When Baidu (BIDU) reports second quarter results next week, Wall Street will be looking for the moon. Earnings are expected to nearly double from .76 to $1.51 while revenues are slated to rise 51% from $119 million to $180 million. The pressure is on, as BIDU’s whisper number has risen to $1.62, so the search company will not only have to blow by the whisper, it will also need to provide favorable third quarter guidance just to keep the share price from imploding.
That is a pretty tall order, when you consider that Google (GOOG) and Amazon (AMZN) both delivered knockout quarters, yet their stock price still got throttled. The fact is, many market participants are known to “buy the rumor” and "sell the news", and in BIDU’s case, they will be selling on good news, bad news and anything in between. It is obvious that extremely good news has already been factored into the share price and then some. With the stock priced to perfection, it becomes more and more difficult to find greater fools to unload upon, and sooner, rather than later, this buying pool will dry up!
Valuation Rich: After nearly a $200 rise in the last two months, the shares are selling at an outrageous multiple of 64 times 2010 estimates of $10.01, or in excess of three times GOOG’s forward PE of only 20. Although the analysts all seem to be still drinking the BIDU Kool-Aid with their undying admiration (one analyst has a $730 price target) it is ironic that their median one year price target of $612 remains 5% below the stock’s current price.
Share price reversal: It is interesting to note that at the beginning of February GOOG’s share price was about $100 higher than BIDU’s ($550 versus $450) but that condition has promptly flip flopped, with BIDU now taking the lead by $100! In 2010, GOOG is expected to earn 25 times that of BIDU ($8.8 billion versus $350 million) yet GOOG’s market cap of $173 billion is only about eight times higher than BIDU’s market cap of $22 billion. On an “apples to apples” basis, there seems to be a definite disconnect here. If GOOG earns 25 times more money, it would be reasonable to expect its market cap to also be 25 times greater. Either GOOG is way undervalued, BIDU is overvalued or a combination of both. Analysts blame the value disparity on BIDU’s superior growth rate, but this explanation can only go so far, before markets go from irrational to rational.
Bottom line: This stock offers more risk than reward at this juncture. With an upside potential of about $50, and downside exposure of about $100 (based on a 50% retracement of its recent $200 gain) it makes no sense to own the shares before Wednesday’s crucial earnings event, because a miss could send the shares down $100, while even great earnings could lop off $50!! Wall Street is looking for the moon on this one, but Pluto might be BIDU’s only savior because “sky-high expectations” are usually a bear's best friend!
Disclosure: Short BIDU