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China's Homegrown Stars

Time was, the survival prospects for China's largest Internet companies looked pretty grim. The three leading portals -- NetEase, Sina, and Sohu -- had gone public on NASDAQ in mid-2000, right when the Internet bubble was bursting. All three shot out of the gate but soon saw their share prices tumble to around $1 each as losses mounted and investors realized that the country's tiny online advertising market could barely support one portal, let alone three. Worse, as their shares crumbled, America Online announced plans to enter China. It seemed the locals had little chance against a rival with such deep pockets.

Fast-forward to 2003. The Chinese portals haven't died. In fact, sales are growing, all three are profitable -- and their shares are soaring. Sina today trades at around $10 a share, Sohu at $15, and NetEase at $22 -- all up five- to fifteenfold over the past 12 months. Their secret: Instead of depending on ads pitched to China's 56 million people with PCs and Internet access, they have focused on selling online content to the 200 million Chinese with cell phones. Meanwhile, the foreigners can't catch up: AOL's joint venture with Chinese computer maker Legend Holdings Ltd. has been put on ice. "It's a pretty dramatic shift," says Victor Koo, chief operating officer of Sohu. "The whole picture has changed."

The portals have discovered that the key to profits -- now, at least -- is short text messages. The companies charge subscribers about $1.50 a month for updates on anything from football scores to new cases of SARS, then share the revenue with mobile-phone operators. Messaging services account for more than half of sales at the three portals and have pushed them all into the black. Inc., for example, on Apr. 29 announced profits of $8.3 million on revenues of $14.2 million for the first quarter, compared with a loss of $2.1 million and sales of $2.9 million a year earlier. Text messaging "has really provided the necessary lift for these guys to get to profitability," says Nathan Midler, an analyst with International Data Corp. in Beijing.

Even with such a cash cow, the companies are looking for new revenue streams. They're making big plans for multimedia messaging services using newer cellular networks that can handle more data traffic. And they're planning splashy promotions to launch them. Sohu founder Charles Zhang, for instance, is now climbing Mt. Everest and is transmitting images to Sohu subscribers along the way.

For those who prefer virtual adventures, the portals are pushing PC-based Internet games where users can pretend they've entered another world. Elsewhere in Asia, particularly Korea, interactive game-playing online has surged, and the companies are betting it will also be a hit in China. "There is huge potential," says Ted Sun, acting chief executive officer of NetEase. Rival Sina Corp. has teamed up with Korea's NCsoft Co., and in late April launched a version of its medieval role-playing game, Lineage. The companies are hoping to attract 100,000 users at a time -- each paying roughly $1.30 for 25 hours of play -- by yearend, says Kim Yong Kon, who heads NCsoft's international business division. "The Chinese game market has limitless potential," he says.

Perhaps the biggest challenge faced by the portals is SARS. As the disease spreads across China, economists are predicting the economy will slow, which could hurt ad spending and subscriber growth. And Beijing has ordered public entertainment venues in the capital, including Internet caf?s, shut down until the outbreak subsides. That could foil any plans to boost game-playing, since most gamers in China go online at Net caf?s. Sina had expected that the online game market would double this year, to $250 million, but now predicts it will be less than $200 million.

Still, the epidemic could actually help China's portals, as people stop going out and spend more time at home. Daniel Mao, CEO of Shanghai-based Sina Corp., says he has already seen a surge in business thanks to SARS. "There's a definite push for people at home to get on the Net and get more information," he says. Since the SARS outbreak captured public attention in March, subscriptions to Sina's news updates have surged by 25%, to 7 million. Having already survived one crisis, the managers of China's portals look tough and savvy enough to just keep going. By Bruce Einhorn in Hong Kong with Moon Ihlwan in Seoul

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