Nine Questions About Baidu's Paid Search Ads, From Consumers, Agencies and the Industry

How much does the advertising habit of the "Putian-linked" private hospitals reveal about a business model?

This article began with a simple question: what is really going on with the online medical ads run by hospitals from Putian, in Fujian province? Why are they so expensive? How much do they reveal about a business model? And why did the story break?

From March 22, a document circulated online under the name of the "Putian (China) Health Industry Association," titled "Notice on Halting All Paid Online Promotion." It said that online promotion had become too expensive to sustain and had turned into something close to a vicious circle, so the association would require its 8,600 member organizations to stop all paid online promotion from April 1. The target was obvious: Baidu, which had taken the largest share of their ad money.

At a meeting in Putian on April 4, most members accepted the demand and acted on it. According to the association, by 3 p.m. on April 6, 98.2% of members had stopped bidding for promotion on Baidu, and only about 150 medical institutions nationwide were still advertising.

Baidu hit back unusually hard. On April 8, in a statement on its official Weibo account, it said the methods the Putian-linked hospitals were using to make their clients stop advertising were no different from "gangster" tactics. Baidu would never give in to fake medical institutions, it said; it had reported the matter to the police and was technically blocking malicious clicks.

The Putian association replied that same morning that it would "fight to the end." But on April 9 it issued another statement: "If both sides reach a consensus, the suspension of cooperation with Baidu will end at midnight tonight."

So a confrontation that had looked so explosive was over in less than half a month. The "promoted" labels, the "blue V" verification badges and the chat pop-ups on search results pages, along with the keyword advertising model behind them, will carry on.

By now you may have more questions. What exactly is this kind of medical advertising? Why does it cost so much? And once it had become a business model, when and how was it exposed?

The "Putian (China) Health Industry Association" in fact speaks for the great majority of China's private hospitals. The country has more than 11,000 private hospitals, and Putian-linked money controls more than 8,000 of them. They range from fully legitimate high-end private hospitals and public hospitals bought outright to small private hospitals that live off keyword promotion and departments inside public hospitals that are leased out to private operators.

For Baidu, paid search ranking has been the business model since 2001. It is a form of online promotion paid for by results: for any given keyword, whoever pays more is ranked higher on Baidu's search results page, and that is the promotion.

By the first half of 2003, paid ranking already accounted for 80% of Baidu's revenue, and it helped carry the company to a successful Nasdaq listing soon after. In each of its first 14 quarters as a listed company, Baidu's revenue at least doubled year over year. In 2014, Baidu's revenue from online marketing reached 48.495 billion yuan, nearly 99% of the total. It had about 813,000 active online marketing customers, each bringing in about 59,400 yuan on average.

But paid ranking is also the business model outsiders attack most. Baidu's critics include not only commercial media outlets that dig into private hospitals year after year, but also China Central Television (CCTV). In November 2008, CCTV ran reports on Baidu two days in a row, exposing false advertising and extortionate sales practices, and questioning both whether the paid-ranking model was legitimate and whether Baidu's organic search results were fair.

The day after the CCTV reports, Baidu chairman Robin Li called in the company's entire senior management to work out a response. On the afternoon of November 17 that year, Baidu took every medical keyword offline and began reviewing them again behind the scenes. It also announced that it would finish its new advertising system, "Phoenix Nest" (Fengchao), as quickly as possible.

Since then, new advertising systems such as Phoenix Nest, together with more complicated promotion rules, have helped Baidu ride out some public relations crises. But this year's Putian affair makes us ask again: when an ordinary patient, or just someone a little worried about his health, opens Baidu and types in a keyword, what does he see? And behind the screen, who has a stake in watching him?

Besides the hospitals, what do the specialist search "agencies" do?

For many private hospitals that rely on online promotion, the "online department" matters more than the departments that actually treat patients. Its staff are not doctors or publicists but search engine optimization (SEO) specialists, consultants, bidding specialists and the like. A large part of their job is dealing with search engine companies such as Baidu and 360, getting patients to click on search results and so steering them to the hospital's website.

