The case can be found in your ebook. The cases in the class are important because they challenge students to have a somewhat in-depth look at a situation and apply what they have learned. You will be able to see how strategy can be applied to a situation and start to formulate your own thoughts about what the best alternatives are. Working on the cases will help you meet 101: Understand the relationship between strategy and organizational performance, LO2: Understand and apply an important strategy concept (such as strategy process, internal and external environment, competitive and corporate strategy, corporate governance and controls) AND LO3: Critically discuss current business events. General guidelines for the case analysis are: 1) You can complete this assignment individually or by collaborating with all or part of your group submitting the assignment together. If you choose to submit with others then only one person should upload the assignment (to avoid similarity found by Turnitin) and the names of all of those contributing should appear on the cover page. 2) Prepare an analysis which should be 2-3 pages single spaced and focus on answering the questions provided for the case. A good format is to provide an introduction summarizing the key points addressed, about one paragraph for each of the questions and a conclusion to summarize the opinion you have arrived at for the questions. There is not necessarily a right or wrong answer to these questions, but you need to justify your answers based on the theories and principles of strategic management that are involved with the case. 3) On Packback, all students (for every case) should be prepared to discuss the questions of the case and raise a question to be considered. The questions for this case are: Case 2 (Baidu) 1. How and why have Baidu's business model and customers changed over time? 2. Which business-level strategy is Baidu using? Provide at least two examples of how Porter's five forces are affecting the firm and its strategy. 3. What has been the most powerful incentive for Baidu's international expansion, and what benefits is the firm enjoying from its global growth? 4. Would you characterize Robin Li Yanhong, chairman and CEO of Baidu, as an entrepreneur? Explain your answer. Case 2: Baidu's Business Model and Its Evolution C-29 CASE 2 ICMR Celer Baidu's Business Model and Its Evolution In the second quarter of 2016 ended July, Baidu, Inc., quarters. This period of uncertainty will pass,” said Robin the leading Chinese language Internet search engine, Li Yanhong, Chairman and CEO of Baidu. reported a 34% fall in its quarterly net income- Co-founded by Li and his friend Eric Xu in 2000, its biggest quarterly decline since going public in Baidu was China's first home-grown search engine and August 2005. The company's net income fell to RMB was created with the mission of providing the best way 2.41 billion (US$362 million) in the quarter from RMB for people to find information. The company offered a 3.66 billion a year earlier. The poor performance of the broad range of products and services including search company was attributed to curbs on online advertising in services, Online-to-Offline (020) services, and an China following the death of a 21-year-old Chinese stu- online video platform. Baidu's investments in technol- dent in April 2016 who had tried an experimental cancer ogy along with its focus on local content helped it main- therapy advertised on Baidu's website. “The challenges tain a dominant position in the rapidly growing search Baidu faced in the second quarter served as a healthy engine market in China. In order to establish a global reminder to stay focused on the key drivers of growth, footprint, Baidu forayed into emerging markets such sustainability and leadership: delivering the best user expe- as Brazil, Indonesia, Japan, Egypt, India, and Thailand rience and staying at the forefront of technology. The imple- where Internet usage continued to climb. As of July 2016, mentation of new regulations and the stricter standards Baidu commanded over 80% of the Chinese search mar- that we proactively imposed to make our platform more ket, and was among the world's top five search engines in robust will likely suppress revenue for the next two to three terms of market share (see Exhibit I). Exhibit Market Share of Top Search Engines in the World and in China World China (Mobile + Tablet) AOL, 0.15% Excite, 0.01% Others, 1.82% Ask, 0.22% Baidu, 7.14% Yahoo, 7.78% Qihoo 360, 0.31% Sogou, 2.05% Shenma, 9.26% Google, 0.43% Bing, 10.39% Baidu, 87.37% Google, 72.48% C-32 Part 4: Case Studies users who searched for information related to their prod- ucts or services. Baidu was the first auction-based P4P service provider in China. The P4P model helped Baidu monitor each click, understand the tastes and prefer- ences of Chinese Internet users better, and improve user experiences in order to drive traffic to its sites. In October 2009, Baidu