Here’s the entire text of the Q&A from Sohu’s (ticker: SOHU) Q3 2005 conference call. The prepared remarks are here. We recognize that this transcript may contain inaccuracies - if you find any, please post a comment below and we’ll incorporate your corrections. And please note: this conference call transcript is a Seeking Alpha product, so feel free to link to it but reproduction is not permitted without the explicit permission of Seeking Alpha.

Q&A

Operator

Operator Instructions Question by Dick Wei, JP Morgan.

Q - Dick Wei

Good quarter. I have two questions. The first is on Olympics. I try to understand it better; is there any direct revenue opportunity coming out from the Olympic sponsorship, meaning that would you be able to put on advertisements on the Olympics Web site or will you be able to have links from the Olympic's Web site to several sites where you can commercialize on it? And the second question is also on the Olympics. How much did you pay for the sponsorship given that it is a very sought after opportunity and how would you account for that and how would it impact the I guess marketing expense for your Company going forward.

A - Charles Zhang

Let me answer the first question. The Olympic Web site, which is at Beijing 2008.com is an Internet platform for if there is any partnering opportunity will be foe all the partners including companies like Adidas, China Mobile and Coca Cola and right now there is not clear opportunity for SOHU to advertise on that site so we'll build that site but SOHU has the responsibility to market that site so SOHU.com had the responsibility to use it as a content distribution channel to promote that site so you'll see links on the SOHU side to that site. And also if you look at a SOHU web site today, it's already with a SOHU logo and a combined logo of the Olympics, regional Olympics and that brings trust and basically endorsement from the BOCOG. That will give our current advertisers and those Olympic sponsors and partners confidence in SOHU platform and believer that this SOHU.com and its affiliated work site are trusted platforms so this will not immediate, but on long term for the few years will have impact on our advertising clients. And also not only for overall advertising clients but also for this specifically for these Olympic partners for their investment in sponsoring Olympics they normally spend multiples amount of dollar amounts to promote this sponsorship or partner ship, like Lenovo, like Adidas and Coca Cola. They spend much more money than the sponsoring amount itself to promote off line and on-line and through traditional media so naturally this will be a club of-- exclusive club of Olympic sponsorships and partners and who-- and supposed to help each other. That's actually in the spirit of the Olympic Committee to make sure that partners are successful. So these will have a more direct impact on the advertising of SOHU revenue.

A - Carol Yu

Dick, to elaborate on Charles response, the Olympics site, the Bokoff site, site belongs to Bokoff. We helped him and we'll provide exclusive service to help them construct and maintain and host that site. The site belongs to Bokoff so is the advertising space on that site so SOHU does not host the advertising space on that site but as Charles has mentioned, we provide links to that site. You can actually see it on our front page. Answering your second question regarding how much we paid for this, it is confidential. We do not disclose the amount but I can tell you that the consideration that we have to give in return for getting this honor is a cash portion plus a services portion, the services being as I have explained is to construct and maintain and host the site for Bokoff. The cash portion is advertised over the life of the contract, which is roughly about 38 months, and the cost for services is recorded on an as incurred basis and I have explained in my script that these two elements has been taken into consideration in the Q4 EPS guidance that we gave out. Thanks.

Q - Dick Wei

Thank you and congrats on the big sponsorship.

A - Carol Yu

I'm sorry?

Q - Dick Wei

I just wanted to say thank you and congratulations on the Olympic sponsorship.

Operator

Question by Jason Brueschke.

Q - Jason Brueschke

Thank you, two questions also, one on advertising and one on search. The advertising business was stronger than expected in the quarter. You indicated that 17173 probably did better but I'm curious if some of the verticals where you had trouble with at the end of Q2 in the southern part of china, did they come in stronger than expected? Could you also comment on your efforts that you initiated last quarter to diversify your revenues in the quarter? My question on search, could you maybe address two things? First of all, a little more color on your sales efforts in search? I know you did some reorganization of your distributors. Could you maybe give us an update on how many distributors you have and how this compares to your competitor and then secondly, could you give us a little color on your sales message in search? What is the message that SOHU takes out why people should advertise a search on SOHU relative to some of your competitors? Thanks.

