Alibaba Could Be Next Into China Search Market

NEW YORK ( TheStreet) -- There's a new rumor out Friday from China that Alibaba Group has agreed to buy Sohu's ( SOHU) Sogou search engine in order to take on Baidu ( BIDU).

It would actually be a surprise if this happened because the most recent rumors about possible buyers for the Sogou search business named Qihoo 360 ( QIHU) and Baidu. The last rumors about this, from a few weeks ago, suggested a buyer might pay as much as $2.5 billion for the search unit.

Take a step back. Why would someone want to pay $2.5 billion for Sohu's search engine when Sohu's entire market capitalization is $2.5 billion?

The answer is about the Chinese search market and how strategically important this area will be moving forward.

There was a time, several years ago, when Google ( GOOG) was the big dog of search in China. Its search engine results were always exceptionally good.

The problem was the Chinese government didn't like some foreign entity controlling the top spot in a strategic area of the Internet.

After a lot of interference from the Chinese government, Google decided to leave the mainland. This left the Chinese search market to Baidu, which quickly saw its market share post-2008 crash go to over 70%. That post-Chinese withdrawal for Google corresponded to a huge spike up in Baidu's stock price as it soaked up the market share in search.

Yet, since last summer, Baidu has faced increased competition from Qihoo. Qihoo has gone from no market share then to about 12% today.

This has left Baidu in a somewhat weakened state and it has increased the desire of its competitors to see it further weakened. After all, this is China. No one makes fat margins for long before about 100 copycats start showing up to try and get a piece of that action for themselves.

Sohu has had its own search engine in Sogou for several years. It has been pretty steady with about a 10% market share in the space.

That may not seem like a lot now but it would swing Qihoo to close to a quarter of the market. That's why Qihoo was seen as aggressively pursuing the stake. You also had Baidu reportedly in the hunt to keep that important share for itself.

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