It is never a good thing when a stock “breaks” its IPO price shortly after the initial surge from its post-IPO fever is over. And that’s exactly what we saw happen with RenRen (NASDAQ: RENN), the so-called “Facebook of China.”
RenRen combines two of the hottest Internet stock concepts: social networking and group purchasing. It operates a large social network in China that is similar to Facebook, as well as a group purchasing site that provides daily deals on local services and cultural events similar to Groupon.
However, as I predicted, the RenRen IPO was too hot too handle. In the past few days, the stock has plummeted down below its IPO pricing of $14 — a steep 40%-plus drop from the $24 high it saw on its first day of trading just one week ago!
This is reminiscent of U.S. Internet stock performance back in late 1999 and 2000. At first, Internet stocks would surge on the first day of trading, and then continue those gains for the months ahead. But about a month before the market top in March 2000, Internet IPOs began to break below their IPO prices, sometimes on the first day of trading.
Game Over for Chinese Internet Stocks?
I don’t think that RenRen’s performance is necessarily a bad omen for Chinese Internet stocks, but it does emphasize the need to pick and choose rather than haphazardly buying just any Chinese IPO that happens to combine a few of Wall Street’s favorite buzzwords.
As I previously mentioned, there were several red flags here, including tepid growth, a lack of user engagement, and competition from more established Chinese Internet companies that has eroded the RenRen’s userbase.
None of this is what investors want to see when shares are priced at such high valuations. In fact, despite selling off more than 40% from its post-IPO high, RenRen still trades at 70 times sales. Compare that with the 25 times sales that Facebook shares fetch in the private markets!
So, rather than spending more time on RenRen, let’s take a look at four other more established and fairly valued Chinese Internet stocks that are likely to hand you significant gains in the next year.
Chinese Internet Buy #1: Baidu.com (BIDU)
Although RenRen is overvalued at the moment, that doesn’t necessarily mean it won’t be a viable investment someday. I say this because Baidu.com (NASDAQ: BIDU) also had a tough time in the first couple of years of its post-IPO existence. It took Baidu a full two years to take out its post-IPO high, but when shares started moving, wow, did they move fast!
In the past five years, BIDU shares are up a whopping 2,100%, illustrating the potential gains to be had in the Chinese Internet stocks. Now, we didn’t get in quite that early to BIDU shares when I launched my China Strategy service, but we still managed to lock in an impressive 368% for our portfolio.
Really, success in the Chinese Internet space comes down to operational performance. Baidu understood their customers better than their competitors, and as a result, the company enjoys a monopoly on the online search business in China today.