A - Carol Yu

I'll take the question on the advertising side. South china we reported in the last conference calls the two trouble areas for us is our on-line games and some of our southern china clientele. We do not see much improvement from the southern china clients that we are seeing but we do not see further deterioration as well because as in last quarter we were concerned whether there would be further deterioration. In terms of diversification, we continue to do more in, as Charles has explained in his call, real estate, automobiles and IT and these still come in at very strong factors. IT.coms and on-line games are showing very good growth as well so this is on the advertising side. Regarding the number of distributors we have about 200 of them and maybe I'll turn the question, turn the floor over to Charles to talk about the search strategy.

A - Charles Zhang

For the search, as I described in a previous talk is a transition where we change the distributors structure from a sole distributor to a multiple distributor and also increase for competition so these two reasons contributes the lackluster growth. Normally search business would grow much faster but this quarter it's only 3% growth but we believe that we are looking at the long term. The long-terms success of search business is really depend on traffic. If you have a lot of traffic then you're guaranteed the search results. We have a pretty good network software. Networks of agents to sell our products. These networks are focused on selling the sogou search but we are transitioning to sogou search and that also the network is quite expensive and is focusing on selling sogou search and also SOHU's affiliated home Web sites. But now the efforts are shifting toward selling sogou search so the revenue and the side is less important compared to the traffic gross which the long term is guarantee offer discussed. That's how we've been focusing on, increasing traffic and traffic has grown 50% Q3 over Q2 internal data because Alexa is a-- people all look at Alexa and sometimes it's not an absolute standard.

Q - Jason Brueschke

Charles, I guess could you maybe comment on what your sales message is? If you're out competing for let's say a business and Baidu or Google guys are in there and they're trying to decide whether they should do search with you relative to one of your competitors, what's the message? Why would someone choose to advertise on SOHU rather than one of your competitors?

A - Charles Zhang

First of all SOHU is just a much more dominant brand name and over the years we've been developing these networks. We have very trusted networks and with the end clients and SOHU has been around for eight years and the distributors or end clients in the local towns and throughout china they know SOHU. The brand names of SOHU are much bigger than the other competitors and also the sogou is perceived as the newcomer with just a new generation of technology and with and also not only the page search but also a featured search better user experience like on news search or music search and also this-- we're in the process of upgrading our local map search because after that position go to map combined with the sogou technology so all these, first it's the SOHU brand name and also the sogou perceived as the new comer, the new kid on search and the traffic is really growing and also for users. These reasons combined will be perception to the end users.

Q - Jason Brueschke

Great, thank you.

Operator

Question by Paul Beaver.

Q - Paul Beaver

This is Paul Beaver for Safa Rashtchy. Congratulations on a good quarter. I was hoping that you could provide us with more color on the wireless recovery. Are there any particular services or new products that are doing particularly well? And also, just a quick clarification, was the decrease in gross margins of the non-advertising business related to the Unicom charge?

A - Carol Yu

Well, I mean for the wireless part is business as usual. We don't have any major new launch of products. This is a cautious recovery. The biggest growth coming in for Ethernet business, which is 23%. And to your second question, yes, the decrease in the margin mainly comes from the charge by Unicom.

Q - Paul Beaver

Okay, thank you.

Operator

Question by Richard Ji.

Q - Richard Ji

I have two questions. The first question I just noticed that some of your competitors have different leading and advertising categories. Yours, obviously, or your cost are in financial and the FMCG some of your closest competitors keep saying auto, property in IT sectors and I'm just wondering what costs is averaging and is this one--?

A - Carol Yu

Richard, let us clarify. Our biggest category is real estate, IT and auto and the categories that you mentioned is our fastest growing category, so one are the biggest and one are the fastest.

Q - Richard Ji

Okay, yes. Thanks for the clarification and what is your pricing trend and also advertising client base goals in the previous quarter?

