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Behind Baidu’s Glorious Earnings

China’s biggest search engine posts impressive earnings, but stirs up controversy with its business practices.

Investors love winners. So when Baidu on May 9, 2006, reported a huge earnings growth in its first-quarter financial results, the market responded enthusiastically, and Baidu’s stock price jumped 22 percent.

But a closer look at the company’s recent moves has made analysts suspect that some questionable business practices might have aided Baidu in achieving its impressive earnings.

Baidu’s second-quarter earnings report was due on July 26. On July 10, Baidu announced that it would cut jobs in its profitable search engine operations, which had seen a 70 percent annual growth rate. Competitors, including Google, all regard search engine operations as a vital piece of their business. Baidu’s move turned many heads.

At a press conference on July 13, Baidu’s CFO Shawn Wang cited fiscal losses and non-core competence as two key triggers for the "painful decision to shut down the Enterprise Software (ES) division." However, an employee from ES told reporters that in 2002, when ES was under Baidu COO David Chu’s direct watch, it was the major breadwinner for the company. By 2003, its profit had reached 5 million yuan (US$625,000). By 2005, the division had contributed over 15 million yuan (US$1.9 million) to the company.

Insiders believe that the real motive behind Baidu’s job cut was to take away employees’ stock options, which are valued at 20 million yuan (US$2.5 million), to make the numbers look better.

One-Stop Shop Termination with Four-Hour Notice

On July 10, an email was sent to ES employees asking everyone to attend an important meeting at 2 p.m. Both David Chu and Lu Lingming, Baidu’s Human Resources director showed up at the conference. Chu told everyone at the meeting that the company had decided to shut down their division. Lu then announced that to make things easier, the company would provide a one-stop exit process to the terminated employees. More than 20 employees across the country received a four-hour notice. They were ordered to turn in their laptops and key cards, pack their personal stuff, sign the notice, and leave the company by 6 p.m. The front desk was notified. Those who refused to sign would not receive any severance pay.

Employees were stunned that they were fired in such a humiliating way.

"This is pure intimidation," one insider grumbled.

Quite a few of these impacted employees had worked for multinational companies prior to joining Baidu. They have highly marketable skills and solid experience. Many of them have traded their well-paid jobs elsewhere to join Baidu simply because of the stock options. Being treated in such a way is beyond disappointing.{mospagebreak}

"Had they informed me in advance, I wouldn’t have even bothered to take the severance pay. I would walk out of this place without looking back. Obviously, Baidu does not care to respect its employees’ feelings," said one of them.

One impacted employee was angry at the sudden layoff. He said that Baidu’s conduct violates China’s Labor Law, because the company failed to issue any notification in advance or discuss the compensation package with the employees.

He and a few others are considering legal actions against Baidu.

Wiping Out Millions in Stock Options

Baidu’s first-quarter net income was 35.2 million yuan (US$4.4 million), up 43.5 percent over the previous quarter, or 1,309.0 percent year-over-year. Within hours after its financial data was made public, Baidu’s stock jumped 22 percent to a record high of US$74.85 per share.

Achieving this milestone may be a miracle, but sustaining the success and keeping investors happy will take more than just a miracle. The bar is higher now.

To improve the bottom line, Baidu needs to either grow revenue or reduce cost. Among Baidu’s 2,000 employees, nearly half are in sales and telemarketing. Although these employees are playing a major role in Baidu’s rapid growth, the company does not reward them well, according to insiders. Baidu pays them as low as 600 yuan (or US$72) per month as their base salary and does not offer them stock options. Slashing headcount there will bring little impact to its bottom line.

The July layoff is targeted at Baidu’s Enterprise Software, which provides search engine services, such as selling competitive intelligence collected by its search engine to enterprises. The impacted employees were making a six-figure salary on average, and most of them were awarded with stock options, mostly over 4,000 shares or more. "Based on the current stock price, these options are worth at least 10 million yuan (US$1.25 million)," an insider reveals.

But CFO Shawn Wang told reporters on July 13 that only half of the terminated employees had stock options, indicating a much smaller windfall.{mospagebreak}

Pay-for-Ranking to Increase Revenue

To boost its organic growth, Baidu adopted Pay-for-Ranking. Users are not very pleased with this practice. One programmer calls it "twisting the facts with money."

It can be frustrating, too, to many search engine users. They may not get what they want, or simply be misguided by the commercials that pay their way to be on the top.

One user gives this example: When a cancer patient visited Baidu’s home page and typed in "cancer" as a key word for search, Baidu returned four pages of Pay-for-Ranking advertisements before providing meaningful search results on page 5.

Many programmers believe that Pay-for-Ranking severely compromises the accuracy and the credibility of search results. Yet, driven by insatiable appetite, Baidu has pushed hard to promote this practice. Many in the search engine field are worried.

Anti-Baidu Alliance

A group of webmasters who believe that they were unfairly treated by Baidu has formed an Anti-Baidu Alliance to protest certain business practices and sales policies at Baidu.

Ta Xue Wu Hen, or "Stepping on the Snow Without Leaving a Trace," a popular webmaster in China, and some of his Web buddies believe that Baidu blocks their websites to forcefully promote its Pay-for-Ranking product. Many webmasters in similar situations reveal that they have received phone calls from Baidu selling its Pay-for-Ranking product and after they refused to subscribe, Baidu immediately blocked their sites.

Ta thinks that these cases tell a tale of Baidu’s greed. Many programmers believe that Baidu has gone too far to gain instant profit, that its conduct is unethical.

The company’s name, Baidu, was inspired by an 800-year-old ancient poem and literally means "hundreds of times," representing persistent search for the ideal result and winner. In the end, it is the inspired investors and users who will determine the ideal result and real winner, through persistent search.

Helen Chou is a writer based in New York.