Baidu’s AI bet is more than it can afford

6 min read
Baidu was present at CES Asia 2019, where it showcased the latest developments of the Baidu Apollo system in Shanghai, China on June 11, 2019. (Image credit: TechNode/Eugene Tang)
Baidu was present at CES Asia 2019, where it showcased the latest developments of the Baidu Apollo system. (Image credit: TechNode/Eugene Tang)

DeepMind’s losses of $570 million last year laid bare the challenges facing the artificial intelligence sector. But the Alphabet-owned company is not unique in the land of AI industrialists. Baidu, the most ardent AI advocate in China, may have lost a lot more. Worse yet, its wager on AI may go the way of its failed online-to-offline push from several years ago.  

There is no question that companies must invest in AI to succeed in the future, and losses are natural in the initial stages of developing and commercializing such an emerging technology. For Alphabet, which pulled in $137 billion last year with operating income of $26 billion, sustaining over half a billion dollars in losses at DeepMind is a reasonable price to remain competitive.   

But for Baidu, with a stock price that has fallen by more than half over the past five years (Alphabet’s share price doubled in the same period), its margin for error in AI is significantly narrower. The failure or success of its AI strategy will play a more critical role in determining the future of Baidu.

The key questions are: How much has Baidu burned in its AI bet? What do potential returns on such an investment look like? NASDAQ-listed Baidu does not break down the financial performance of its AI operations in its filings. But based on estimates from public disclosures and industry sources, Baidu could be losing billions of dollars on its AI push. Worse yet, the possibility of a handsome return appears dim.  

Road to nowhere

Let’s first look at Baidu’s investments in AI. The company has directed significant funding into developing two AI projectsautonomous driving and smart speakers. 

Baidu’s Apollo autonomous driving unit is its most capital-intensive. The firm runs the largest fleet of autonomous driving test vehicles in China. According to a report from the Beijing government, Baidu has 45 registered test vehicles in the capital. The total number of test vehicles across China, registered and unregistered, could be several hundred, according to sources. The cost of setting up an autonomous vehicle is around RMB 1 to 2 million (about $140,000-$280,000). Using a conservative estimate of 200 test vehicles at mid-range per-unit cost, that amounts to Baidu’s having spent RMB 300 million on just setting up its test fleet.

Baidu’s Apolong autonomous buses, which aim to provide shuttle services in closed environments like parks at around 10km per hour, cost over RMB 2 million per unit, a figure I have confirmed with my sources. With a list price of RMB 1.5 million, Baidu loses RMB 500,000 for each bus sold. Last year, the company said it achieved “volume production” as its 100th bus rolled off the production line. That means RMB 200 million in investments, and potentially RMB 50 million in losses if Baidu sells all of those vehicles. The actual loss could be higher, as some buses are still sitting in warehouses and each of them requires maintenance and after-sales services, according to sources.

The company has also secured around 100 autonomous driving pilot licenses in China, five times that of the next industry player, according to its Q2 earnings report. Considering that obtaining such permits requires a lot more capital in China than elsewhere due to mandatory testing at expensive designated centers, this represents another major expenditure.

Then, there is the cost of expensive AI talent: between 1,500 and 2,000 for the Apollo team. As the average annual salary for AI engineers in China is around RMB 360,000, according to jobs listing company Boss Zhipin, the salary cost of the team is at least RMB 630 million a year. Actual costs could be much higher as Baidu tends to hire top-tier talent and runs a large US team, whose salaries are much higher.    

It’s impossible to estimate Baidu’s total AI losses: It’s a complex accounting effort that can be only done by its internal finance team, dependent on thousands of accounting decisions. What I listed, including both AV and speaker amounts to roughly $500m, and that’s just a very small part. 

Perhaps the most direct yardsticks for Baidu’s total losses in autonomous driving are its peers. GM Cruise is the only notable autonomous driving unit that has disclosed its financials. It suffered total losses of $1.5 billion for the three years 2016-2018. Baidu Apollo has around 1,900 staff (this number has dropped as Baidu is reportedly shrinking the team size), more than that of GM Cruise, which is over 1,000. Baidu’s testing fleet is also bigger than that of GM Cruise (less than 200 vehicles). It would be plausible to ascertain that Baidu is suffering greater losses than GM Cruise’s $1.5 billion for the same period.

Baidu has made two critical mistakes in self-driving: First, it should have spun off its self-driving unit, like Alphabet did to form Waymo in 2016 or like Didi Chuxing did two weeks ago. The industry now realizes that it will take much longer than initially anticipated to realize L4 autonomy and the robotaxi business model. Apollo once aimed to achieve full autonomy on highways and urban roads in 2021. Nobody in the industry believes that target is remotely feasible. If Baidu had spun off Apollo last year, it could have raised capital at very attractive valuations. The longer it waits, the more realistic investors will become when considering prospects for self-driving and its price tag.

Second, Baidu’s bet on the Apollo Open Platform is an idea that is going nowhere. Taking a page from Google’s Android, Baidu created the Apollo Open Platform in 2017, hoping to become the Android for self-driving. Two years later, it’s clear that nobody—from traditional carmakers and autonomous driving startups to tech providers—wants to share their data with others. It’s also questionable whether sharing data across different locations, vehicle models, and road conditions makes sense for advancing self-driving. One source said that Baidu Apollo is an open ecosystem with only one player: Baidu Apollo itself. Most of the 145 Apollo partners are participating only nominally. 

Full of sound and fury

Baidu’s second huge AI expenditure is smart speakers. According to Canalys, Baidu shipped 11.6 million smart speakers from 2018 to the second quarter this year. As Baidu prices its smart speakers below cost to grab market share, the company is losing around RMB 200 per unit sold. That equates to RMB 2.3 billion in total losses just on speaker sales alone.

Compared to its competitors, Baidu has little chance of turning around these losses: it appears to be fighting for an entry point leading not to its strengths, but to its weaknesses. Baidu’s vice president at its smart living group Jing Kun said in an interview that Baidu will first try to monetize smart speakers by providing content-based subscriptions. But content is not Baidu’s strength in light of Toutiao’s incursion onto its turf. Apple, for example, aims to profit from its speakers by bolstering Apple Music subscriptions. Tencent is the absolute leader in China’s digital music scene with a market share of over 60%. Even after taking into account users gained via investment in NetEase Cloud Music, Baidu’s share remains in single digits.

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Besides music and other content, e-commerce, smart home, digital payments, gaming, and local lifestyle services are potential areas where smart speakers can be monetized. In all of these areas, competitors are in a much better position to leverage their smart speaker market share. Alibaba can naturally link its smart speakers with e-commerce. It also has a robust content platform with Alibaba Music and Alibaba Literature. All of these help to reinforce Alibaba’s digital payment business. Tencent also has colossal gaming, literature, music, and online payment businesses that can be bolstered by smart speakers. This is not true for Baidu, which is weak in each of these areas.

Signifying nothing

Combined, Baidu could suffer losses of several billion dollars on new AI projects. This is significant as a ratio to its $14.8 billion revenue and operating income of $2 billion for last year. When it comes to investing in AI, Baidu has followed the footsteps of Alphabet whose revenue and profit are nearly 10 times as large. But the Chinese search engine can’t afford to up the ante on this scale.

The hope, of course, is that betting big on AI will redeem the struggling giant. But the chances of Baidu succeeding in its AI strategy within the next five years is low. Investors should remain highly cautious of Baidu’s bet on AI and its potential outcome.