A - Carol Yu

Pricing remains like what we have said all the time is hand-in-hand with our other competitors we increase prices every 6 months. We are looking at another one for 2006 right now and as we have explained many time on the call, we do not expect our revenue growth coming in through price increases because our revenue growth really comes from the spending budget coming from our customers, so that's answered the first part of your question and the second part is what? Sorry, I just missed that.

Q - Richard Ji

I guess you sort of addressed that. If you don't raise price clearly all of your advertising growth is more or less driven by client base expansion.

A - Carol Yu

Yes and more revenue from each client.

Q - Richard Ji

Yes, indeed and as to my last question, is regarding research and how would you structure a split between pay for performance and the fixed listing? What would be the breakout the potential--?

A - Carol Yu

About 30% P for P and 70% fixed right now for us.

Q - Richard Ji

And will you expect that trend to persist or you may shift to do more P-to-P type of listing?

A - Carol Yu

We've actually seeing more P-to-P coming in slowly for us, yes.

Q - Richard Ji

Okay, thanks.

Operator

Question by James Mitchell.

Q - James Mitchell

This is rather a technical question, but if I look at your revenue from non-advertising, non-wireless, non-ecommerce, others than I think it improved from 1.7 million in the second quarter to 1.8 million in the third quarter. I understood that you started consolidating Go2map in June, so I was surprised that there wasn't a bigger revenue increase. Can you talk a little bit about how much Go2map contributed to the other non-advertising revenue?

A - Carol Yu

Go2map has a very small operation and as we have explained when we did the acquisition that we did buy it because for revenue purposes, so the revenue that comes in is very small. The bulk of that non-advertising revenue comes from our on-line games business.

A - Charles Zhang

Go2map --

Q - James Mitchell

Pardon?

A - Charles Zhang

Go2map, we bought the Go2map for its technology, for its geo system. The geo information system and once we bought it; it was still under, with the sogou technology development we are going to launch. Now, we, actually next week we are going to launch a sogou version 2.5 and after this sogou version 2.5 we will upgrade early 2006 our local search based on sogou technology and the Go2map's information system, so it will be we expect this new map search and local search to bring-- to continue to accelerate the traffic growth of sogou and when the traffic grow to the map search become a good percentage of our overall traffic, we believe we will be able to monetize through spot search and advertising.

A - Carol Yu

And James to answer your question in--

Q - James Mitchell

My second question is a more general one. I think you're guiding for mid-twenty percents year-on-year revenue, advertising revenue growth for '05. And that's with the difficult Olympics comp in '04 and with some weakness in the first half of the year from property and from Southern China I think you said. For 2006 do you think that you can accelerate that year-on-year advertising growth rate up to around 30% or do you think it will be similar?

A - Carol Yu

For the first nine months we-- the year-on-year growth for advertising sales is 27%, as Charles has explained in this call. With the Olympics and everything we would like to assess the 2006 growth on the next call because we just signed an Olympics deal and we are in the process of signing up three more contracts for next year and, James, to answer your earlier question Go2map accounted for less than, or around $400,000 of revenue for Q3.

Q - James Mitchell

Okay and then sorry, just to follow up on my first question. So Go2map was 400, so other was 1.4. Other includes on-line games?

A - Carol Yu

Yes.

Q - James Mitchell

Okay. It just looks awfully clear, as if something was slightly weaker quarter-on-quarter in that mix because I think Go2map went from 100 and something in the second quarter to, or 200 odd in the second quarter to 400 in the third quarter?

A - Carol Yu

Right, so what's your question? Sorry, maybe I missed it.

Q - James Mitchell

That's okay. We can pursue it offline. It's not going to change my model radically. Thanks.

Operator

Question by William Bean

Q - William Bean

First question, could you just give us an update on your game strategy, your internal development team, where they're at, how big they are and any update on strategy there?

A - Carol Yu

We have an in internal development team about 60 people working full time on our next new game. We continue to see game strategy as part of our community strategy. As Charles has explained, we now have the biggest community in the Internet space, China Rand and the PBS and Blog and so on, so we will continue to use our game products to increase the cohesiveness and stickiness of our community and we expect to launch this new game, which is developed in-house sometime next year.