switched from its old adver- tising system based on price bid ranking to a new online advertising keyword bidding system called Phoenix Nest system. The new advertising system contributed to a strong revenue growth along with an increase in the number of Internet users. Between 2010 and 2014, Baidu's average revenue per customer grew at 33% annu- ally, increasing from RMB 19,200 per customer per year to RMB 59,600. According to Li, “If an advertiser wants to pay a lot of money that probably says something. The best measure for this is our growth pattern. If users keep coming back to our service, we're doing the right thing." In addition, Baidu also offered performance-based online marketing services and time-based online adver- tising services, whereby the customers paid Baidu based on performance criteria such as the number of telephone calls brought to the customers, the number of bookings of air tickets or hotel rooms, the number of users regis- tered with the customers, or the number of minimum click-throughs. Baidu's online marketing services gen- erally included text links, images, multimedia files, and interactive forms. The advertisements were displayed through both organic Baidu websites and its affiliated website partners such as Baidu Union." Between 2006 and 2014, Baidu's online marketing customer base was growing by 29% annually, and had reached 1,049,000 by December 2015. In 2015, search revenues were RMB 55.7 billion (US$11 billion), about 84% of Baidu's total sales. Total revenues and operating profit was RMB66.4 billion and RMB11.7 billion respectively (see Exhibit II.) In the Exhibit II Raidu concolidated Statamonte Incomot Exhibit Il Baidu-Consolidated Statements of Comprehensive Income Data (In thousands of RMB except per share and per ADS data) For the year ended December 31 2011 2012 2013 2014 2015 Revenues: Search Services 14,500,786 22,306,026 29,590,276 43,727,459 55,667,478 Transaction Services 1,319,187 3,822,456 7,005,941 iQiyi 1,345,042 2,873,552 5,295,760 Inter Segment (310,581) (1,371,149) (1,587,450) Total revenues 14,500,786 22,306,026 31,943,924 49,052,318 66,381,729 Operating costs and Expenses: Search Services 15,411,424 23,179,666 27,549,641 Transaction Services 2,841,466 9,796,434 20,151,386 iQiyi 2,088,055 3,983,851 7,679,198 Total Operating costs and Expenses (6,924,127) (11,254,706) (20,752,204) (36,248,554) (54,710,175) Operating profit 7,576,659 11,051,320 11,191,720 12,803,764 11,671,554 Interest income 418,201 866,465 1,308,542 1,992,818 2,362,632 Interest expense (82,551) (107,857) (447,084) (628,571) (1,041,394) Income (loss) from equity method (179,408) (294,229) 22,578 (19,943) 3,867 investments 2011 2012 2013 2014 2015 Other income, net, including exchange 76,278 449,738 140,951 336,338 24,909,964 gains or losses Income before income taxes 7,809,179 11,965,437 12,216,707 14,484,406 37,906,623 Income taxes (1,188,861) (1,574,159) (1,828,930) (2,231,172) (5,474,377) Net income 6,620,318 10,391,278 10,387,777 12,253,234 32,432,246 Less: Net loss attributable to (18,319) (64,750) (162,880) (943,698) (1,231,927) non-controlling interests Net Income Attributable to Baidu, Inc. 6,638,637 10,456,028 10,550,657 13,196,932 33,664,173 Adapted from http://ir.baidu.com/phoenix.zhtml?c=188488&p=irol-sec Baidu 20F "Baidu Union comprises a large number of third-party websites and software applications. It directs traffic to the Baidu website by integrating a Baidu search box into third party websites or by displaying relevant contextual promotional links for customers. C-34 Part 4: Case Studies home-team bias the Chinese market can be accused of, no company becomes so successful without at least some com- petency. Market inertia or even market ignorance but no matter what you say, it will never change the basic fact that Baidu has thus far read and played its market more success- fully than its competitors, "12 commented Kai Pan, a mod- erator on the Chinese online forum ChinaSmack. search were redirected to Baidu, which recorded a sud- den rise in popularity. Later on, the access to Google's site was restored, but a search for some particular terms still led to users being directed to websites approved by the government. By early 2004, users in China began considering Google as unreliable and started using Baidu, which was similar to Google in appearance, with a largely uncluttered white page and few colors. By 2005, Google's market share had fallen to below 30%, while Baidu's share in the market had increased to 46%. Google left the country in 2010, after refusing to coop- erate with censors. However, Li cited different reasons for Baidu's growth: “The market has exploded in a very short time. User information needs to change very quickly. Because we were local and focused, we were able to catch the changes quickly. We understand the Chinese language and culture better." Moreover, Baidu worked closely with the Chinese government in blocking content considered inappropri- ate by