Baidu Inc.

Analyst: Victor Sula, Ph.D. Initial Report May 15th, 2009

BIDU daily

5/15/09 270 255 240 225 210 195 180 165 150 135 120 volume

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Apr

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MARKET DATA

Share Statistics (04/29/09) Symbol Current price Low/ High 52 weeks Average Volume Market Cap Dil. Shares Outstanding

2007

2008

%Chg

BIDU

Revenues, $ Mn.

239.1

468.8

96.0%*

$227.29

Gross margin

68.6%

63.8%

-480 bp

$100.50–382.90

Operating margin

31.4%

34.3%

290 bp

2,356,849

Net margin

36.0%

32.8%

-320 bp

2.48

4.43

$7,853 Mn 34.72 Mn

EPS, $

78.6%

Recommendation Baidu Inc. (BIDU) is poised to offer an annual growth rate in the range of 35% - 40% over the long term. The Company’s traffic has rebounded since the end of January 2009. Large advertisers are starting to utilize BIDU, which is helping consolidate revenue streams and the Company is branching out to offer search in Japan. Accordingly we rate BIDU as a Buy.

Highlights BIDU is China’s leading search engine. Its main domain, www.baidu.com, is ranked the No. 1 most trafficked site in China and is No. 9 in the world. According to a market survey announced by iResearch Consulting Group, Baidu.com processed approximately 1.1 trillion Chinese language Web search requests in 2008, accounting for 73% of the total Chinese language Web search market in China. Google has less than half of that.

Of the approximately 40 million SMEs in China, the Company has approxiBaidu Inc. (Nasdaq: BIDU)

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Analyst: Victor Sula, Ph.D. Initial Report May 15th, 2009

Baidu Inc. is the leading Chinese language Internet search provider. The Company offers a Chinese language search platform, which consists of Web sites and online application software that enables users to find online information, such as Web pages, news, images and multimedia files. BIDU serves SMEs and corporations, as well as e-commerce, IT services, consumer products, electronic products, machinery, manufacturing, medical, entertainment, education, franchising, financial services, real estate, ticketing and tourism industries.

The Company also offers online communitybased products and entertainment platforms such as Baidu Post Bar, Baidu Knows and Baidu Space. BIDU designs and delivers its online marketing services on its website www. baidu.com to its P4P customers. The auctionbased P4P services enable BIDU’s customers to bid for priority placement of their links in keyword search results.

The Company conducts its operations in China principally through Baidu Online Network Technology Co. Ltd, its wholly owned subsidiary in Beijing, China. Baidu Inc. was founded in 2000 and is headquartered in Beijing, PRC. BIDU is the first Chinese company to join the NASDAQ-100 Index.

STOCK PERFORMANCE (%)

3 Mo.

Price Change

88.2

GROWTH (%)

Revenues EPS

Last Qtr. 57.9 31.5

1 Yr. -40.2

3 Yr. (Ann) 259.6

12 Mo.

3 Yr CAGR

83.3 66.7

115.6 172.6

mately 185,000 active marketing customers – companies bidding for paid search listings or keywords or buying ads on BIDU’s pages - or a 15% increase from where the Company was a year ago.

In the meantime, it is a sequential decline quarter-over-quarter due to a weaker economy, the usual seasonality associated with the Chinese New Year and the carry-over effect of the actions the Company took near the end of 2008 to improve the quality of its customer base. Nevertheless, overall economic conditions have improved significantly over the past several months and advertiser activity is recovering.

A key new innovation was announced by the Company in December 2008. More than 1,000 of BIDU’s 2,000 core engineers have been involved in developing the so-called “Aladdin Plan,” which is aimed at improving search experience by uncovering useful parts of the hidden Web. Statistics indicate that the identifiable information only accounts for 0.2% of the total. In the platform, the search engine technology can deeper analyze, integrate and process all the information including the hidden Web with uncountable information beyond the current limits of the Web contents. Industry analysts noted that this plan is a proactive research and exploration in the Internet search industry and would produce important impact on the search engine and Internet sector.

