Seeking Alpha
Profile| Send Message| ()  
Investors in Baidu.com (BIDU) have been taken on wild ride since the stock debuted in early August, 2005. In the little over a year since Baidu launched its IPO, the stock has seen a high of over $120, a drop to mid $40’s and a recovery to current levels over $90.

I wrote last year that Baidu was severely overvalued, especially with the company’s lack of earnings and operating history. Baidu’s outstanding recovery from mid $40’s levels begs a re-analysis of the stock.

I am currently traveling within China. I have asked a variety of individuals in China which search engine was their choice for finding information on the Internet. The overwhelming response was Baidu. Market share statistics seem to confirm the word on the street that Baidu is the current leader in China’s search engine market. This Forbes article quotes a Xinhua news agency figure pegging Baidu’s market share at 62.1% as of September 19th, 2006.

Baidu has seen net earnings jump 9.38x from $1.45 million in 2004 to just under $15.46 million for the 12-month period prior to the company’s most recent June 30th, 2006 quarter. Baidu has an approximate market cap of $3 billion and an approximate trailing P/E of 192.

Yet comparing Baidu to industry leaders in the search engine and online advertising market, Google (GOOG) and Yahoo! (YHOO), paints a different picture altogether.

Google’s net income was $2.07 billion for the 12-month period prior to the company’s most recent June 30th, 2006 quarter. Google has an approximate market cap of $123 billion and an approximate trailing P/E of 59. Yahoo!’s net income was $1.26 billion for the 12-month period prior to the company’s most recent June 30th, 2006 quarter. Yahoo! has an approximate market cap of $35 Billion and an approximate trailing P/E of 30. Using the trailing P/E of Google, Baidu should have an approximate market cap of $912 million. Using the trailing P/E of Yahoo!, Baidu should have an approximate market cap of $464 million.

Baidu’s primary target audience is in a different geographic region with a very different opportunity for growth. A huge speculative risk premium has been attached to Baidu’s opportunity to capture the search attention of China’s future population of Internet users. Current prices for Baidu have pegged investors as believing the risk premium is worth an approximate trailing P/E of 192.

China is definitely an emerging economy with tremendous potential for growth. Comparing Baidu to Google and Yahoo may give investors an idea of Baidu’s potential performance in a well developed economy. This MarketWatch statistic pegs Google’s market share of the U.S. search market at approximately 44%. If you were to double Google’s market share to 88% and likewise double Google’s trailing P/E to 118, it would still be far less than Baidu’s current trailing P/E of 192.

China has a long way to go in developing its Internet user base, censorship and usage policies. I believe the speculative premium attached to Baidu has gone out of hand for a company lacking a lengthy earnings history. If the global economy takes a turn for the worse and the markets sour, I expect that the stock prices of speculative companies like Baidu will be the first to experience a severe downturn.

If Baidu rises above $100 I may take a short position in the stock. A short position in Baidu may make a good hedge against a slowing Chinese economy and sluggish stock market.

BIDU 1-yr chart:

Disclosure: The author does not own any shares in any of the companies mentioned above.

Source: Baidu: Impressive Growth, But Valuation is Out of Hand