them. Reportedly in 2009, Baidu won an award from the Internet Society of China for practicing Zilu (self-regulation). According to some industry observers, Li's focused and driven attitude with his emphasis on technology and investment in new ideas had led to Baidu becoming the leading search engine in China. “However much Baidu has benefited from offering pirated music, questionable government interference, or even any conscious Foray into 020 Services 020 was one of the fastest growing segments in the Chinese e-commerce market and was projected to grow at an annual rate of 25% from US$390 billion in 2014 to US$718 billion in 201713 (see Exhibit IV). A growing pop- ulation, an increasing number of Internet users, and the rapid shift toward smartphones from personal computers were driving the 020 trend in China. With the PC search business maturing and the Chinese economy slowing down, Li was looking to diversify as he wanted to reduce Baidu's dependence on the desktop search business. His goal was to transform Baidu from connecting people with information to connecting people with services. He decided to invest in 020 services (online to offline, digital marketing to describe systems enticing consumers within a digital environment to make purchases of goods or services from physical businesses) as he wanted Baidu to capture a substantial market share in Exhibit IV Online-to-Offline Ecommerce Sales in China (2011-2018) 626 521 67% 428 58% 45% 335 41% 242 38% 172 119 28% 75 22% 20% 2011 2012 2013 2014 2015 2016 2017 2018 O20* e-Commerce sales % Change Sales in billions of RMB Adapted from iResearch Consulting Group 2015 China 020 Services Model Research Report January 19, 2016. Case 2: Baidu's Business Model and Its Evolution C-39 Exhibit Vi Baidu's Stock Price Chart BIDU 210 200 190 my 180 Wowwww 170 160 150 140 130 Volume 30 20 10 0 16 Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Source: http://bigcharts.marketwatch.com Exhibit VII China Search Engine Market Share (PC only) (PC + Mobile) Google, 7.45% Others, 1.59% Shenmat, 6.22% Google, 2.81% Others, 1.76% Bing, 2.85% Sogou, 5.20% Sogou, 3.15% Qihoo 360, 8.18% Qihoo 360, 23.56% Baidu, 59.35% Baidu, 77.88% *Shenma (Mobile only) *Data as of August 2016. Adesde beletet the threat from American Internet companies, Kaiser Kuo, Director of international communications at Baidu, said, “We would welcome more competition. It's even fair to say that in the years immediately following Google's depar- ture, we got a little slack, put on a little weight. It was a little too easy. Google is a great company. They invested in us early on. They're now talking about coming back. That said, it's not going to be easy for them. It's been a long absence, and people's habits have solidified around other products."23 Sogou.com," who were steadily growing their user base since 2014. Baidu also faced tough competition from Alibaba and Tencent who were vying to attract Chinese customers primarily through smartphones. Tencent's mobile messaging service Weixin/WeChat had about 800 million users as of August 2016 while Alibaba owned mobile browser UC Browser had over 500 million users globally. Reportedly, Alibaba was expected to overtake Baidu in Mobile Internet Ad Revenues in China as Baidu's share in China's digital ad market dropped to 21% in 2016 compared to 28% the previous year (see Exhibit VIII). In the second quarter of 2016, Baidu's market capital- ization fell by about US$9 billion to US$55.7 billion, leaving it just a quarter of the size of its rivals Tencent and Alibaba, which enjoyed a market capitalization of US$ 227 billion and US$207 billion respectively. Moreover, with other Chinese Internet companies rushing to launch their own search engines and the company's plans to go global where western rivals were entrenched, Baidu was set to face more serious compe- tition than ever before, said some analysts. There were also reports that Google was planning a comeback in China with a new Android app store. Commenting on Rapid Shift Toward Mobile Internet Usage Baidu was under pressure as Internet users in China shifted from PCs to smartphones, increasingly opting for mobile devices and social networking apps rather than search engines (see Exhibit IX). Commenting on how relevant the broader search market would remain in the face of challenges from social networking apps, CEO Li said, “We face a new problem. Will search still be relevant? Going forward people can directly go to WeChat, go to Facebook. ... go to a lot of different apps. Do they still need search? And we need to worry about this problem. We need to address this kind of new consumer behavior, we need to keep innovating, we need to come up with better Exhibit VIII Net Digital Ad Revenues in China (2013-2016) In billions of US Dollars 2013 2014 2015 2016 Baidu 4.56 6.85 9.43 12.63 Alibaba 4.75 5.87 7.59 9.61 Tencent 0.70 1.10 1.61 2.31 Sohu 0.57 0.80 1.06 1.26 SINA 0.48 0.59 0.70 0.81 0.44 0.56 0.78 1.05 Youku Tudou