The Second Big Player in the Chinese Search Market?

Dusan is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Qihoo 360 (NYSE: QIHU) demonstrated strength in its latest quarterly earnings report, beating estimates and raising guidance. The company is quickly finding ways to make money from search, and is rapidly expanding its market share, putting pressure on rival Baidu (NASDAQ: BIDU) and taking aim at an even bigger chunk of the search market. The company is also showing strength in the mobile security market with its key product 360 Mobile Safe. Qihoo's profit margins have suffered as a consequence of investments in the newly developed search engine and for the new headquarters, but the management now expects those margins to grow steadily over the long term.

Heavy investments will drive long-term growth

Qihoo’s management noted that the company made heavy investments in product development and technology innovation in order to expand its coverage in both PC and mobile markets, as well as cloud-based services. The company intends to continue to make investments and extend its sales and marketing infrastructure to support further search monetization and mobile penetration. The company also bought land to build a new headquarters, which hurt the first quarter’s operating cash flow and capital expenditure.

Qihoo has further strengthened its leadership position across key product categories. Monthly active users of the company’s PC browsers reached a record 332 million, almost 70% of the Chinese PC internet population. The company has also expanded its market share in mobile security, with the number of Chinese smartphone users of 360 Mobile Safe reaching 275 million at the end of March. This provides a solid foundation for Qihoo to be a leading mobile internet platform in China.

Search market share rising

During the first quarter, Qihoo gained notable search traffic share and began to monetize its search engine through both an internal system, and external partnership.

Qihoo has formed an alliance with Google (NASDAQ: GOOG), which left the Chinese search market because of the cyber attacks it endured from Chinese hackers, and the further limits of free speech on the web in China. Qihoo’s reliance on this partnership will be its main search focus in the near-term, until it develops its own internal system. 

Qihoo’s management believes that it can capture a significant portion of the search market, which in turn will drive substantial long-term growth for its shareholders. The brand awareness campaign has not fully started yet, since the management admits its search engine is still not at the level of its competitors'. But Qihoo believes it can achieve accelerated growth when its search engine gets better, and when it boosts its awareness campaign .

The company is targeting 20% search market share by the end of the year. Qihoo’s current search market share estimates range from 12% to 15%, according to various sources.

Baidu takes a swing at Qihoo’s market

Baidu has made a move on Qihoo's own turf by launching its antivirus software in April. The Baidu Antivirus app is co-produced with security experts from Kaspersky. Although the app is still a beta version, it is nonetheless a direct stab at Qihoo, which is known for its security software. In order to compete on a higher level with Qihoo, Baidu will need to develop an app for the Android mobile OS as well, since the global trends favor more use of mobile phones and tablets, especially in the Android ecosystem.

Bottom line

Qihoo has managed to expand its leadership position in its dominant markets, and continues to invest heavily to improve its leadership position. The company’s efforts in the search market are evident, and there are more challenges ahead. Baidu is quite dominant in the search market, and Qihoo has a long way to go to further improve its internal search system. However, its partnership with Google could help the company in this goal. On the other hand, Baidu might challenge Qihoo in the antivirus market.

China is certainly a huge market, and it has room for two large players. It will be very interesting to see how things go from here. Qihoo's search market share penetration is what you should look at in order to get a sense of its success. Another thing is if they can make money from search; the next few quarters will show us just what we need to know in that regard.

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Dusan Jovanic has no position in any stocks mentioned. The Motley Fool recommends Baidu and Google. The Motley Fool owns shares of Baidu and Google. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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