BIDU will launch an information search platform in Japan where the Company launched a Japanese search service - www.baidu. jp - in January 2008.

In April 2009 the Company launched the Phoenix Nest program - a new search engine advertising program of BIDU, which aims to finally replace Baidu Bidding Rank, BIDU’s classic advertising program edition. The objectives of Phoenix Nest are to improve relevancy in paid search and increase value for customers, thus driving monetization efficiency. It also provides customers additional tools and information to help them better manage their spending to achieve higher ROI. Between April and June 2009, the Company will guide its clients to use the search program; and in June 2009, the Company will assist its clients in transforming their files in the classic edition to the professional edition.

Total revenues in 2008 were $468.8 million, representing an 83.3% increase from 2007. This turned into diluted EPS of $4.43, up 78.6% from a year earlier at 2.48. BIDU has recently reported Q1 2009 earnings of $26.5 million, or $0.76 EPS, 2 cents ahead of analyst estimates and up 27% from $20.9 million, or $0.60 EPS, a year ago.

Analysts polled by Thomson Reuters expect the Company to earn $5.97 per share in the fiscal 2009 and $8.11 in fiscal 2010.

The Company’s stock price experienced a large move higher af-

Baidu Inc. (Nasdaq: BIDU)

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Analyst: Victor Sula, Ph.D. Initial Report May 15th, 2009

RETURN ON EQUITY (%) TTM 5 Yr. Avg.

BIDU

Ind Avg

S&P 500

40.3 34.4

2.86 14.1

20.4 20.4

P/S comparison

ter a very volatile IPO in 2005. After opening in the $60 range it surged to more than $150 before pulling back near the $40 range a few months later. It then went on to rally to a high of more than $400 in 2007. In December 2008, China’s leading search engine hit a 52-week low, being in line with the overall trend of Nasdaq index. However, the stock has more than doubled over the last three months. Overall, BIDU’s shares have gained 72% this year on the wave of an optimistic outlook for the Company growth.

Financial Analysis Quarterly revenue, $ Mn

Source:Reuters.com

FY 2007 31-Dec-07

FY 2008 31-Dec-08

239.1 164.1 75.0 75.0 86.2

468.8 299.4 160.7 160.7 153.6

185.2 364.1 0 277.1

346.2 577.2 0 452.7

31.4% 31.4% 0.83 23.7% 31.1%

34.3% 34.3% 0.99 26.6% 33.9%

2.7 -

3.4 -

34.72 2.48 7.98 n/a 4,135,608

34.72 4.43 13.0 45% 5,236,400

Net Sales ($mil) Gross profit ($mil) EBITDA ($mil) EBIT ($mil) Net Income ($mil) BALANCE SHEET Cash & Equiv. ($mil) Total Assets ($mil) Total Debt ($mil) Equity ($mil) PROFITABILITY EBITDA Margin Operating Margin Sales Turnover Return on Assets Return on Equity DEBT Current Ratio Debt/Capital Interest Expense ($mil) Interest Coverage SHARE DATA Dil. Shar. Outst.(mil) EPS Book value / share Institutional Own % Avg Daily Volume

Source: SEC filings.

Baidu Inc. (Nasdaq: BIDU)

Source: SEC Filings

More than 95% of the Company’s revenues come from paid search listings. For the full-year 2008, the number of active customers increased 32.7% and revenue per online marketing customer increased 38.3% from the previous year. In 2008, the Company reported revenues of $468.8 million, up 83.3% $239.1 million in 2007.

This increase was primarily due to a substantial increase in revenues from online marketing services as a consequence to the increase in the number of online marketing customers from 214,000 in 2007 to over 284,000 in 2008, and the increase in the average revenue per customer from approximately $1,110 in 2007 to approximately $1,642 in 2008.