As the price of some keywords climbed, some small Putian-linked hospitals that could no longer "afford" the ads found a workaround: several hospitals pooled their money and applied for approval in the name of one of them. Customers who clicked were passed to live service staff, who then sent them on to different hospitals.

Over time, more specialized agencies took over this work. QDaily interviewed two online promotion professionals who do it full time in a first-tier city. The agency models behind them differ in small ways (both interviewees are identified below by pseudonymous surnames to protect their privacy):

Mr. Lu's promotion company is run as a group of four subsidiaries with more than 3,000 employees in all. It handles certain departments at dozens of hospitals in Beijing, Henan, Hubei, Jiangsu, Anhui, Shenzhen and elsewhere, and its staff don't need deep medical knowledge.

Mr. Wang works for a smaller, more upmarket firm. It represents well-known hospitals in China's first-tier cities and handles high-margin specialty departments, such as ophthalmology, that also demand more specialist knowledge.

Put simply, their job is to log in to accounts opened by the hospital or the agency, build keyword combinations in Baidu's advertising back end, adjust bids in real time, and track how the ads perform. To earn more, some agencies even take over the hospital's patient-guidance service, whether automated or staffed.

Agencies know which keywords people usually search for

Under Baidu's current model, it runs branch offices that manage advertising directly only in first-tier cities. In the far more numerous second- and third-tier cities, agencies are almost the only way private hospitals can advertise. And the agencies that have sparked the fights between Baidu and private hospitals in recent years are often these very firms, registered as "medical investment companies."

When negotiating with Baidu, these agencies often represent several or even dozens of medical institutions at once. They push for a single framework agreement covering all of them, then divide the advertising resources among their clients. That way, hospitals that Baidu has taken offline, or that never passed its review, can get around Baidu and into the ad system through the package deals of these "traffic dealers."

In reality, though, an agency's core work is building a sales network, or running a better-targeted call center. Its real competitive edge is that it understands Baidu and the people who use it. So private hospitals new to the business often find that hiring an agency saves far more time and effort than doing the advertising themselves.

Mr. Lu told QDaily: "The kind of keyword tells you the patient's state of mind. The most appealing words aren't necessarily the most expensive. But the keywords the industry agrees are high-priced are usually very precise combinations, such as:

'Place + treatment + condition + good' means the patient has already decided to get treated and is weighing which hospital is good;

'Place + treatment + condition + price / how much' means the patient is set on treatment and just doesn't know whether he can afford it. This one doesn't work as well as the first, but they're both high-priced words."

Once these variables are added, the price of an attractive enough keyword combination can be pushed very high. This not only sends advertising spending soaring but also intensifies cutthroat competition among Putian-linked hospitals treating the same conditions.

Then the agency tells the hospital how to buy keywords

Once the keyword combinations are worked out, the most competitive part of the agency's job is done. The rest is largely mechanical: set keyword prices as the system requires, and run them through the hospital's account at set times and in set places so the keywords get more clicks.

After the CCTV exposé in 2008, Baidu launched Phoenix Nest, an advertising system closely modeled on Google AdWords. On the surface, Phoenix Nest greatly reduced the "human intervention" that had drawn so much criticism. In practice, hospitals and agencies found it no cheaper than the old paid ranking:

• Besides the advertiser's bid, a quality score for the linked content also became one of the factors in ranking search results.
• Openly posted prices gave way to "blind bidding": advertisers cannot see one another's bids and can only set their keyword prices within a reference range the system suggests.

Mr. Wang told QDaily: "Every time you price a keyword, the system tells you the minimum you'd have to bid to make the top ten search results. But everyone in the industry feels the system's price is already on the high side. ... And the final ranking algorithm isn't public, and no parameters are disclosed, so it's hard even to know where to start improving your page quality."

