When it comes to Chinese digital search giant Baidu (NASDAQ:BIDU), you have a huge rift between its fundamentals and the Baidu stock price.
In short, the fundamentals for this company are quite strong, and support a price tag of at least $280, if not higher. But, the optics on this company are poor, the technicals are damaged and BIDU stock currently trades at $210.
Why the huge divide? And when will Baidu stock bounce back to trade where the fundamentals say it should trade?
The huge divide can be attributed to three things:
- Escalating trade war tensions threatening a healthy Chinese economy, and scaring investors away from formerly red-hot Chinese tech stocks.
- A strengthening U.S. dollar diluting the value of BIDU stock.
- Concerns over the company’s long-term growth prospects in AI, and long-term protection against potential Google (Alphabet Inc (NASDAQ:GOOG, NASDAQ:GOOGL) encroachment.
Thus, in order for BIDU stock to bounce back and stage a huge rally back toward $300, you’d need those three things to go away. Trade tensions need to deescalate. The U.S. dollar needs to weaken. And, concerns regarding AI growth and Google competition need to dissipate.
Until those three things happen, BIDU stock will remain depressed, and trade at a big discount to fair value. Thus, the investment implication here is simple: Don’t buy the dip in BIDU stock until there are signs that those three headwinds will fade.
But, when those signs do appear, buy Baidu stock in bulk because the rally could be quite enormous.
Baidu Stock Is WAY Undervalued
Pretty much everyone with a fundamental slant agrees: BIDU stock is way undervalued.
Investment firm Susquehanna just started coverage on BIDU stock. They slapped a $325 price target on the stock, implying 55% upside. They aren’t alone. The average price target on the Street among 31 analysts is $290, almost 40% higher than the current stock price. Meanwhile, the lowest price target on the Street is $250, which still implies nearly 20% upside.
At finbox.io (an online financial portal which uses different valuation methods to value equities), BIDU’s fair value in a 10-year DCF model is $300. According to TipRanks, blogger sentiment on BIDU stock is also exceptionally bullish. And, at Morningstar, analysts think Baidu stock’s fair value is $322.
All of these aggressive price targets make sense. After all, Baidu is the digital search behemoth in China. It is the “Google of China.” Google trades at 25X forward earnings; Baidu trades at 20X forward earnings. If you apply Google’s multiple to Baidu, you would arrive a year-end price target for BIDU stock of $300 (25X on FY19 EPS estimates of $12).
Plus, BIDU is actually growing more quickly than Google. Google is a 20%-plus revenue growth company. Baidu grew revenues by more than 30% last quarter. Meanwhile, operating margins at Baidu are stable, while they are actually falling at Google.
Thus, based on bigger growth and healthier profitability improvements, BIDU actually deserves a larger multiple than Google. In such a world, Susquehanna’s $325 price target starts to make sense.
The Stock Won’t Rebound Until These Headwinds Fade
The unfortunate truth about BIDU stock is that it won’t have its big rally back to $300 until the current headwinds, which are depressing the stock, fade. As mentioned earlier, those headwinds are trade war tensions, a strong U.S. dollar, AI and Google growth and competition concerns.
U.S. President Donald Trump appears to ramping up his tariff onslaught against China, and China doesn’t appear to be willing to concede anytime soon. Although the best path forward is for these two countries to reach an agreement, it doesn’t look like such a deal will be reached anytime soon. As such, trade war tensions are here to stay.
So long as those trade war tensions are here to stay, the U.S. dollar won’t weaken in any meaningful way. For the foreseeable future, the U.S. dollar will continue to be strong against the Chinese yuan.
So long as the trade war tensions linger and the dollar remains strong, already pessimistic investors will take a pessimistic view on Baidu’s AI growth potential. Plus, until Google actually enters the Chinese market, investors will be naturally fearful of forthcoming competition.
Thus, for the foreseeable future, BIDU’s three big headwinds are here to stay. Until those headwinds show signs of clearing up, Baidu stock will remain weak.
Bottom Line on BIDU Stock
BIDU stock is tremendously undervalued relative to its fundamentals. But, the big rebound in the stock won’t ensue until current trade-related headwinds fade. Those headwinds don’t look like they are going to fade anytime soon, so BIDU stock will likely stay weaker for longer.
That being said, investors should be ready to buy the dip once these headwinds do fade. The subsequent rally in Baidu stock could be quite enormous, and it will likely take the stock to $300 and higher in a hurry.
As of this writing, Luke Lango was long BIDU.
