Question-and-Answer Session
Operator
(Operator Instructions) Your first question comes from the line of Dick Wei of JPMorgan.
Dick Wei – JPMorgan
My first question is on the TAC revenue ratio. What is the reason for the slight decline in Q2 and what should be the trend going forward, because Jennifer mentioned it could increase? Just trying to understand the magnitude of the changes.
Jennifer Li
As I mentioned in the prepared remarks, the decrease reflects basically the traffic mix driven by especially strong organic traffic growth. It’s a very healthy trend and we’re happy to see this is a normal fluctuation as typically the traffic comes in the picture. I did mention that contextual ad business is an important initiative for us and we are making a lot of efforts on that front and developing Union partners to be part of the whole business.
The contextual ad business itself does require higher payout. So to the extent the business tracks very well, you should expect the traffic acquisition cost to increase as a percent of total revenue.
Operator
Your next question comes from the line of Jin Yoon with Nomura.
Jin Yoon – Nomura
You mentioned that you’re going to make some capital expenditures or capital investment into Qiyi. Can you talk about what monetary amount that you’re talking about and when that capital expenditure or investment will start? And secondly, you also mentioned that Qunar will be consolidated certainly in Q3 and you said it’s not that material. Can you identify what kind of revenue we should expect for the run rate for Qunar as well?
Jennifer Li
On the key investment, as we mentioned in our prepared remarks, is the important landing page strategy for us. Qiyi offers high-quality content and within a short time or period it’s tracking very well. Between Baidu and our investment partners, we plan to continue to support the company, and the cash contribution will be made in the near term.
As I mentioned, the cash contribution will flow through our PL line item, because we continue to account the investment in equity accounting methods. And because it’s still loss making, given the competitive media landscape, any investment we make that the venture generates, we will take our share of the loss through the PL line after the cash amount that we contribute.
As I indicated in the prepared remarks, we do not expect there will be material impact on the PL side as a result of the contribution to the Qiyi venture either in the third quarter or for the full year of 2011.
For your Qunar question, in our guidance we provided for Q3, we did incorporate the consolidated picture wheel as we provided the guidance. The vast majority of the strong Q3 guidance that we’re providing is driven by the strong fundamentals of Baidu’s core business, Qunar accounts for a very small amount. So it’s very immaterial in the overall revenue guidance as well as in the overall PL structure.
Operator
The next question comes from the line of Catherine Leung with Goldman Sachs.
Catherine Leung – Goldman Sachs
Can you comment on whether Box Computing is creating any side benefits that are helping monetization indirectly, which is better traffic retention or advertisers’ spending is more visible on the social results page, understanding that you are not aggressively monetizing it directly at this stage?
Robin Li
I think you are very right. Box Computing is generating benefits both in terms of user experience or traffic retention as well as certain kind of revenue potential. You can basically view the Box Computing as a better way of displaying when thinking about revenue. It’s a better way of displaying ads, all kinds of different ways of displaying Box Computing results.
In most cases, it’s purely just a benefit for user. In some of the cases, it will benefit with the advertisers or customers too. So we will do these kinds of partnerships where we see fit going forward.
Operator
Your next question comes from the line of Eddie Leung with Bank of America-Merrill Lynch.
Eddie Leung – Bank of America-Merrill Lynch
I have a couple of questions. The first one is regarding your agreement with the major music label companies. Could you share with us if there will be any cost for music rights going forward? And if so, where will the cost items appear, whether it be in the cost of services or sales and marketing? Could you also give us the top advertiser segments for the second quarter?
Jennifer Li
As we have said in our press release, yes, we will be paying the record label companies some fee to incorporate their assets in our services. The amount itself is not significantly going to affect the cost of picture, and any fee that we are paying them will go through the operational cost line item as part of the cost of revenue. So it’s in the gross margin picture.
And in terms of your other question related to the top sectors for Q2, these mainly continue to be the typical ones, namely medical, machinery equipment, education, travel and business service. And all these five top sectors account a little over 50% of the total revenue picture.
Operator
Your next question comes from the line of Paul Wuh with Samsung Securities.
Paul Wuh – Samsung Securities
You mentioned the e-commerce and also the group buy advertising increasing. You didn’t mention those in the top five. What percentage of revenues would these two put together represent?
Jennifer Li
We have established a way of looking at our business and define the industry sectors. Because of the e-commerce business emerging at growing very fast, it just takes another angle and approach to look at our overall business. And when we look at e-commerce businesses, obviously that includes online purchases, whether it’s physical goods or services, things like travel, for example, if you look at Etrip, they are part of the travel vertical and they are also part of the e-commerce platform that provides online services.
