not filtered out inappropriate content websites, according to the Chinese government’s definition. Finally, from a technology perspective, Baidu had been focusing on the Chinese language, which is represented by the double-byte system; in contrast, Google’s strength was in the single-byte universe, which was how the English language is represented. (See Exhibit 12 for Baidu and Google business model comparison, and Exhibit 13 for Baidu and Google revenue growth rate comparison. ) International Competitor: Alibaba/Yahoo! Yahoo! had been trying to establish its presence in China since 2000, but the response had not been positive. In December 2003, Yahoo! acquired a Chinese local quasi-search service provider 3721. com for $100 million. After its integration with 3721. com, Yahoo! launched an independent and localized search engine called Yisou. Yisou provided China-specific search services, including MP3 and images. A unique feature of Yisou was its real-name service, which allowed Internet users to access websites by typing the name of the website in Chinese characters into the search field without memorizing the actual English-language domain name. 17 Cheung, op. cit. , pp. 41-43. Baidu. com, Inc. : Valuation at IPO A-197 p. 10 After one and a half years of operations, Yahoo! was ranked among the top three in e-mail and paid search services in China. It still lagged behind the leaders in the instant messaging and portal segments. Despite having brand recognition, capital, and technology backup, global players such as Yahoo! faced intense competition from listed Chinese Internet companies and domestic entrepreneurs. Local players had superior local knowledge, strong execution capabilities, and sufficient capital resources from venture funding. 18 To improve its competitive positioning, Yahoo! chose to work with a local partner that had strong execution capabilities, an understanding of China’s unique culture, and the ability to work with a U. S. company. In August 2005, Yahoo! paid $1 billion to acquire a 40 percent stake and 35 percent voting rights in Alibaba. com, a successful China-based online trading company. Alibaba brought to the table a number of assets including a strong brand, a high-end user base from its consumer-to-consumer (C2C) portal, a well-developed successful direct sales force, a large advertiser base, and superior execution capabilities. Like Baidu’s other global competitors, the Alibaba/Yahoo! partnership also faced a number of challenges in China. For example, Alibaba had never completed a merger prior to this one, and the possible integration challenges were many. In addition, Alibaba had not been a technologyfocused company and did not have a large RD team. Given that the search business required heavy investments in RD, Alibaba/Yahoo! would need to invest significantly to build the same capabilities as Baidu. Local Competitors: Sina and Sohu Domestic portals Sina and Sohu were the dominant players in China’s Internet search market before the emergence of independent search engines, such as Baidu and Google. However, after the bursting of the Internet bubble in 2000, these domestic players scaled back their operations to focus on portal development and spent less on the loss-generating (but fast-growing) paid search market. From 2002, these domestic portals recognized the potential of SME advertising in China and decided to develop strategies to extract value from SMEs. Unfortunately, their effort to launch business portals did not attract significant traffic and contributed to less than 10 percent of their advertising revenue. These firms also tried licensing search technologies from independent search companies, such as Baidu and Google, but users preferred to query the search engines directly. As a result, Sina and Sohu ultimately decided to terminate their licensing agreements with the search engine companies. While both of these companies had historically been leaders in online advertising (through their portals and directory products), they had lost ground to Baidu in the paid search market. Given the growth of the paid search advertising market, Sina and Sohu decided to develop inhouse search technology to regain traffic from Baidu and Google. They followed Baidu’s distribution strategy and used regional and local distributors instead of national distributors. Both of these companies launched their services in 2005 and generated revenue from fixed 18 Cheung, op. cit. , pp. 33-34. Baidu. com, Inc. : Valuation at IPO A-197 p. 11 payment and P4P revenue models. (See Exhibit 14 for revenue share of key players in the paid search market. ) BAIDU STRATEGIC POSITION Strengths As the leading search engine in China in 2005, Baidu had several competitive advantages over both its local and global competitors. Notable strengths included Baidu’s unique search technology, focused China strategy, large user base, and well-developed distributor network. Leader in Chinese-language Search Given the complexity of the character-based Chinese language, Baidu invested heavily to develop its proprietary search technology. Co-operating with various universities and scholars, Baidu developed Chinese language processing search techniques, including spider systems, indexer systems, and search systems. These techniques took into account word segmentation, parts of speech, grammar, and encoding that enabled Baidu to achieve improved search relevancy and efficiency. Given Baidu’s local knowledge and understanding of Chinese consumer behavior and advertiser needs, the company was able to tailor its search products to the local market and effectively differentiate itself from the global competitors. The company’s significant investments in RD also led to innovative search products, which allowed the firm to differentiate itself from other local players. Focused China Strategy Unlike its global competitors, Baidu had a China-focused strategy from the very beginning. The company’s RD, sales and marketing teams consisted mostly of local talent and were based entirely in China. As such, Baidu was able to deliver products and services, such as MP3 search, that were targeted specifically to the Chinese Internet users. Additionally, given that China was the only market the company was targeting as of 2005, the Chinese market had management’s full attention and controlled the firm’s resource allocation. Large User Base As an early entrant into China’s Internet search market, Baidu enjoyed certain advantages by establishing its brand name early amongst Internet users. Apart from providing search-related services, Baidu also promoted online community-based products such as Post Bar in an effort to retain its users and build stronger customer loyalty. In addition, because