The hospital never sees these difficulties. All it has to do is keep topping up its account with advertising money as needed to keep the promotion working. The flip side is that even when money is pouring out, the hospital cannot simply stop advertising.

This is why the Putian-linked hospitals feel they spend too much

In its complaint about Baidu's bidding system, the Putian association gave an example: for the keyword combination "best men's health hospital," a single click cost 600 yuan in 2011 and has since been bid up to 999 yuan.

Both agency staff said they almost never see a price of 999 yuan in their daily work, but for a condition keyword that brings high returns later on, or for a keyword combination that works exceptionally well, a few hundred yuan per click is normal. Mr. Wang went further: for the department he handles, the baseline is spending 10,000 yuan a day on ads, and 1,000 yuan can be gone after a dozen or so users click their mouses.

On top of this heavy daily spending, hospitals also carry the larger cost of committing to advertise over the long term. At Baidu, this long-term commitment is called a "framework agreement," and it cannot be changed at will:

"This year, every company that has signed a framework agreement with Baidu must spend 10 million yuan on advertising. Those that hit the target must raise next year's spending by another 40%, and in return can use a rebate of about 30%-40% of this year's spending. In other words, at 40% growth you have to pay Baidu 14 million yuan next year to use this year's rebate of 3 million or 4 million yuan." The owner of a Putian-linked hospital once told a Caixin reporter that if a hospital misses its target, Baidu blocks the account and takes it offline, and the rebate is forfeited.

So how high are the hospital's costs?

After reading all this, we suspect you will think twice before clicking on those links in the first few pages of Baidu's results that look so good and seem to promise an answer to your troubles.

But suppose you are brave enough to click one, pay a private hospital, and in the end get your minor ailment cured. We'd like to help you do one more sum: who got your money?

To earn back their spending, some Putian-linked hospitals pass the cost on to patients through higher prices for drugs, tests and treatment. A former employee of a small Putian-linked hospital told Caixin: "A drug that costs a dozen or so yuan at an ordinary hospital sells for four or five hundred at a hospital that advertises on Baidu. The biggest thing is test fees: an ordinary hospital charges two or three hundred, and at our hospital it's at least a thousand." Every doctor, he said, has a sales quota: each patient who walks through the door must bring in at least 1,000 yuan. Doctors who miss it are fined, because otherwise the hospital loses money.

Mr. Wang gave QDaily a different breakdown. Suppose a private hospital in his city treats a patient who found it online, and makes 10,000 yuan in profit on the full round of tests and treatment. How is that money split?

• At least 10% goes to cover the advertising already spent, and all of it is paid to the agency.
• The hospital's share is the rest: fees and kickbacks on treatment, surgery and drugs. This goes to the attending doctor, and if surgery is needed, the doctor may take a commission of more than 10% of the price.
• Costs other than paid ranking are actually small, and can be trimmed further through the keyword mix, ad timing, sales scripts and other levers, raising the gross margin even more.

How do agencies deal with malicious clicks?

In Baidu's response to the Putian association, "malicious clicks" were one of its accusations: members that kept bidding on high-priced keywords would have their ads clicked directly by rivals and suffer heavy losses.

And in private hospitals' online advertising, clicking on other hospitals' high-priced keywords, and even bidding on each other's exact keywords, is part of the daily routine:

Mr. Lu's company represents a large number of hospitals, and the conditions they treat generally don't eat into public hospitals' business, so they don't bid on each other's keywords. But nearly every ad specialist at the company has been hit by malicious clicks, and the remedy is to "pay it back double":

"Putian hospitals are actually not allowed to click on each other's ads. When it happens, we use a few dozen spare computers in the office to click back, because we're not going to just take it! The other way is to get the bosses involved. They're all from the same home villages, so things don't get too nasty, not like some small companies that will block the hospital entrance or even turn up and beat people."

How much does Baidu make from all this?