So we have separately trapped the e-commerce contribution in the overall growth rate to give us a better understanding of the trends as we are in the fast-developing internet space. We have not separately disclosed the percentage per se, because it is just another angle to look at our industry sectors.
Having said that, we have mentioned quarter after quarters that we are seeing triple-digit growth in the e-commerce sector. That continues to be very strong, but it’s not a separate industry vertical that we’ll separately disclose.
Operator
Your next question comes from the line of Jiong Shao with Macquarie.
Jiong Shao – Macquarie
My question is on the margins. It looks like you did extremely well across the board for your margin profile this past quarter. It showed a significant deduction in terms of percentage of revenue for SGA, RD, et cetera. Just looking forward to an intermediate term, how should we look at your margin progression going forward in terms of further expansion from here?
Jennifer Li
We delivered very strong Q2 performance and record high margins. It is a very strong quarter for us. As I mentioned in my prepared remarks, aggressive investment will continue to be our priorities, particularly in the areas of RD, talent, network infrastructure and frankly office space as we need to accommodate more people. We are also investing very aggressively in the strategic partnership side.
If you look at our historical margin patterns, second half of the year is typically expense-heavy. RD expenses will be more heavily concentrated in the second half of the year. And if you look at near term, in Q3, we’ll have marketing events such as Baidu World. We’ll also re-double our efforts in campus brand building coming to the recruiting season. So expense will be particularly heavy in the second half of the year.
In addition to that, some of the strategic investments that we mentioned, these ventures do not generate very high margins. So in total, if you look at the Q2 and Q3 margin relationship of last year, that probably serves as a good reference.
Operator
The next question comes from the line of Eric Wen with Mirae Asset.
Eric Wen – Mirae Asset Securities
Given that Baidu has just ended 150-city tour, and I remember that is bigger than last year’s 100-city tour, do you see a fast pickup of customer growth in the third quarter or toward the end of the second quarter?
Jennifer Li
Yes, we continued our market execution efforts this year. We have increased the coverage this year and run a very successful marketing campaign. As the industry leader, it’s our responsibility to really develop the market and educate the customers the benefit of search engine marketing.
From what we see, the campaigns are better run, because we have a lot to learn over our first try last year, and we’re very pleased with the results in terms of customer acceptance and their understanding of our services and using search engine marketing as very effective tool for them.
So on last line, we’re very happy with the marketing campaign that we conducted this year, and that really helped on customer acquisition as well.
Operator
Your next question comes from the line of Yu Jin with CICC.
Yu Jin – CICC
I have two brief questions. And one question is related to quarter guidance. In this industry and also in the country, we have very strong debate on the macro-economy. (inaudible) Did we see brand advertisers contributing amount (inaudible) to Baidu’s operations?
Robin Li
I think Baidu’s E-Series is relatively isolated from the manufacturer-oriented economy in provinces like (Jiyang). You can probably tell that larger customers contribute more and more of our revenue and mix and those customers typically reside in the tier-1 cities like Beijing, Shanghai, Guangzhou and Shenzhen.
Service-oriented industries, especially group buy and others, are among our top five industries, education, medical or healthcare, those are very different from what you would see in the manufacturer-oriented industries in the provinces you mentioned. So I would say that our business is relatively isolated from that part of the macro-economy.
And I think more importantly, the pay search business is just too young, lots of growth opportunities for us. As long as we can execute well, we should be able to generate very good growth.
Operator
Your next question comes from the line of Philip Wan with Morgan Stanley.
Philip Wan – Morgan Stanley
You mentioned in your prepared remarks about the strong spending from large customers. Would you give us some more color about the differences between large and normal customers? Also, you’d be very helpful if you could comment on the revenue contribution from large customers.
Jennifer Li
We really cover a very diverse pool of customers, and the customers’ spending level can vary a lot. When we look at our large businesses, some of these customers spend tens of millions a year. And some of the SMEs can be of a very long-tail services, and thereby keywords and spend along maybe a few hundred euros, a few thousand of RMB per year.
So we do have a very wide spectrum in terms of customers spending. But having said that, what we have said over the past few quarters is we continue to see strong spending from the large customers. They are particularly good at using the search engine marketing tools, and they see the kind of ROIs that can be generated from the Baidu platform. And therefore, they are spending more and more with us. And the contribution from large businesses continued to grow very strongly over the past quarter. It exceeded the SME business.
