Published: January 15, 2010
By DAVID BARBOZA and BRAD STONE
SHANGHAI — If Google pulls out of China because of frustration with government restrictions, it will not be the first time an American Internet giant has retreated from the country.
Hyungwon Kang/Reuters
Jerry Yang, the co-founder of Yahoo, looked at Gao Qin Sheng, the mother of the dissident Shi Tao, at Congressional hearings in 2007. Yahoo reported Mr. Shi to authorities.
EBay and Yahoo arrived with high hopes for a market that failed to live up to their expectations. Social sites like Facebook, MySpace and Twitter have never managed to gain a significant foothold in China, partly because of government blocking and censorship and partly because most major Chinese Internet companies offer popular social networking features of their own.
In fact, no major American Internet company has dominated its field in China, which by some measures is the world’s largest Internet market. Many experts thought Google would be the first.
“There’s no U.S. Internet company close to being a leader here,” says Gary Rieschel, founder and managing director of Qiming Venture Partners, a venture capital firm. “And most of the wounds are self-inflicted.”
While each failure has been different, analysts say the cases may help explain why Google is frustrated — not just by government censors but by its inability to catch its big Chinese rival, Baidu.
Google, an Internet Goliath with $22 billion in revenue and some of the smartest people on the planet, is getting clobbered in China, holding 33 percent of the search engine market to Baidu’s 63 percent. Google has gained significant market share since it formally entered China five years ago, but almost all of that has come from smaller rivals. Baidu also gained market share in that time.
No one expected it to be this way. America’s bleeding-edge technology giants came here armed with cash, intellectual property and an ability to manage complex networks and introverted workers. They each bought or invested in local Internet companies and hired Chinese executives, and they worked to show sensitivity to the byzantine social customs of the world’s most populous country.
But all of them were outsmarted in different ways.
Google set up its China business in 2006, after it invested in Baidu and then reportedly tried and failed to buy it outright. Baidu, founded in 2000 when the Chinese Internet was just beginning to bud, carved out a strong presence by offering something that Google, at first, would not: easy links to download pirated songs, TV shows and movies from Chinese Web sites.
Baidu claimed this was legal because the media files were not on its own computers. Google itself finally introduced a free online music service in China in 2009, with the permission of the music labels, but it has never managed to make up the lost ground.
“Searching for music is what people did early on in China,” said Felix Oberholzer-Gee, a professor at Harvard Business School who has studied the Chinese Internet market. “It was huge, and Google didn’t have it.”
Google has said that its threat to leave China has nothing to do with financial considerations.
Perhaps no company tripped up as badly in China as Yahoo. It bought a local Internet company in 2004 to expand its Web presence and compete with Baidu and the local portal Sina.com. After it failed to gain ground, Yahoo abruptly reversed course, paying a billion dollars for a 40 percent share in Alibaba, a local Internet giant, which then took over its Chinese business.
Yahoo reaped a financial windfall when Alibaba stock soared in an initial offering in 2007, much as Google did when it sold its stake in Baidu. But operationally Yahoo had failed in the country — and it was only beginning to pay for that failure.
In 2004, the nonprofit group Doctors Without Borders reported that Chinese dissidents had been jailed because Yahoo released the contents of their e-mail accounts to the Chinese government. In subsequent years, Yahoo executives, including Jerry Yang, a co-founder, were hauled before Congress and berated over the incident.
EBay was the only technology giant that got a fast start in the Chinese market. In 2003, eBay bought EachNet, the leading Chinese auction house, and briefly controlled 80 percent of the Chinese e-commerce market.
Then it was completely outmaneuvered. EBay charged for listings, while a local upstart, Alibaba’s consumer-oriented auction site Taobao.com, did not. EBay also did not offer ways for buyers and sellers to chat online, fearing they would close their transactions off the site to avoid paying fees. Taobao executives understood that live conversations were necessary for Chinese consumers to cultivate trust, and offered an instant-message service to allow them to haggle over deals.
EBay also put its Chinese auctions on Web servers outside the country, resulting in a sluggish service that was difficult for some Chinese citizens to access.
EBay surrendered and left China in 2006, leaving the market to Taobao, which also now dwarfs Amazon’s Chinese e-commerce site.
The most recent underachiever in China was MySpace, owned by the News Corporation, which set up a locally owned Chinese business in mid-2007. But millions of people already use the social services of local Internet companies, like Tencent, which operates an online entertainment bazaar and has a stock market value of $37 billion, bigger than eBay’s. Tencent’s QQ instant messaging software is a huge cultural phenomenon in China, used by hundreds of millions of people.
Tencent has also led the way on social games and virtual currency, a field in which American social networks are only now beginning to catch up. MySpace shook up its Chinese subsidiary in 2008, and its chief executive departed.
American high-tech companies declined to comment this week on their China misadventures. But many high-tech executives and American experts on China complain that it is not an even playing field. American companies must operate in China through locally owned firms, creating a cumbersome ownership structure that limits their flexibility. They are also handicapped by one factor completely out of their control: government censorship and favoritism of local firms.
Google executives have said they are frustrated by censors who constantly scrutinize Google’s local search engine and try to control or erase its contents. Access to Twitter and Facebook is routinely blocked by the Chinese government. Local companies, on the other hand, often maintain close ties with regulators, which helps them anticipate new policies as the government increasingly worries that the Web might become a forum for antigovernment dissent.
Some in China say the American companies could work harder at thinking locally. Tu Jianlu, who used to work at Yahoo China, says Yahoo struggled here because its executives did not understand the Chinese market, did not trust local executives and often brought in outsiders to run things.
“When Yahoo China came up with new ideas and strategies, we had to report to the headquarters and wait for their feedback,” he said. “It usually took a long time to get their agreement. And when we got it, it was too late, too late for us to compete with local competitors.”
Ultimately though, Chinese Web entrepreneurs have done a good job of building Web sites that are tailored to the Chinese market.
Despite government restrictions, the Chinese Web over all is both vibrant and chaotic. There are thriving local blogs, entertainment and online gaming sites, a booming trade in virtual currency and even pornography (nude video chat rooms come and go).
Meanwhile, Chinese Internet tycoons like Jack Ma of Alibaba, Robin Li of Baidu and Pony Ma of Tencent are national figures, celebrated for their instincts and intelligence, much as Jeffrey P. Bezos, Sergey Brin and Larry Page are in the United States.
“The problem here is when you get down in the weeds and talk about flexibility and tactics, Chinese entrepreneurs are hard to beat,” says Mr. Rieschel at Qiming Ventures.
Bao Beibei contributed research.
A version of this article appeared in print on January 16, 2010, on page B1 of the New York edition.
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