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Chinese Search Deal Another Threat to Baidu

NEW YORK (TheStreet) - Thursday night on TheStreet.com, Chris Ciaccia reported that Qihoo 360 (QIHU) has agreed to buy the Sogou search business from Sohu (SOHU) for $1.2 billion.

If that's true, the Chinese Internet search sector just got a lot more competitive and Baidu's (BIDU) dominance is now seriously threatened.

According to Chris, who was reporting on what Brightwire said, Sohu and Qihoo have agreed to a deal that will be paid for with a combination of cash and Qihoo stock.

Rumors involving Qihoo around the Sogou search engine first surfaced over a month ago. It seemed that those reports led to other potential bidders such as Baidu, Tencent (TCEHY) and Alibaba (ALBIY) getting involved.

At one point last month, rumors suggested that the price for Sogou had been pushed up to $2.6 billion.

Sohu's market cap is $2.5 billion, and it has over $1 billion in cash on its balance sheet. An influx of $1.2 billion in cash and Qihoo stock should be a boon to Sohu shares.

It's remarkable how far Qihoo has come in a year. Last summer, the company was still trying to fight off criticisms that it was a fraudulent operation. Former Google (GOOG) China head Kai-Fu Lee defended the company publicly against a series of attacks made against Qihoo by short sellers.

Back then, Qihoo's stock was in the teens. Yesterday, it closed at an all-time high of over $53. The rise correlates with Quihoo's growth in Chinese search share from basically nothing last year to 16% today. And with Sogou, Qihoo would get another 10% in market share to reach about a quarter of the Chinese search market.

That is bad news for Baidu, which had basked in the glow of Google's departure from mainland China a few years ago. It seemed as if Baidu would have a lock on the search market in China forever.

But nothing is forever in China. Baidu has been slow to adapt to the rapid rise of mobile and has now given up its big lead in search. Baidu shares have been down for the year when the rest of the Nasdaq and many other Chinese Internet stocks have been doing well.

Baidu has to prove that it has a story to tell Chinese users -- and investors -- in mobile. To date, it has been quiet. It's given the impression that it's too slow and bureaucratic to respond.

And Qihoo won't be Baidu's only threat. The progress that Qihoo has made in a year against Baidu will inspire other potential competitors -- especially Alibaba -- to jump into the search pool as well.

After all, search is profitable and nothing attracts scores of Chinese competitors like profits.

At the time of publication, the author was long on Sohu and Qihoo, and short on Bidu.

This article was written by an independent contributor, separate from TheStreet's regular news coverage.

At the time of publication, Eric Jackson was long XXX.

Eric Jackson is founder and Managing Member of Ironfire Capital and the general partner and investment manager of Ironfire Capital US Fund LP and Ironfire Capital International Fund, Ltd. In January 2007, Jackson started the world's first Internet-based campaign to increase shareholder value at Yahoo!, leading to a change in CEOs in 2007. He also spoke out in favor of Yahoo!'s accepting Microsoft's buyout offer in 2008. Global Proxy Watch named Jackson as one of its 10 "Stars" who positively influenced international corporate governance and shareowner value in 2007.

Prior to founding Ironfire Capital, Jackson was President and CEO of Jackson Leadership Systems, Inc., a leadership, strategy, and governance consulting firm. He completed his Ph.D. in the Management Department at the Columbia University Graduate School of Business in New York, with a specialization in Strategic Management and Corporate Governance, and holds a B.A. from McGill University.

He was previously Vice President of Strategy and Business Development at VoiceGenie Technologies, a software firm now owned by Alcatel-Lucent. In 2004, Jackson founded the Young Patrons' Circle at the Royal Ontario Museum in Toronto, which is now the second-largest social and philanthropic group of its kind in North America, raising $500,000 annually for the museum. You can follow Jackson on Twitter at www.twitter.com/ericjackson or @ericjackson.

You can contact Eric by emailing him at eric.jackson@thestreet.com.

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