But having said that, the SME continues to be the pretty vast majority of the revenue contribution. But we’re particularly happy with the large customer adoption of our business platform and their contribution to our overall revenue picture.
Operator
Your next question comes from the line of Steve Weinstein with Pacific Crest.
Steve Weinstein – Pacific Crest
Another question just on the growth in advertisers. I was a little surprised that the growth in advertisers in terms of year-over-year percentage and year-over-year absolute percentage of new advertisers was already slowing down. Can you talk about where your priorities are as a company in terms of targeting larger advertisers versus building out more mass within the SMEs? And the different initiatives there should help us frame how we should be thinking about growth over the next few quarters or into the next year. And could we ask to just get the headcount for the quarter and number of salespeople?
Robin Li
When we transformed from the legendary system to Phoenix Nest, the system became much more complicated, and it did enable large advertisers or customers to do more. And coupled with the maturity of that market, large companies increasingly realized that they can benefit from search marketing. So we were very busy serving lots of large customers.
The vast majority of SMEs, it just takes them longer to get used to this new system and fully take advantage of all the functions and features of our system. Going forward, we are continuing to improve the customer experience online and do more hand coding for our smaller customers.
But at the end of the day, we’re all focused on what will benefit the company most in terms of revenue generation and profit, all that and other things.
Jennifer Li
To continue to add to Robin’s point, we are doing a lot more to help the customers better use our platform. The customer base grew at a healthy rate of 17% year-on-year, and we are enhancing our sales and customer services and the educational process to help SMEs to master the features of online marketing platform.
As we mentioned in our prepared remarks, we upgraded our front-end interface, making it easier for the customers, particularly the SMEs, and to make the whole process for decision-making and maneuvering down to five steps instead of the original 15. So we are doing all kinds of things to try to make the sophisticated system more user-friendly.
And even market potential continues to be huge, and we are doing our efforts, as we mentioned, in developing the market at the same time we are redoubling our efforts to better serve the customers. But as Robin mentioned, it generally takes a few quarters for the customers to really take advantage of the better system and more streamlined process that they can see.
In terms of your second question, the number of salespeople at the end of Q2 was 6,300.
Operator
Your next question comes from the line of Cynthia Meng with Jeffries.
Cynthia Meng – Jeffries
I have two questions. Number one, Baidu has already introduced Baidu browser. Can you share with us the overall strategy regarding client-side software and desktop applications on both the PC side and mobile side? And any details regarding future product development roadmap would be very helpful.
Second question is regarding Box Computing. We would like to know some more details with respect to the coverage, the percent of queries that are covered by Box Computing. Management mentioned some time ago, it was 50% before. I would like to know what is the percentage right now.
Robin Li
On the client-side software, we do think browser is a very important distribution channel for our business. In China, the browser market is relatively fragmented. People have developed a habit of installing their preferred browser on their desktops. So we are trying to meet that part of the user need.
Once a user installs a browser controlled by us, then we’ll able to generate more search traffic. This is true both on the PC side and also on the mobile side. On the mobile side, we also have a mobile browser for our users. In general, we just view the client-side software as a way of distributing Baidu services.
Most people are still used to total Baidu website and do their things. But there are certain percentages of users, maybe 10% or less, they have developed a habit of using client-side software to do all kind of things. And we just view that as distribution. And sometimes, we’ll do it ourselves, developing our own client-side software. Sometimes, we’ll just partner with those client-side software developers and share revenue with them.
On the Box Computing, coverage right now is roughly 70%. 70% of the search result pages contain Box Computing results.
Operator
Your next question comes from the line of Mayuresh Masurekar with Collins Stewart.
Mayuresh Masurekar – Collins Stewart
Could you talk about revenue contribution this quarter from your initiatives other than core search like contextual, online video, e-commerce and so on. And also, what you have assumed for them in the third quarter guidance and how big you expect it to be for 2012 and beyond?
Jennifer Li
Other revenue contribution in terms of contextual and online display ads, in comparison, they (inaudible) in comparison to our main core business, which is page search. They are, as I mentioned, an important area for us to grow future revenue possibilities. They’re growing at a faster speed. Although it’s a smaller base, but they’re going at a faster speed and it’s tracking, it’s picking good traction in terms of growth projection, the speed of growth.
The overall contribution from these lines is very small of the total picture. But as I mentioned, they are going faster and over time they’ll become meaningful.
Operator
Your next question comes from the line of Gene Munster with Piper Jaffray.
