Baidu Shares — 3 Pros, 3 Cons

According to Forbes, Robin Li is the richest person in China, with a net worth of $5.64 billion.  It was in 1999 that he started Baidu (Nasdaq:BIDU), which is essentially the Google (Nasdaq:GOOG) of China.  The company’s market cap is now about $48 billion.

Baidu has certainly been a big friend to its shareholders — the stock has nearly doubled in the past 12 months, while Google has risen about 6%. 

But can Baidu continue its winning ways?  Let’s look at the pros and cons of the company:

Pros

Search.  This is the most-used Internet application in China.  And it looks like there continues to be much room for growth.  Consider that Internet consumption among China’s population is still under 35%.

At the same time, Baidu continues to improve its market share of the search market — it’s now about 75.8%.

Monetization. Baidu has a highly scalable business model, i.e., business owners can easily buy and target ads on the system.  In fact, only a small portion of China’s millions of businesses use paid search marketing.

Expansion.  With a massive user base, Baidu is looking for ways to offer more services.  To this end, the company has been aggressively investing in research & development.  There also will likely be more acquisitions. 

One big opportunity is mobile.  For the past couple years, Baidu has been working hard to create new technologies in this category.  For example, about 80% of China’s Android-based phones default to the Baidu search engine.

Cons

Competition.  In 2010, Google left the Chinese market.  Despite this, Baidu still must deal with fierce rivals.  Some of the most threatening include Alibaba and Tencent.  These companies have large customer bases and are looking at the lucrative paid search market.  Even Microsoft (Nasdaq:MSFT) is a player in the Chinese market.

Also, the emergence of social networking companies, like Renren (Nasdaq:RENN), could be a factor.  The fact is that Baidu has been slow to add social features to its platform.

Valuation. Baidu’s shares trade at a nose-bleed level of 95 times earnings.  The problem is that it’s going to be extremely tough to maintain its hefty growth rates.  In other words, there could be a serious correction in the stock if there is even a small stumble.

Pricing.  The ads on Baidu are far from cheap.  While this helps to boost revenue, it could make it more difficult to increase its user base.

Verdict

Baidu is likely to continue to grow at a rapid rate.  Yet the company faces serious threats — perhaps the most important is the competition.  In other words, there is likely to be more pressure on pricing and margins. 

And of course, the valuation is frothy – which is actually the case for many of China’s high-fliers.  For investors, it will probably get tougher to expect standout gains.   As a result, the cons outweigh the pros on Baidu.

Tom Taulli’s latest book is “All About Short Selling” and his Twitter account is @ttaulli.  He does not own a position in any of the stocks named here.


Article printed from InvestorPlace Media, https://investorplace.com/2011/05/baidu-bidushares-3-pros-3-cons/.

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