Q - William Bean

So that's non-per-- you're not going to charge using the traditional methodology? You're going to really use it for stickiness?

A - Carol Yu

No. It will be another Animal preachy game, but it would be a centerpiece of our community strategy instead of just growing the games itself.

A - Charles Zhang

The new game is a stand alone RPG game that you will be using a traditional collection payment structure to monetize, but we also have many other kinds of games and also the-- we laid the line-on-line free and also we've-- so these kind of games and the free on-line, the previous games will contribute to the overall-- it will be built based on the large communities that we are developing and it will increase the overall Web site cohesiveness, stickiness.

Q - William Bean

Okay, great and could you just give us a sense of how you're thinking about marketing spend for wireless value added services going forward fourth quarter and maybe beyond, if you could comment on that? Thanks.

A - Carol Yu

Sorry, can you repeat that question?

Q - William Bean

Sorry, marketing spend for wireless value added services, how is that going to trend going forward?

A - Carol Yu

We intend to grow that business cautiously without any major marketing expenses. It would be very marginal.

Q - William Bean

Okay, thank you.

Operator

Operator Instructions Question by Ming Zou (ph) from Susquehanna Financial.

Q - Ming Zou

Two questions-- one, on the search engine sites could you explain why the search engine-- the search revenue margin was down for the quarter? Also, could you give us more color on the sogou 2.5 version, what kind of new features we will look at for this new version? And if you could then the number of clients for the search business that you can update us with? Also, the other is on the gaming side. For the Late On-line it went free in October, do you guys--

A - Charles Zhang

Night On-line.

Q - Ming Zou

Night On-line, sorry.

A - Charles Zhang

Night On-line.

Q - Ming Zou

Okay Night On-line went free in October; do you see any momentum picking up in the user number? Thank you.

A - Carol Yu

On the search engine the margin decreased primarily because of certain map data collection costs as we put it through as cost of revenue because map becomes our content and the maintenance cost of that would be going into the cost of revenue and also the additional servers and bandwidth that we need to put in due to increased traffic are for the number of clients we have close to 40,000 clients up to now and I will leave the 2.5 question on sogou to Charles and then I will answer your Night On-line question first.
User number goes up. It's 3,000 before it goes free and is right now over 10,000. We are seeing picking up of these selling of virtual good products from this free game now, so Charles?

A - Charles Zhang

Similar to the upgrades in February 2005 from version 1.0 to version 2.0 this version 2.5 first of all will be a good increase of the number of Web pages indexed. It was upgraded to 1 billion pages, but now it will be upgraded to even more pages, but with more quality pages and also, the search algorithms and the data IOE input/output reading and the typology of the server frame will be resulted in a fast response of the search. A more accurate guess at the searchers intention to search, not only for the Web site navigation, but also for information navigation, so there's few parameters that search business-- this search engines are measured are upgraded, so-- and there will be-- we believe that will be strongly-- it will felt by users and will be a result in the Web page search traffic. While developing this page search quality, response time, accuracy and we also we have achieved success in specialized research, which are a lesser challenge, but based on the overall search technology for specializing the search like our music search and like a news search and so it's I think this version 2.5 is a-- I would say on the same level of upgrade as we did in the February and as you remember in February once we upgraded as version 1.0 to 2.0 the traffic has grown much faster. The correlation of traffic and the quality of the search are quite related, quite direct.

Q - Ming Zou

Thank you.

Operator

Question by Lei Huang.

Q - Lei Huang

Two quick questions. Regarding the Olympic games, the exclusive content deal, does it include the wireless value added service portion or is that just on the Web site?

A - Carol Yu

We are under the contract with phone call we are required to construct a Web version of the site as well.

Q - Lei Huang

Okay, so would you be able to get the exclusive content deals afterward for the wireless value added content offerings or is that still in discussion?

