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In this article, I'm going to talk about Renren (NYSE:RENN), China's biggest social network. This analysis is focused on the income statement of the company. There are good and bad points that I will explain below.

First of all, let's start with the positive. There is only one positive mark in the income statement analysis, which is the continuous increase in total revenues from 2010 to 2012. In fact, the total revenues have improved by 130% in three years. This big increase is mainly due to the acquisitions that the company has made during the three last years (56.com and nuomi.com). According to the company corporate website, 56.com is the video-sharing website of Renren and nuomi.com is the leading social commerce site in China.

Afterwards, let's talk about the numerous bad points that I have seen in the income statement. The first negative element I want to point out is the decreasing gross margin profit, which was at 62% in 2012 in comparison with a comfortable 78% in 2012. This decrease can be explained by the fact that the company faces more competition in its core markets. In fact, 56.com has to compete with Youku (NYSE:YOKU); the "YouTube of China, which is much bigger than 56.com. In this article, the author reports that there is an increasing competition between social networks like Sina Weibo (NASDAQ:SINA) and other ones like Renren. Finally, this is the main reason why the gross profit margin is negatively impacted.

The second negative point of this income analysis is the continuous increase of total expenses in the last three years. The total expenses were at 67% of total revenues in 2010, and for the year ended, they improved to 114% of total revenues. Therefore, the total expenses increases faster than the total revenues, pointing out a big problem for the company: it won't be able to make a profit in the near term. In a surprising way, the research and development expenses have decreased by 9% of total expenses between 2010 and 2012, when the others have increased: general and administrative (+ 5%) and sales and marketing (+ 2%). It is certainly not a good point that the general and administrative expenses have increased by 5%, even if it is not a big improvement. Therefore, it means the company needs more money to run the business.

As a result, the operating loss and net loss are huge (52% and 42% respectively, of total revenues in 2012). As you can see, the company really needs to optimize its cost structure if it wants to become profitable some day. Moreover, the company cannot go on to spend money at this speed or it will have a negative impact on its cash position in the near term.

Conclusion

According to Google Finance, Renren has a price-to-book ratio of 1 and a price-to-sales ratio of 6.5. At this price ($ 2.9), the company appears relatively cheap (its all-time top was reached during the following days of the IPO which were approximately $17 and its previous top was at $ 7.33 in April 2012, one month before the Facebook IPO). Even if the company is active in China and has a lot of growth opportunities there (e-commerce, social & mobile games in its platforms), I don't think Renren can be bought for the long term by value investors because there are numerous bad points.

The worst one is that the total expenses are bigger than the total revenues and that they are still increasing from 2011 to 2012. Moreover, the competition in the social network business has increased, as I explained above, and will result in lower margins for the company, which will negatively impact the operating margin. If you want to invest in the social network business, Facebook (NASDAQ:FB) is the best advice I can give you because the company is the biggest social network and has a well-known brand all over the world. For speculative investors, Renren is good to make a quick profit with well-adjusted technical analysis but that is not the goal of this article.

Source: Renren Is Not A Good Option To Invest In: Income Statement Analysis