Gene Munster – Piper Jaffray
That’s an impressive revenue growth and I guess on that note, in terms of the overall search can you continue to drive the ARPU higher? And if so I guess what changes in the future do you see is a platform? I guess you don’t call Phoenix anymore, but to the platform that you can make in the next year to continue this high-double digit growth?
Robin Li
What we have seen or heard from our customers, especially the larger ones, there is due allocations and majority of the budget to offline advertising, while the ROI for the components for our online advertising, especially search, is much better. So we do expect this kind of trend will continue. So the ARPU should continue to grow.
Internally we do see a lot of room for improvement, both in terms of the bidding mechanism as well as tools to help advertiser to better manage their advertising campaign. There are lots of lots of things we can do. And again that the market is in its early stage, we do expect a significant growth going forward.
Operator
Your next question comes from the line of Wendy Huang with RBS Scotland.
Wendy Huang – RBS Scotland
Number one, it’s seems that every Q2 your ARPU is very strong growth. Is it a part being driven by the seasonally? And should we apply this to the future years as well? And secondly, apart from online video, travel and recruitment where you have already made significant investment and progress, what will be the next vertical or you plan to make the investment in?
Jennifer Li
A strong Q2 ARPU performance, there is a strong element of seasonality. Typically, Q1 is a slower season, because of the Chinese New Year. And you will see a big sequential increase in the second quarter from total revenue standpoint. And total revenue contribution typically of course comes from both the ARPU growth as well as the numbers of customers’ growth.
Both metrics will continue to have a lot of potential going forward. So you know as seasonal pattern would tell us that we should continue to see strong ARPU as well as some step-up in terms of the customer growth in future.
In terms of the strong verticals, yes, those vertical that you mentioned, we have established either a partnership or investment in those areas. We have as we mentioned also in the real estate area formed a partnership to help deliver better user experience, overall user experience. Importantly, these are important vertical areas, things like OTL, we’ll continue develop and financial services we’ll continue develop.
So there are in our landing page a strategy, it helps to cover the strong and important verticals. And our objective is to form a strong partnership, working with others in different form and deliver a high quality user service experience.
Operator
Your next question comes from the line of Wallace Cheung with Credit Suisse.
Wallace Cheung – Credit Suisse
A question mainly on your mobile phone strategies, there is some news report saying Baidu is the Philippine-owned operating systems on a mobile side as well as the mobile phone. So can you elaborate more about the strategies in terms of like potential timeline of the launch?
Robin Li
We do see a lot of opportunities for the Smartphone industry, as adoption continue to grow fast. We are developing a number of mobile phone related services and systems. As they become ready we will announce that. Before that, we are not going to disclose our plans.
Operator
Your next question comes from the line of Muzhi Li with Mizuho Securities.
Muzhi Li – Mizuho Securities
Jennifer, would you clearly give me more clarity on the definition of large customers like do you define them by the size of their spendings or their size of their revenues, et cetera? Thank you very much.
Jennifer Li
Large customers in our definition, they typically have a more comprehensive request when it comes to marketing and promotional efforts. And these players typically have a brand that they want to build and continue to enhance. So typically, if you name them, they are maybe a thousand of these large customers in the country and these are branded advertisers.
And as I mentioned, their service requirement is what will be more comprehensive. And their service needs is more sophisticated from both, their all perspective and requirement on the advertising platform.
Operator
Your next question comes from the line of Andy Lee with Standard Chartered Bank.
Unidentified Analyst
This is actually Ron here. I just have a quick question. Can you give a little bit more color on your overseas plan? Are you all planning to setup offices maybe in Chinese-dominated countries, for example?
Robin Li
Like I mentioned before, we are going to expand into many other markets for the years to come. We are internally developing a better infrastructure that will support much more languages and when it’s ready, we’ll be able to launch much more languages simultaneously. And around that time, we’ll be able to setup overseas offices. But right now, we are not ready to say, which country we are going into and how aggressive we will become.
Operator
Your next question comes from the line of (inaudible).
Unidentified Analyst
I have one question. Regarding the site Hou123? I want to know how much of the traffic contribution from Hao123? And how much revenue contribution from 123, if it possible?
Jennifer Li
Hao123 has been around for a number of years. There’s a very well known directory side and brand name. It does contribute some level of monetization. It’s a integral part of our overall service. We have not separately disclosed the traffic or the amount of revenue contributor from the side. But as I mentioned, it’s an overall offering that we provide to the marketplace as well as to our advertisers.
Operator
Your next question comes from the line of Andy Yeung with Oppenheimer.
