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Baidu (BIDU) has announced the acquisition of the online video business of internet provider PPStream. Baidu aims to merge the PPStream's online video business with its own video platform iQiyi. The merged business will become China's biggest online video platform. In this article, I want to show how the rising number of Chinese online video viewers will enable Baidu to generate more revenue with its acquisition.

How will Baidu's fundamentals show improvement? The Chinese online video market has been growing over the past few years. According to analysts with iResearch, the advertising price for China's online video sector will increase as more advertisers realize the video websites are able to reach as many as 450 million viewers in total. This trend will make Baidu's new acquisition to improve the company's price multiples.

Financial

Baidu's sales are bound to grow. The online video business enabled Baidu's marketing revenues to record $958.5 million in the first quarter, a 227% increase from the corresponding period in 2012. Baidu's net income was $328.9 million, an 8.5% increase from the corresponding period in 2012.

"We saw healthy financial results in the first quarter of 2013, as we continued to invest in establishing China's leading mobile ecosystem," said Robin Li, Baidu CEO.

In the fourth quarter, Baidu's online video business boosted marketing revenues to $10 billion, a 40.8% increase from the corresponding period in 2011. Net income for the quarter was $448.7 million, a 36.1% increase from the same period in 2011.

"Baidu once again posted solid growth in 2012 amidst challenging macro conditions," said Li. "Similar to the early days of the internet, this is a time of boundless innovation, creativity, and opportunity in our industry. We are at the heart of the internet in China, and we're excited to embrace and lead the next stage of mobile and search-related products and functions."

Baidu Video Business

Baidu has taken many steps in the past to boost its online video business. It established an independent company to provide licensed online video to Chinese internet users. Baidu signed an agreement with Providence Equity Partners to develop an advertising supported online video business. It subsequently acquired a stake in online video platform iQiyi from Providence Equity Partners.

The newly acquired PPStream will operate as a sub-brand of iQiyi. Both are expected to open future markets and reshape China's online video business. "The merger of iQiyi and PPS's online video business is a major step toward consolidation in the industry, and will contribute to the development of China's internet video industry," said Gong Yu, iQiyi CEO.

Baidu needed to acquire PPStream for better marketing value and a wider range of options for advertisers. The acquisition is timely because the Chinese online video market is expanding. Through the acquisition, Baidu will gain a head start over its rivals.

When we take another look at the company's financial statements, we notice that online marketing revenues have shown growth year-on-year. It is clear Baidu's revenues have been improved by the online video business. So it can be said that Baidu is operating efficiently.

With a price to sales ratio of 8.43, Baidu is trading reasonably, even though it has a gross margin of 64.83%. When the new acquisition is consolidated, its sales will increase Baidu's revenue, improve its EPS of 4.48, and make the company debt-free.

Competition

With an EPS of 4.48, compared with 2.11 for Sohu.com (SOHU) and -0.52 for Youku Tudou (YOKU), forward PE of 14.93, compared with 18.22 for Sohu.com and 16.27 for Youku Tudou, Baidu is ahead of its rivals. Last year, Youku bought Tudou to create an industry leader with more than a one-third share of online video market. Baidu's acquisition enables the company to have the market it needs to compete with Youku Tudou. Sohu.com continues to sub-license video content to third parties, offering Internet value-added services. Baidu's acquisition will negate any advantage to Sohu.com.

Conclusion

Based on the performance of Baidu's online marketing division and the growth prospects of the online video business in China, we can say the PPStream acquisition will improve the fundamentals of Baidu. Looking at its light debt, improving revenue, and price multiples in relation to others, we can also say Baidu is a buy for now.

Source: The Bullish Case For Baidu