Net income in fiscal year 2008 reached $153.6 million, representing a 66.6% increase from 2007. Net income for Q1 2009 was $26.5 million, representing a 23.5% increase from the corresponding period in 2008.

Full year 2008 net operating cash flow was $1.7 billion as compared to $128.2 million in 2007. This increase was mainly attributable to: (i) the substantial increase in net income in 2008; (ii) the increase in add-back of non-cash expenses; and (iii) the increase 3

Analyst: Victor Sula, Ph.D. Initial Report May 15th, 2009

Consensus Estimates BIDU

FY 2009 31-Dec-09

FY 2010 31-Dec-10

EPS, $ Revenue, $Mil

5.97 637.8

8.11 876.6

Rev. consensus estimates, $Mil. Revenue, $ Mn

2009

2010

%Chg

GOOG YHOO SOHU MSFT IACI INSP TWX NTES

22,665 4,813 498 60,163 1,379 154 29,217 519.5

25,597 5,041 583 61,475 1,467 153 29,567 661.7

13% 5% 17% 2% 6% 0% 1% 27%

Median

3,096

3,254

6%

BIDU

637.8

876.6

37%

Source: Thomson Reuters.

EPS. consensus estimates, $ Ticker Symbol

EPS, $

2009

2010

%Chg

GOOG YHOO SOHU MSFT IACI INSP TWX NTES

21.07 0.35 4.06 1.7 0.56 -0.09 1.95 2.00

24.03 0.42 4.55 1.84 0.76 0.09 2.25 2.37

14% 20% 12% 8% 36% n/m 15% 19%

Median

1.83

2.045

15%

BIDU

5.97

8.11

36%

Source: Thomson Reuters.

Baidu Inc. (Nasdaq: BIDU)

Industry analysis The PriceWaterhouseCoopers’ report indicates that global advertising will increase at a 6.2% to $521 billion in 2010 from $385 billion in 2005. This year, global spending in online ads will reach $65.2 billion, or about 10% of the total advertising market. The Internet will remain the fastest-growing advertising medium; at an 18% CAGR till 2010 and it will constitute nearly 10% of global advertising in 2010 compared with less than 3% in 2002.

consensus estimates are provided by Thomson Financial

Ticker Symbol

in customer deposits resulting from the increased number of P4P customers. The Company has no debt. As of March 31, 2009, the Company had cash, cash equivalents and short-term investments of 2.8 billion. In December 2008, BIDU’s shareholders approved a $200 million share buyback program.

China has vaulted from emerging market status to the point of being the second largest national advertising market after the United States, having grown at the unprecedented rate of 40% per annum for the last 20 years. During the last 15 years, the annual turnover growth exceeded 1,000 times, and the ratio of ad-rate against GDP rose from 0.024% to 0.93%. The Chinese economy, which slowed from a rapid pace of 10% - 11% in 2005-2007, can achieve 8% growth in 2009 and is still on fire compared to all Western economies. In November 2008, China announced it would be spending $586 billion to invest in its own country.

The Internet in China is growing incredibly fast. According to CNNIC, the Internet population in China reached 298 million in 2008. This means Internet penetration rate grew from 16% to 22.6% in one year, but this level is still far below that of mature markets. Compared to the U.S., China registered only one-tenth of online advertising in the U.S., showing the enormous potential for China’s online advertising market.

The Internet Committee of the China Advertising Association has launched a trial version of the Recommended Usage Standard for China’s Internet Advertising and the standard started its trial operation from January 1, 2009. The standard covers more than 80% of the advertising forms placed on China’s Internet. After one year’s trial operation, the committee will amend the standard to form an official usage standard for China’s Internet advertising industry.

