Renren's Huge Potential Upside

Nov.12.13 | About: Renren Inc. (RENN)

Introduction

Renren (NYSE:RENN) is a Chinese social networking company that has seen its share price fall from a high of $16 a share, to $3 a share -- its current share price. Renren operates in 3 business segments, social networking (Renren.com and Nuomi.com), gaming (games.renren.com and Android), and user-produced video (56.com similar to YouTube).

The following is a chart that depicts Renren's slide since its IPO.

Chart data source: Quandl.com

In the following paragraphs I will attempt to explain why Renren is undervalued, and why it could potentially turn into a multibagger for investors.

Valuation

Renren trades at a discount to its future growth potential at a time where any company that is involved in social media demands enormous valuations (a perfect example would be Twitter at 40x sales and 44x P/B). Investors have lost all confidence in Chinese social media companies, and have since moved to greener pastures in American social media companies; however, Chinese social media companies like Renren now offer significant value to potential investors.

The following is a table that compares Renren's P/B ratio to other social media companies:

Company P/B
Renren 1.118
Sohu (NASDAQ:SOHU) 1.787
Sina (NASDAQ:SINA) 4.49
Facebook (NASDAQ:FB) 8.94
LinkedIn (NYSE:LNKD) 10.15
Twitter (NYSE:TWTR) 44
Click to enlarge

Out of all of the major social media companies in both China and the U.S., Renren trades at the lowest price to book ratio -- at only 1.1. If the company were to liquidate, you would break even. Thus, Mr. Market values Renren's future operations at close to nothing (companies trade at book if they are expected to produce NO returns to shareholders).

Why Renren Is Worth More Than Liquidation

  • Renren.com generated $49.6 million in sales, which is a 10.7% Y-O-Y increase in sales from $43.4 million in the year ago quarter.
  • Nuomi.com generated $6.2 million in sales, which represents a 69.4% increase in sales Y-O-Y (Nuomi is still relatively small and therefore has much more room to grow). Furthermore, Baidu (China's dominant search engine) also maintains a large stake in Nuomi -- which represents a huge vote of confidence. Nuomi can potentially become a highly lucrative business for Renren in the trillion dollar e-commerce industry.
  • Major potential growth in the companies Android gaming division.
  • 194 million activated users, which represents a 20% Y-O-Y growth in activated users.
  • Renren has no debt -- an excellent management decision -- and as a result, it must cover all of its expenses through its sales. This being the reason for Renren's flat earnings. However, Renren is currently in the "growth" stage as it reinvests all of its sales back into the business -- which will produce results for shareholders in the long term.

The Rewards Outweigh The Risk

The company primarily generates its revenue from traditional SNS advertising; however, the company has had trouble monetizing the growing mobile user base. This coupled with increased operating expenses to cover expansion into other areas of China's tech market (such as e-commerce with Nuomi) resulted in Renren's flat earnings and falling share price.

However, monetizing mobile is only a temporary setback that Renren will most likely find a solution to. Nevertheless, even if monetizing mobile fails, Renren still has significant operations outside of traditional SNS advertising, in fields like e-commerce (a trillion dollar industry with Nuomi growing well in the double digits), games (Renren Games) and video (56.com). Renren is highly diversified, and the potential for any one of its several businesses to provide significant returns highly outweigh the risk of any one of its other businesses failing. Furthermore, at its current share price, investors have put no confidence into any of Renren's businesses being successful.

In other words, there is very little downside risk (the worst that can happen is you break even), and huge upside potential with any one of Renren's business endeavors.

Conclusion

To conclude, Renren trades at equity, indicating that investors have no confidence in any of the company's businesses. Further, with Nuomi growing at an incredible rate combined with huge growth potential in both mobile and video, Renren becomes a compelling investment with potential rewards that highly outweigh the potential risks. Therefore, I recommend investors buy shares of Renren before major developments in the business send the stock flying.

Disclosure: I am long RENN. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.