Andy Yeung – Oppenheimer
My question is about your view on vertical search market. Some of your investment in parts such as (inaudible) and the auto, all have some vertical basic in them. So can you give us some insight into your view on the vertical search market? And how does that play into your future investment and product strategy.
Robin Li
We do see value in the vertical search areas. That’s why we make partnerships and investments in a number of companies in this sector. The value is typically they can customize a lot of data. For example, for Click, they have a lot of realtor data in the second-hand homes or those kinds of information that’s more structured in the database.
In the case of Qunar, we have a very large database of hotels. And we work with that can provide up-to-date information such as price per room night, those kind of information. We would like to tightly integrate this kind of information in our search results, so that our users are better served.
And on the other hand, because of the re-enhancement or the value of those vertical search players can add to this kind of data, they deserve to make money from this very important verticals. So we’d like to have certain kind of positioning in those leading companies to ensure that we do not lose the good user experience they decide not to work with us in the future. So this kind of investments or partnerships are win-win and it hardly brings any fair value. And at the end of day it’s better for our users.
Operator
Your next question comes from the line of Gary Ngan with UBS.
Gary Ngan – UBS
I have two questions, the first one is, just now Jennifer you mentioned that there is about a thousand launch customers in the country. So could you comment a little bit more kind of roughly the coverage ratio that Baidu has already established relationships with? And my second question is related to what Robin just now mentioned about Baidu’s interest in the social search or social related businesses.
So in your view, do you think that this social network i.e., Weibo and Facebook like type of SNS today in china are the long-terms mode of social networks or Baidu is thinking about some other really innovative and completely landscape shaking SNS mode in the future?
Jennifer Li
Hi Gary, I’ll take your first part of the question. About a thousand large customers, these as I mentioned are the branded advertisers. And they typically, you know these are the large customers that basically all the advertising media platform will approach. And they will take advantage of those marketing platforms.
So we are probably not much different from a customer per say as compared to other media platforms. This is more a matter of budget allocation. So historically these players will spend a lot more on the traditional media side. And with the internet and particularly search engine, we offer targeted performance based marketing platform. And we offer a full bundle of set of services to these and they are increasingly allocating more add budgets to our platform.
Robin Li
On the social front, our case is basically in brief and extent. We have added a lot of social features in our existing products, such as that app feature and the share features. We also have feed in some our products like a PostBar. We think in the future there are a lot of things we can do, starting from Qunar core offering, web search or search-related.
We would like to perfectly combine the people relationship with content relationship. In some cases, users are looking for contenting, in some other cases users are looking for relationships. We’d like to perfectly combine this tool and give user a home that they depend on. So we are indeed working on some new products that will better satisfy users need. In China there is no dominant SNS in this market. That give us a very good opportunity to innovate and lead leading markets like this.
Operator
You have a follow-up from the line of Eric Wen with Mirae Asset.
Eric Wen – Mirae Asset Securities
Robin my question is, how far is Baidu towards monetizing its Map product? And given the strengths of showing group buying companies, how much of those advertising are being integrated with Baidu’s mapped product?
Robin Li
Right now, the revenue from Map product is very insignificant, and we do not expect that to change in the near future. But Map is strategically important to Baidu, especially in the age of wireless internet or mobile internet. I’m not sure if we generated revenue from the group buying companies on the Map service, but it’s not important.
We’ve worked now to better Map service continuously so that people can find better local information, people can get connected to nearby people who share similar interests or who know each other. So Map is not a revenue generator. It’s not going to be in the near future, but it’s very critical in our overall net service bandwidth.
Operator
Your next question comes from the line of Hui Dong with HSBC.
Hui Dong – HSBC
I have a quick question for Robin. I think China e-commerce online advertising spending story has been with us for some time. When do you think this segment growth will pick and start to slow down?
Robin Li
I think China’s e-commerce market is in its early stage. It took off much later than search. That’s not the case in the U.S., as you know. These days, a lot of companies get funded, traditional companies, brick-and-mortar companies starting to increase the e-commerce trend. And more importantly, consumers are developing a habit of buying online.
So we see tremendous momentum going forward, and more and more companies well realize that the best way to do e-commerce is through Baidu. So we’ll continue to benefit from this trend for the years to come.
Operator
We are now approaching the end of the conference call. I would now like to turn the conference over to Baidu’s Chief Executive Officer, Robin Li, for his closing remarks.
Robin Li
Well, once again, thank you for joining us today. And please do not hesitate to contact us if you have any further questions.
Operator
Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Good day.
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