Analyst opinion China is the world’s most populous nation and has the second largest Internet user base marked around 280 million. With 70% mar4

Analyst: Victor Sula, Ph.D. Initial Report May 15th, 2009

ket share, BIDU succeeded to keep global search leader Google at a distant No. 2 in China. BIDU launched a new online service in April to help advertisers place ads more effectively and is making a proactive change to eventually migrate from its current model to a Google-like model. In addition, the Company is implementing “Aladdin Plan” at its Japanese search platform, which is aimed to settling down the problem that current search engine fails to identify the so-called Hidden Web. The Chinese economy has slightly recovered in recent months, prompting the Company’s customers to spend more on advertising. Trends suggest that conditions have improved significantly over the past several months, and at least for now advertiser activity is increasing. As such, BIDU had seen a significant rise in advertising since late January. As a result, Q1 2009 results topped expectations, and the management’s Q2 2009 guidance beat the consensus.

BIDU is the market leader in an industry that still has lots of room to grow. China’s Internet user base should grow 20% in 2009 to reach just a 24% penetration. There are 20 million to 40 million small and medium enterprises in China. The Company serves about 200,000 advertisers, so there is still room for a more mature market.

Currently, shares are selling at 38 times 2009 estimates of $5.97 and 28 times 2010 estimates of $8.11. This represents a rich premium to the relative valuations of their peer group. However, this premium would appear to be well deserved considering the Company is poised to offer an annual growth rate in the range of 35% - 40% over long-term.

Comparative analyse Company Name Google Inc. Yahoo Inc. Sohu.com Inc. Microsoft Corp.

IAC/InterActiveCorp.

InfoSpace Inc. Time Warner Inc. Netease.com Inc.

Ticker Symbol GOOG YHOO SOHU MSFT IACI INSP TWX NTES

Price per Share, $ 391.47 14.02 50.04 20.25 16.65 6.88 21.98 20.09

2008

2009

123,588 19,546 1,907 180,219 2,346 240 26,298 3,796

18.58 n/m 12.33 11.91 29.73 n/m 11.27 10.05

16.29 n/m 11.00 11.01 21.91 76.44 9.77 8.48

12.12

11.01

38.07

28.03

Median Baidu Inc.

BIDU

227.29

P/E

Mrkt. Cap. $ Mn

7,853

Source: Thomson Reuters.

Baidu Inc. (Nasdaq: BIDU)

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Analyst: Victor Sula, Ph.D. Initial Report May 15th, 2009

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To the fullest extent of the law, we will not be liable to any person or entity for the quality, accuracy, completeness, reliability, or timeliness of the information provided in the report, or for any direct, indirect, consequential, incidental, special or punitive damages that may arise out of the use of information we provide to any person or entity (including, but not limited to, lost profits, loss of opportunities, trading losses, and damages that may result from any inaccuracy or incompleteness of this information).

We encourage you to invest carefully and read investment information available at the websites of the SEC at http://www.sec.gov and FINRA at http://www.finra.org.

All decisions are made solely by the analyst and independent of outside parties or influence.

I, Victor Sula, Ph.D, the author of this report, certify that the material and views presented herein represent my personal opinion regarding the content and securities included in this report. In no way has my opinion been influenced by outside parties, nor has my compensation been either directly or indirectly tied to the performance of any security listed. I certify that I do not currently own, nor will own and shares or securities in any of the companies featured in this report.

Victor Sula, Ph.D. - Senior Analyst Victor Sula, Ph.D. has held the position of Senior Analyst with several independent investment research firms since 2004. Prior to 2004, Mr. Sula held Senior Financial Consultant positions within the World Bank sponsored Agency for Restructuring and Enterprise Assistance and TACIS sponsored Center for Productivity and Competitiveness of Moldova, where he was involved in corporate reorganization and liquidation. He is also employed as Associate Professor at the Academy of Economic Studies of Moldova. Mr. Sula earned his Ph.D. degree in 2001 and bachelor’s degree in Finance in 1997 from the Academy of Economic Studies of Moldova. Mr. Sula is currently a level III candidate in the CFA program.

Baidu Inc. (Nasdaq: BIDU)

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