A - Carol Yu

Well it is-- we haven't talked about that yet, but we do have the contents.

Q - Lei Huang

Okay, sounds great and the next one is a small line item on your income statements.

A - Carol Yu

Debts?

Q - Lei Huang

The other income it turned positive this quarter versus negative during the past few quarters. Can you tell me what's in there, please?

A - Carol Yu

We have a tax exemption granted by the government and we reverse it in accruals that we made in previous quarter, so that number turns positive.

Q - Lei Huang

I see, so going forward how shall we be thinking about in terms of modeling that line item?

A - Carol Yu

It will be pretty immaterial. It won't be something big.

Q - Lei Huang

Okay.

A - Carol Yu

One way or the other. From time to time we will have some one-time charges or one time quote "gain" that we'll put into that item, but it will not be anything material.

Q - Lei Huang

Sure, okay. Thank you.

Operator

Question by Wallace Chung.

Q - Wallace Chung

I think two questions. First one, regarding the impact of Olympic deals, should we expect, in terms of margin, should we expect the Company have to spend a little more on service and bandwidth in, say, in the first two quarters of '06 and then revenue will come in the later half of 2006? And second question is regarding the strategies on the music search. You know, recently there's a lot of discussion regarding the lawsuit on some of your competitors. Because of that would you change your strategies on music search?

A - Carol Yu

I'll take your first question on the Olympic cost and revenue part. No, we do not expect the revenue, the major costs to come in for the first two quarters of 2006. The reason for that is because we expect the bulk of the traffic to come in really at the '08 when the games are there, so right now the traffic on that Web site is very affordable as far as our existing infrastructure is concerned, so it would not have a major impact on the cost structure for the bandwidth and server, or depreciation on service and on the music search I'll turn it over to Charles.

A - Charles Zhang

The music search in China is a unique phenomenon because the traditional record music industry was not making much money because of the piracy, so that kind of-- that's why on-line music also reflects that traditional musical industries situation. The-- right now there's the lawsuits with our competitors and it's a collective group thinking in terms of label companies and search engines and also the Web sites that providing MP3 music. I think it will take some time for this group discussion to continue and eventually there will be a new value chain might be able to be established on the on-line music distribution, which is either direction for the future of musical distribution. Unlike in the U.S. where the musical industry already makes huge amounts of money and in China it's actually is really exploratory for us where multiple parties are searching for the right business model, so we believe that this on-line distribution for the free music will continue for a while and then eventually there will be some paid music business model emerge, so sogou music search will continue and not only on searching, but especially by providing the best listening software to enable, enhance user experience and then for users to manage their music, so when music, paid music and copyrighted music, everything becomes mainstream our technology and software continue. And also, these music searches are also bringing traffic that will stay and for the users to search our Web pages and news and other searches, so it is a long-term strategy.

Q - Wallace Chung

Okay, I just have one simple follow-up, so regarding the top-line impact from the Olympics, should we expect that it would come actually in 2006 starting from which quarter?

A - Carol Yu

We just got it literally a couple of days ago, so we will give out the specific guidance on the outlook of our advertising revenue on our next call.

Q - Wallace Chung

Okay, thank you.

Operator

Thank you. Ladies and gentlemen, due to time restraints we are unable to take any further questions at this time. I'd like to turn the call back over to Mrs. Shea. Please go ahead, ma'am.

Ingrid Shea, Investor Relations

Thank you. We would like to thank everyone for participating in today's call. The management team will be on the road in the U.S. to meet with investors in early December. Please contact us with any additional questions that you may have. Thank you, very much.

Ingrid Shea, Investor Relations

Thank you.

Charles Zhang, Chairman of the Board and Chief Executive Officer

Thank you.

Operator

Ladies and gentlemen, that does conclude our conference for today. Thank you for your participation. You may now disconnect.

Related:

• The prepared remarks from this call are here.
• All China Stock Blog articles on Sohu.
• A list of full conference call transcripts available on the Seeking Alpha Network.
• The complete list of China stocks (and links to articles about them) covered by The China Stock Blog.

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