Total digital ad spending 16.46 23.87 31.03 39.72 Net Mobile Ad Revenues in China (2013-2016) In millions of US Dollars 2013 2014 2015 2016 Alibaba 307.50 4,750.30 7,348.10 2,193.40 2,533.10 Baidu 501.80 4525.10 6,695.00 Tencent 83.50 307.30 513.60 992.80 Sohu 0.00 265.10 474.90 729.60 13.10 180.20 271.80 390.10 Youku Tudou Total mobile Internet ad spending 919.60 7,356.50 13,977.40 22,140.20 Exhibit IX Mobile Search Engine Users and Penetration in China (2010-2015) 477.8 429.1 73.0% 69.4% 77.1% 77.1% 62.1% 56.6% 365.0 291.4 220.8 171.4 32% 28.9% 25.3% 17.6% 11.3% 2010 2011 2012 2013 2014 2015 % of mobile Internet users Mobile search engine users % Change Mobile search engine users in millions Adapted from China Internet Network Information Center (CNNIC),33rd Statistical Report on Internet Development in China, July 26, 2016. look nearly as promising as its past, and investors might be best suited by avoiding the temptation of investing in the so-called Chinese Google,"26 said Brain Nichols, an analyst at Motley Fool. solutions for our users, 924 Li said. The rapid shift toward mobile usage in China contributed to a slowdown in annual revenue growth rates. During Q1 2015, Baidu's revenue per online marketing customer fell by 9.8% on flat growth in the customer base. Baidu's mobile search monthly active users (MAUS) were 667 million in the month of June 2016, an increase of 6% year-over-year. In Q1 2016, mobile revenue repre- sented 60% of total revenues, compared to 50% for the corresponding period in 2015.25 Though the monthly active users for Baidu's mobile search rose rapidly from 540 million in Q4 2014 to 600 million in Q1 2015, Baidu was feeling margin pressure as monetization rates on mobile searches were low compared to desktop, and slowed top-line growth for Baidu. Some analysts felt that Baidu's mobile search business was at risk consid- ering the rate at which it was losing market share to search engines Qihoo 360 and Shenma. “So, with nearly $6.5 billion in 12-month revenue, the majority of which comes from search, and expected revenue growth of 54% and 40% over the next two years, respectively, expectations are high, and Baidu is yet to prove to investors that it can maintain market share. Therefore, Baidu's future doesn't Lack of Profitability in Non-core Divisions Baidu's investment in sectors outside its dominant desktop search business weighed heavily on its profit- ability. The company's operating margin fell to 15.3% at the end of September 2016 compared to 17.6% in 2015. Baidu's heavy spending to buy market share in the 020 space had raised concerns among some investors about whether the search giant had what it took to successfully differentiate itself from competitors. “I think the decision to launch 020 and video content is on the right track, but their applications and video content are not competitive enough compared with other rivals in the market making them less attractive to users,” said Ricky Lai, an analyst with Hong Kong-based investment holding company Guotai Junan International Holdings. CEO Li said he did not expect Baidu to improve its earnings in the short term because of its heavy spending on the 020 services busi- ness. Moreover, in July 2016, he withdrew his proposed Case 2: Baidu's Business Model and Its Evolution C-43 number of setbacks in 2016, started returning to their normal pace of growth. He said the negative impact of tightened Internet advertising laws would continue in the fourth quarter of 2016 with revenue predicted to be down up to 2.2% quarter on quarter. However, some analysts feared that in the meantime Baidu's rivals might catch up and develop technologies and services that might blunt the company's competitive edge. “You can get past the regulatory hurdles but then people have to make a decision on whether the adver- tising revenue growth by that point is going to be spread among a lot more players. It's hard to draw a direct line between artificial intelligence and revenue growth out- side of search,"º remarked Kirk Boodry, an analyst at research firm New Street Research. Going forward, CEO Li planned to invest heavily in Baidu's two core growth segments—Transaction Services and Artificial Intelligence. He said that despite the lack of profitability resulting from high investment, the 020 busi- ness would be a good driver of growth in revenue in the future due to a positive trend in the Chinese e-commerce industry. He said that even though Baidu's growth could continue to slip in the short term, the company was poised for solid long-term growth considering the massive growth potential in the Chinese Internet market and its competitiveness in the market. According to Li, “Baidu will rise to new heights, as long as we maintain the trust and loyalty of our users and continue to be at the fore- front of innovation. This may mean doing the hard things, but the right things, for which there is no compromise."
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