In essence, competitive ranking in search is no different from a TV station auctioning ad slots: the customer who pays more gets the better spot, and although the cost keeps rising, it saves time and effort. As for Baidu, a not very complicated ranking algorithm lets it lock in more revenue than before.

For its medical customers, Baidu in fact offers more detailed, more targeted and more expensive advertising packages. Take its "Brand Starting Line" service. Baidu prices it in two categories, "non-medical industries" and "the medical industry." The starting price for non-medical industries is "2,200 yuan/month/promotion unit"; for the medical industry it is nearly 10 times higher, at "21,000 yuan/month/promotion unit."

Baidu's latest annual report does not say how much the medical sector contributed to its 48.495 billion yuan in online marketing revenue in 2014. But Baidu said: "Medical advertising growth remains very strong, and it is still one of the industries contributing the most revenue."

Go back one more year: Baidu's 2013 annual report showed that advertising from five sectors (medical care, services, education, travel and finance) contributed 54% of its revenue that year.

Some industry research firms have offered their own estimates. A JPMorgan analyst report estimated that medical advertisers accounted for about 15%-25% of Baidu's total revenue in 2014, with 30%-50% of that coming from private hospitals. An analyst at Nomura Securities, in an interview with Barron's, estimated that ads from private hospitals in Beijing, Shanghai and Guangzhou alone could account for 10%-15% of Baidu's advertising revenue.

Why is medical advertising the biggest slice?

As a business, the private hospital is a fairly extreme case of an "advertising-driven" company:

Patients and doctors know vastly different amounts about medicine. This extreme information gap means patients readily choose where to seek treatment based on ads. The high fees they pay for diagnosis keep the hospital running day to day and also pay for the next round of ad buying.

Competition in the industry is fierce, yet the advertising channels are largely limited to search engines such as Baidu, Sogou and 360. The two sides look like partners who depend on each other, but in reality the channel owner holds the bargaining power to keep raising prices.

Medicine is not the only industry driven by advertising

As we noted earlier, besides medicine, services, education, travel and finance are also industries that have to spend heavily to fight it out on search engines, because what they need most is not brand image or goodwill but actual orders.

The same holds for Google. The heavy overlap in recent years between Baidu's and Google's most expensive keyword categories shows how much sales-driven companies depend on search engines.

Another example: in April 2014, Darren Huston, CEO of Priceline, the largest online travel company in the United States, told Bloomberg that he gives 90% of his online ad budget to Google each year (about US$1.62 billion). "We've also put a lot of ad money into Facebook and Twitter, but we didn't get anything out of it there."

Before mobile advertising, and even online brand advertising, took off, keyword ads embodied the value of early internet advertising: they could make search more useful for the people searching, and push small and medium-sized businesses to make their web pages more relevant and better at selling, so as to attract better prospective customers.

Hundreds of millions of internet users search in ways that look random but follow patterns. A company that learns which words consumers use, and especially one that extracts the keywords they search for and builds them into its website, can get its content ranked nearer the top of the results and raise the odds of being clicked. So the question of who gets to appear where consumers are most used to clicking became a business for search engine companies.

Let us return to an ordinary patient, or a patient's relative, without much experience of the world.

He sits at the computer, frantic with worry.

Going by his rough grasp of the symptoms and the illness, he comes up with a few keywords and types them into Baidu's search box.

The first few results on page one look very good, and come with a button to consult directly.

Click, consult, visit in person, pay.

A few hundred yuan flows out of the hospital's Baidu account and is booked as Baidu's revenue, and the agency that ran the ad takes its commission.

Later, once he has learned a few basic facts about his condition, he may start to doubt the treatment he got at the private hospital and decide he would have done better to go to a trustworthy top-tier public hospital.

So now he goes through it all: queue for a number, queue to see the doctor, a two-minute consultation, queue for tests, buy the medicine, pay.

The private hospital that has lost the patient will blame the agency for choosing keywords that didn't lead to a sale. It may replace the agency, or demand that it come up with more solutions.

In the end, the winner is still Baidu.

This is not a good business.